Read the attached Term Sheet Negotiations. case study and compare the two term sheets.

Provide detailed answers to the following question:

1. How would you seek to alter the terms in each term sheet during negotiations with each venture capitalist? Which terms would you seek to alter first? Be specific on what you would ask for.

WALTER KUEMMERLE Term Sheet Negotiations for Trendsetter, Inc. Wendy Borg and Jason Kushdog had some big decisions to make on this muggy June 3, 2000. And probably for the first time since the founding of their company in March 2000 they were entirely uncertain what to do. They were the CEO and COO, respectively and co-Founders of Trendsetter, Inc., a software start-up that would provide innovative warehouse and distribution solutions for clothing retailers. The software would contain a demand forecasting module that was better than anything else in the industry. The entrepreneurs expected that their software would do for fashion retailing what the spreadsheet had done for accounting - not a small feat. The two had been meeting with several venture capital firms (VCs) and had just received offering documents known as term sheets from two of the VCs: Alpha Ventures and Mega Fund (see Exhibits 1 and 2). With neither having any experience in raising capital from venture investors, Borg and Kushdog were not sure where to begin evaluating each proposal-let alone deciding upon which one to take. "This is all very confusing," lamented Kushdog, "and scary as well. We are running out of the seed money that we have both contributed to the venture so we need to act fast." Kushdog estimated that Trendsetter, Inc. had about six more weeks of cash to burn. As the two sat across from each other for lunch at one of the tables of their "corporate dining room" (a local Weston restaurant called Ye Olde Cottage), they knew they should get a grasp of the relative merits of each proposal before they were finished with the day. The question was where to start? Getting It Started: The Background of Trendsetter, Inc. Wendy Borg had many years of experience as a supply chain management consultant and worked with many fashion retailers in the past. It was in this capacity that she and Jason Kushdog had met while she was working on an assignment. Kushdog had been the head buyer for Livin' Large (LL), a bricks-and-mortar retailer of specialty fashion clothing for big and tall people. The two had worked with each other for a number of years and each individually had a desire to start his own business. One night while working late on a project for LL, Kushdog revealed to Borg his desire to start his own company. It just so happens that Borg had been working on an idea for a warehouse and distribution management software program for retailers and Borg suggested to Kushdog that the two start the company together. After thinking it over, Kushdog agreed to work with Borg and the two quit their jobs to start Trendsetter. Dean's Fellow William J. Coughlin (MBA 991 prepared this case under the supervision of Professor Walter Kuemmerle. HES cases are developed solely as the basis for class discussion Cases are not intended to serve as endorsements, sources of primary data, or illustrations of effective or ineffective management. We wish to thank Stephen Hill and Andy Goldfarb (MBA '93). Managing Directors at JAFCO Ventures for their contributions to this case, Copyright 2001 President and Fellows of Harvard College. To order copies or request permission to reproduce materials, call 1-800-545-7685, write Harvard Business School Publishing, Boston, MA 02163, or go to http://www.hbsp.harvard.edu. No part of this publication may be reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in any form or by any means-electronic, mechanical, photocopying, recording, or otherwise without the permission of Harvard Business School Exhibit 1 Alpha Ventures Term Sheet Trendsetter, Inc. June 2000 Summary of Terms for Proposed Private Placement of Series A Convertible Preferred Stock Issuer: Amount and Securities: Aggregate Proceeds: Pre-money Valuation: Escrowed Shares: Issue Price: Dividend: Trendsetter, Inc. a Delaware corporation (the "Company"). 4,761,905 shares of Series A Convertible Preferred Stock (hereafter simply called Series A Preferred) and Escrowed Shares (as described below). $5,000,000 $7,350,000, assuming an employee option reserved pool of 3,000,000 shares and no issuance of Escrowed Shares. In addition to the 4,761,905 shares of Series A Convertible Preferred Stock, 501,253 shares of Series A Preferred are to be held in escrow and not issued unless the Company has not achieved fiscal year 2000 revenues of $500,000 ("Escrowed Shares) The weighted average issue price will be $1.05 if the Escrowed Shares remain in Escrow. If the Escrow Shares are released to the Investors, the Issue price will be $0.95. The holders of Series A Preferred shall be entitled to receive noncumulative dividends in preference to any dividend on the Common Stock in the amount $0.08 on all Series A Preferred outstanding, when and as declared by the Board of Directors. For any other dividend or distributions, Series A Preferred participates with Common Stock on an as-converted basis. June 16, 2000 Wendy Borg, Jason Kushdog Alpha Ventures ("Alpha") and Silicon Valley Partners ("SV") and other mutually agreeable investors ("Investors"). Alpha $2.25 million SV: S2.25 million Other Investors: $0.50 million Initial pay issuance Price plus declared but unpaid dividends on each share of Series A Preferred Stock. Thereafter each share of Series A Preferred Stock and Common Stock share on an as-converted basis until such time as each share of Series A Preferred Stock has received three times the initial pay issuance Price. A merger, reorganization or other transaction in which control of the Company is transferred will be treated as a liquidation. The holders A Preferred shall have the right to convert the Series A Preferred, at any time, into shares of Common Stock. The initial conversion rate shall be 1:1, subject to adjustment as provided below. Anticipated Closing Date (the "Closing"): Founders: Investors: Liquidation: Conversion: Automatic Conversion: Antidilution Provisions: Voting Rights: The Series A Preferred shall be automatically converted into Common Stock, at the then applicable conversion price, (i) in the event that the holders of at least a majority of the outstanding Series A Preferred consent to such conversion or (ii) upon the closing of a firmly underwritten public offering of shares of Common Stock of the Company at a per share price not less than $5.00 per share and for a total offering of not less than $15 million (before deduction of underwriters commissions an expenses) (a "Qualified IPO") The Series A Preferred shall have broad-based weighted average antidilution protection on issuances of shares. No adjustment will be made for the issuance of up to 3,000,000 shares of Common Stock (or any options for Common Stock) to employees, directors or consultants pursuant to board-approved equity incentive plans. Series A Preferred votes on an as-converted basis, but also has class vote as provided by law. Also, approval of at least 60% of Series A Preferred is required for (i) the creation or issuance of any senior or pari passu security; (ii) an increase in the number of authorized shares of Preferred Stock; (iii) any adverse change to the rights, preferences and privileges of the Preferred Stock; (iv) an increase in the size of the Board of Directors; (v) repurchase of Common Stock except upon termination of employment; (vi) repurchase or redemption of any Preferred Stock (except pursuant to redemption provisions of Articles): (vii) any transaction in which control of the Company is transferred; (viii) any amendment to the Bylaws or Articles of Incorporation; (ix) any dividend or distribution on capital stock of the Company; and (x) any sale, pledge, license or transfer of all or substantially all of the Company's assets. Standard representations and warranties from the Company, Each officer, employee and consultant of the Company will have entered into a proprietary information and inventions agreement in a form acceptable to the Investors. The Investors shall have a pro rata right, based on their percentage equity ownership of Preferred Stock, to participate in subsequent equity financings of the Company. If any shareholder of Common stock (or equivalents) wants to sell shares, he must offer them first to the holders of Series A Preferred. If a shareholder of Common or equivalent wants to transfer shares, holders of Series A Preferred have a right to participate on a pro rata basis (based on their percentage ownership of the Series A Preferred ) in the sale. This does not apply to sales in a Qualified IPO or afterward. Representations and Warranties: Nondisclosure and Development Agreements: Right of First Refusal: Co-Sale Rights: Information Rights: Board of Directors: Compensation Committee: So long as any Investor of the Series A Preferred holds 250,000 or more shares, the Company will deliver to each Investor annual, quarterly and monthly financial statements; annual business plan and budget, within 45 days prior to the beginning of the fiscal year; and other information reasonably requested by an Investor. Each Investor shall also be entitled to standard inspection and visitation rights. Five total. The Series A Preferred will be entitled to elect two representatives (Alpha will have the right to nominate one representative of Series A Preferred); the Common Stock will be entitled to elect one representative (Wendy Borg as Founders' representative and CEO); and the Common Stock and Series A Preferred, voting together on an as-converted basis, will be entitled to elect two representatives one outsider recommended by the Founders and acceptable to Investors; and one additional outside director acceptable to the board. In the case the escrowed shares are released, the Investors will have the option of replacing the fifth director (i.e. the outside director acceptable to the board) with a new director chosen jointly by the investors. Will set a reasonable board meeting schedule at the first board meeting. Three total. Two representatives of the Series A Preferred and one outside director. All senior management compensation will be approved by the Compensation Committee. Directors and officers will be entitled to indemnification to the fullest extent permitted by applicable law. Investor counsel to draft closing documents. The Company to pay all Investor legal and administrative costs of the financing, not to exceed $20,000 plus disbursements. (a) Beginning on earlier of three years from closing, or six months after Qualified IPO, two demand registrations upon initiation by holders of at least 30% of outstanding Series A Preferred for aggregate proceeds in excess of $7,500,000. Expenses paid by Company. (b) Unlimited piggyback registration rights subject to pro rata cutback permitted at the underwriter's discretion. Full cutback upon a Qualified IPO; 30% minimum inclusion thereafter. Expenses paid by Company (c) Unlimited S-3 Registrations of at least $750,000 each, with no more than two per year. Expenses paid by Company No future registration rights may be granted without consent of a majority of Investors unless subordinate to Investors' rights. Company to obtain key person life insurance policy on Wendy Borg and Jason Kushdog, in the amount of $2 million each, with Company as beneficiary. Indemnification: Counsel and Expenses: Registration rights: Key Person Insurance: Founders Stock, Options and Vesting: Except as approved by Board, employee option pool to Restriction on Common Stock Transfers: Use of Proceeds: have 48 month vesting with 12-month cliff and linear monthly vesting thereafter. Wendy Borg's and Jason Kushdog's shares vest 25% on purchase, with remainder vesting linearly over a 36 month period with the unvested portion subject to buyback provisions. The Company has the right to repurchase unvested shares at cost in the event of employment termination. The Founders will receive six months additional vesting in the event of a termination without cause, and will also receive accelerated vesting, following a change of control transaction. In addition, the Founders will received six months salary as severance pay in the event of a termination without cause. (a) No transfers allowed prior to vesting. Right of first refusal on vested shares until initial public offering. (c) No transfers or sales permitted during lock-up period of up to 180 days required by underwriters in connection with stock offerings by the Company. The proceeds from the sale of the Series A Preferred will be used for working capital according to the Company's business plan. The Company and the Investors will each indemnify the other for any finder's fees for which either is responsible. The Company agrees to file a qualified Small Business Corporation. This summary of terms is not intended as a legally binding commitment by the Investors, and any obligation on the part of the Investors is subject to the following conditions precedent: Completion of legal and accounting documentation satisfactory to the prospective Investors. Satisfactory completion of due diligence by the prospective Investors. Execution by the Investors of definitive agreements approved by Investor's counsel and executed by the Investors and the Company. Finders: Other: Conditions Precedent to Financing: Alpha Ventures, Inc. Trendsetter, Inc. Nancy Downard, Managing Principal Wendy Borg, President & CEO Post-Closing Capitalization Table Common Stock outstanding: Employee Stock Options - Reserved Pool: Of which granted: 0 Series A Preferred Outstanding Total fully-diluted shares Exhibit 2 Mega Fund Term Sheet Trendsetter, Inc. June 02, 2000 Summary of Terms for Proposed Private Placement of Series A Convertible Preferred Stock Issuer Investors: Current Outstanding: Amount of Investment: Type of Securities: Number of Shares: Price per Share: Rights, Preferences, Privileges and Restrictions of Series A Preferred Trendsetter, Inc., a Delaware corporation ("Company). Mega Fund ("Mega" or "Investors"). 4,500,000 shares of Common Stock ("Common"). In addition, by closing the Company will have reserved for issuance under its stock option plan an aggregate of 2,500,000 shares of Common (the "Reserved Shares"), of which 929,889 shares are subject to previously granted options. $5,000,000 Series A Convertible Participating Preferred Stock ("Series A Preferred" or "Preferred"). 5,000,000 shares of Series A Preferred. $1.00 per share of Series A Preferred ("Series A Purchase Price"). (1) Dividend Provisions: A cumulative dividend on the Series A Preferred will accrue at the rate of ten percent (10%) per annum commencing on the one year anniversary of the issuance of the Series A Preferred (the "Accruing Dividends"). The Accruing Dividends shall cease to accrue when the per share amount of the Accruing Dividends total twenty-five percent (25%) of the Series A Purchase Price. Accruing Dividends shall be payable (a) if, as and when determined by the Board of Directors or (b) upon the liquidation or winding up of the Company. In addition, if a dividend is paid on Series A Preferred or Common, then Series A Preferred shall receive same dividend on an as- converted basis. No dividend will be declared or paid on Common without the consent of the holders of at least 60% of the then outstanding shares of Series A Preferred. (2) Liquidation Preference: In the event of the liquidation or winding up of the Company, the holders of Series A Preferred will be entitled to receive in preference to the holders of Common, an amount per share of Series A Preferred (the "Series A Liquidation Amount") equal to the sum of (a) one-and-one-quarter times the Series A Purchase Price and (b) all declared but unpaid dividends (including the Accruing Dividends) on such share of Series A Preferred. After payment in full of the Series A Liquidation Amount, the remaining amounts available for distribution shall be distributed ratably among all holders of Common and Series A Preferred on an as-if converted basis. A consolidation or merger of the Company into or with any other entity or entities (other than a merger to reincorporate the Company in a different jurisdiction or a merger in which the shares of the Company outstanding immediately prior to the closing of such merger (a) represent or are converted into shares of the surviving entity that represent at least two- thirds of the total number of shares of the surviving entity that are outstanding or are reserved for issuance immediately after the closing of the merger and (b) have the power to elect at least two-thirds of the surviving corporation's directors) or the sale of 50% or more of the Company's assets or the acquisition in a single transaction or series of related transactions by any person or group of 50% or more of the Company's outstanding Common will be deemed to be a liquidation or winding up for purposes of the liquidation preference unless the holders of at least 70% of the then outstanding shares of Series A Preferred, voting together as a single class, elect not to treat any such event as a liquidation, dissolution or winding up. (3) Redemption: The Series A Preferred shall be redeemed at (1) a redemption price that shall equal the sum of (a) the Series A Purchase Price and (b) any declared but unpaid dividends on such shares of Series A Preferred (including the Accruing Dividends) and (l) there shall be no redemption of Series A Preferred upon an acquisition of the Company or upon a Qualified Public Offering (as hereinafter defined). If the Series A Preferred are not redeemed as required then the Investors shall have the right to designate a majority of the directors. (4) Antidilution Provisions: The Series A Preferred shall have weighted average antidilution rights on issuances of shares at a price less than 100% and greater than 50% of the Series A Purchase Price (except for the issuance of the Reserved Shares): provided if new shares are issued at a price less than or equal to 50% of the Series A Purchase Price then the adjustment will be full ratchet; provided, however, that with respect to a Designated Financing, this ratchet adjustment shall be made only if the holder of Series A Preferred invests its Pro Rata Share. A Designated Financing shall be an equity financing of at least $100,000 made on a pro rata basis (based on ownership of Common) to all Investors that is designated by the Board as a Designated Financing. Each holder's Pro Rata Share equals a portion of the Designated Financing equal to the number of shares of Common owned by such holder divided by the number of shares of Common owned by all Investors. (5) Voting Rights: The Series A Preferred will vote together with the holders of Common on an as-if converted basis on all matters presented to the stockholders. In addition to any other required vote, the Series A Preferred will be entitled to vote as a separate series as described under "Protective Provisions" below. (6) Protective Provisions: Consent of the holders of a super- majority of the Series A Preferred will be required for certain corporate actions, which actions and consent thresholds shall be agreed upon by the parties and shall be more specifically set forth in the closing documents. (7) Conversion: Each share of Series A Preferred may be converted by its holder at any time into a number of shares of Common equal to the Series A Purchase Price divided by the conversion price of the Series A Preferred. The conversion price will initially be equal to the Series A Purchase Price and will be subject to adjustment as Information Rights: Registration Rights: specified in paragraph 4 above. (8) Automatic Conversion: The Series A Preferred will be automatically converted into Common, at the then applicable conversion price, in the event of an underwritten public offering of shares of the Common at a public offering price per share that is no less than $20.00 (to be appropriately adjusted for any stock splits or stock dividends) in an offering with aggregate proceeds to the Company of not less than $25,000,000 (a "Qualified Public Offering"). So long as any of the Series A Preferred is outstanding, the Company will deliver to each Investor annual, quarterly and monthly financial statements, annual budgets and other information reasonably requested by an Investor (a) Beginning on earlier of three years from closing, or six months after Qualified IPO, two demand registrations upon initiation by holders of at least 30% of outstanding Series A Preferred for aggregate proceeds in excess of $7,500,000 Expenses paid by Company. (b) Unlimited piggyback registration rights subject to pro rata cutback permitted at the underwriter's discretion. Full cutback upon a Qualified IPO; 30% minimum inclusion thereafter. Expenses paid by Company. (c) Unlimited S-3 Registrations of at least $750,000 each, with no more than two per year. Expenses paid by Company. No future registration rights may be granted without consent of a majority of Investors unless subordinate to Investors' rights. The proceeds from the sale of the Series A Preferred will be used for working capital. The charter will provide that the authorized number of directors is five. The Board arrangements will include one member elected by the Common Stock (Ms. Borg as founders' representative and CEO). two Series A investor elected representatives, one outsider company nominated and one outsider company- nominated and acceptable to all. Use of Proceeds: Board Representation and Meetings Preemptive Rights: Reserved Shares: The Investors will be given preemptive rights to purchase securities issued by the Company (other than Reserved Shares) based on their percentage equity ownership of Preferred Stock. The integrated preemptive rights will be set forth in the Securities Purchase Agreement discussed below. The Reserved Shares will be issued from time to time to directors, officers, employees and consultants of the Company Upon closing of the Offering, the Company will have reserved for issuance under its stock option plan an aggregate of 2,500,000 shares of Common (the "Reserved Shares), of which 929,889 shares are subject to granted options. The Company shall not increase the number of Reserved Shares under the Incentive Plan or any similar stock option plan without the consent of the holders of a majority of the then outstanding Series A Preferred shares. Unless subsequently agreed to the contrary by the holders of 60% of the shares of outstanding Series A Preferred, any issuance of shares in excess of the Reserved Shares will be a dilutive event requiring the issuance of additional shares of Common as provided above in "Antidilution Provisions and will be subject to the Investors' preemptive rights. The Reserved Shares will have 48-month vesting with a 12 month cliff and linear monthly vesting thereafter. Founder's shares vest 25% on closing, with remainder vesting linearly over a 36 month period, and unvested portion subject to buyback provisions. The Company has the right to repurchase unvested shares at cost in the event of employment termination. By closing the founders will have executed an employment agreement mutually agreeable to the founders and the investors. Each officer and employee of the Company with access to proprietary information will have entered into a nondisclosure and developments agreement in a form reasonably acceptable to the Investors. Nondisclosure and Developments Agreement: The Securities Purchase Agreement: The purchase of the Series A Preferred will be made pursuant to a Securities Purchase Agreement drafted by counsel to Mega. Such agreement shall contain, among other things, appropriate representations and warranties of the Company, covenants of the Company reflecting the provisions set forth herein and other typical covenants, and appropriate conditions of closing, including, among other things, qualification of the shares under applicable Blue Sky laws, the filing of a certificate of amendment to the Company's charter to authorize the Series A Preferred, and an opinion of counsel. Until the Securities Purchase Agreement is signed by both the Company and the Investors, there will not exist any binding obligation on the part of either party to consummate the transaction. This Summary of Terms does not constitute a contractual commitment of the Company or the Investors or an obligation of either party to negotiate with the other. The Company will pay up to $20,000 for expenses of Thatcher, Major & Blair, LLP, counsel to the Investors. Expenses: Finders: The Company and the Investors will each indemnify the other for any finder's fees for which either is responsible. Mega Fund, Inc. Trendsetter, Inc. Jessica Upbeat, Managing Principal Wendy Borg, President & CEO Post-Closing Capitalization Table Common Stock outstanding: Employee Stock Options - Reserved Pool: Of which granted: Series A Preferred Outstanding Total fully-diluted shares WALTER KUEMMERLE Term Sheet Negotiations for Trendsetter, Inc. Wendy Borg and Jason Kushdog had some big decisions to make on this muggy June 3, 2000. And probably for the first time since the founding of their company in March 2000 they were entirely uncertain what to do. They were the CEO and COO, respectively and co-Founders of Trendsetter, Inc., a software start-up that would provide innovative warehouse and distribution solutions for clothing retailers. The software would contain a demand forecasting module that was better than anything else in the industry. The entrepreneurs expected that their software would do for fashion retailing what the spreadsheet had done for accounting - not a small feat. The two had been meeting with several venture capital firms (VCs) and had just received offering documents known as term sheets from two of the VCs: Alpha Ventures and Mega Fund (see Exhibits 1 and 2). With neither having any experience in raising capital from venture investors, Borg and Kushdog were not sure where to begin evaluating each proposal-let alone deciding upon which one to take. "This is all very confusing," lamented Kushdog, "and scary as well. We are running out of the seed money that we have both contributed to the venture so we need to act fast." Kushdog estimated that Trendsetter, Inc. had about six more weeks of cash to burn. As the two sat across from each other for lunch at one of the tables of their "corporate dining room" (a local Weston restaurant called Ye Olde Cottage), they knew they should get a grasp of the relative merits of each proposal before they were finished with the day. The question was where to start? Getting It Started: The Background of Trendsetter, Inc. Wendy Borg had many years of experience as a supply chain management consultant and worked with many fashion retailers in the past. It was in this capacity that she and Jason Kushdog had met while she was working on an assignment. Kushdog had been the head buyer for Livin' Large (LL), a bricks-and-mortar retailer of specialty fashion clothing for big and tall people. The two had worked with each other for a number of years and each individually had a desire to start his own business. One night while working late on a project for LL, Kushdog revealed to Borg his desire to start his own company. It just so happens that Borg had been working on an idea for a warehouse and distribution management software program for retailers and Borg suggested to Kushdog that the two start the company together. After thinking it over, Kushdog agreed to work with Borg and the two quit their jobs to start Trendsetter. Dean's Fellow William J. Coughlin (MBA 991 prepared this case under the supervision of Professor Walter Kuemmerle. HES cases are developed solely as the basis for class discussion Cases are not intended to serve as endorsements, sources of primary data, or illustrations of effective or ineffective management. We wish to thank Stephen Hill and Andy Goldfarb (MBA '93). Managing Directors at JAFCO Ventures for their contributions to this case, Copyright 2001 President and Fellows of Harvard College. To order copies or request permission to reproduce materials, call 1-800-545-7685, write Harvard Business School Publishing, Boston, MA 02163, or go to http://www.hbsp.harvard.edu. No part of this publication may be reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in any form or by any means-electronic, mechanical, photocopying, recording, or otherwise without the permission of Harvard Business School Exhibit 1 Alpha Ventures Term Sheet Trendsetter, Inc. June 2000 Summary of Terms for Proposed Private Placement of Series A Convertible Preferred Stock Issuer: Amount and Securities: Aggregate Proceeds: Pre-money Valuation: Escrowed Shares: Issue Price: Dividend: Trendsetter, Inc. a Delaware corporation (the "Company"). 4,761,905 shares of Series A Convertible Preferred Stock (hereafter simply called Series A Preferred) and Escrowed Shares (as described below). $5,000,000 $7,350,000, assuming an employee option reserved pool of 3,000,000 shares and no issuance of Escrowed Shares. In addition to the 4,761,905 shares of Series A Convertible Preferred Stock, 501,253 shares of Series A Preferred are to be held in escrow and not issued unless the Company has not achieved fiscal year 2000 revenues of $500,000 ("Escrowed Shares) The weighted average issue price will be $1.05 if the Escrowed Shares remain in Escrow. If the Escrow Shares are released to the Investors, the Issue price will be $0.95. The holders of Series A Preferred shall be entitled to receive noncumulative dividends in preference to any dividend on the Common Stock in the amount $0.08 on all Series A Preferred outstanding, when and as declared by the Board of Directors. For any other dividend or distributions, Series A Preferred participates with Common Stock on an as-converted basis. June 16, 2000 Wendy Borg, Jason Kushdog Alpha Ventures ("Alpha") and Silicon Valley Partners ("SV") and other mutually agreeable investors ("Investors"). Alpha $2.25 million SV: S2.25 million Other Investors: $0.50 million Initial pay issuance Price plus declared but unpaid dividends on each share of Series A Preferred Stock. Thereafter each share of Series A Preferred Stock and Common Stock share on an as-converted basis until such time as each share of Series A Preferred Stock has received three times the initial pay issuance Price. A merger, reorganization or other transaction in which control of the Company is transferred will be treated as a liquidation. The holders A Preferred shall have the right to convert the Series A Preferred, at any time, into shares of Common Stock. The initial conversion rate shall be 1:1, subject to adjustment as provided below. Anticipated Closing Date (the "Closing"): Founders: Investors: Liquidation: Conversion: Automatic Conversion: Antidilution Provisions: Voting Rights: The Series A Preferred shall be automatically converted into Common Stock, at the then applicable conversion price, (i) in the event that the holders of at least a majority of the outstanding Series A Preferred consent to such conversion or (ii) upon the closing of a firmly underwritten public offering of shares of Common Stock of the Company at a per share price not less than $5.00 per share and for a total offering of not less than $15 million (before deduction of underwriters commissions an expenses) (a "Qualified IPO") The Series A Preferred shall have broad-based weighted average antidilution protection on issuances of shares. No adjustment will be made for the issuance of up to 3,000,000 shares of Common Stock (or any options for Common Stock) to employees, directors or consultants pursuant to board-approved equity incentive plans. Series A Preferred votes on an as-converted basis, but also has class vote as provided by law. Also, approval of at least 60% of Series A Preferred is required for (i) the creation or issuance of any senior or pari passu security; (ii) an increase in the number of authorized shares of Preferred Stock; (iii) any adverse change to the rights, preferences and privileges of the Preferred Stock; (iv) an increase in the size of the Board of Directors; (v) repurchase of Common Stock except upon termination of employment; (vi) repurchase or redemption of any Preferred Stock (except pursuant to redemption provisions of Articles): (vii) any transaction in which control of the Company is transferred; (viii) any amendment to the Bylaws or Articles of Incorporation; (ix) any dividend or distribution on capital stock of the Company; and (x) any sale, pledge, license or transfer of all or substantially all of the Company's assets. Standard representations and warranties from the Company, Each officer, employee and consultant of the Company will have entered into a proprietary information and inventions agreement in a form acceptable to the Investors. The Investors shall have a pro rata right, based on their percentage equity ownership of Preferred Stock, to participate in subsequent equity financings of the Company. If any shareholder of Common stock (or equivalents) wants to sell shares, he must offer them first to the holders of Series A Preferred. If a shareholder of Common or equivalent wants to transfer shares, holders of Series A Preferred have a right to participate on a pro rata basis (based on their percentage ownership of the Series A Preferred ) in the sale. This does not apply to sales in a Qualified IPO or afterward. Representations and Warranties: Nondisclosure and Development Agreements: Right of First Refusal: Co-Sale Rights: Information Rights: Board of Directors: Compensation Committee: So long as any Investor of the Series A Preferred holds 250,000 or more shares, the Company will deliver to each Investor annual, quarterly and monthly financial statements; annual business plan and budget, within 45 days prior to the beginning of the fiscal year; and other information reasonably requested by an Investor. Each Investor shall also be entitled to standard inspection and visitation rights. Five total. The Series A Preferred will be entitled to elect two representatives (Alpha will have the right to nominate one representative of Series A Preferred); the Common Stock will be entitled to elect one representative (Wendy Borg as Founders' representative and CEO); and the Common Stock and Series A Preferred, voting together on an as-converted basis, will be entitled to elect two representatives one outsider recommended by the Founders and acceptable to Investors; and one additional outside director acceptable to the board. In the case the escrowed shares are released, the Investors will have the option of replacing the fifth director (i.e. the outside director acceptable to the board) with a new director chosen jointly by the investors. Will set a reasonable board meeting schedule at the first board meeting. Three total. Two representatives of the Series A Preferred and one outside director. All senior management compensation will be approved by the Compensation Committee. Directors and officers will be entitled to indemnification to the fullest extent permitted by applicable law. Investor counsel to draft closing documents. The Company to pay all Investor legal and administrative costs of the financing, not to exceed $20,000 plus disbursements. (a) Beginning on earlier of three years from closing, or six months after Qualified IPO, two demand registrations upon initiation by holders of at least 30% of outstanding Series A Preferred for aggregate proceeds in excess of $7,500,000. Expenses paid by Company. (b) Unlimited piggyback registration rights subject to pro rata cutback permitted at the underwriter's discretion. Full cutback upon a Qualified IPO; 30% minimum inclusion thereafter. Expenses paid by Company (c) Unlimited S-3 Registrations of at least $750,000 each, with no more than two per year. Expenses paid by Company No future registration rights may be granted without consent of a majority of Investors unless subordinate to Investors' rights. Company to obtain key person life insurance policy on Wendy Borg and Jason Kushdog, in the amount of $2 million each, with Company as beneficiary. Indemnification: Counsel and Expenses: Registration rights: Key Person Insurance: Founders Stock, Options and Vesting: Except as approved by Board, employee option pool to Restriction on Common Stock Transfers: Use of Proceeds: have 48 month vesting with 12-month cliff and linear monthly vesting thereafter. Wendy Borg's and Jason Kushdog's shares vest 25% on purchase, with remainder vesting linearly over a 36 month period with the unvested portion subject to buyback provisions. The Company has the right to repurchase unvested shares at cost in the event of employment termination. The Founders will receive six months additional vesting in the event of a termination without cause, and will also receive accelerated vesting, following a change of control transaction. In addition, the Founders will received six months salary as severance pay in the event of a termination without cause. (a) No transfers allowed prior to vesting. Right of first refusal on vested shares until initial public offering. (c) No transfers or sales permitted during lock-up period of up to 180 days required by underwriters in connection with stock offerings by the Company. The proceeds from the sale of the Series A Preferred will be used for working capital according to the Company's business plan. The Company and the Investors will each indemnify the other for any finder's fees for which either is responsible. The Company agrees to file a qualified Small Business Corporation. This summary of terms is not intended as a legally binding commitment by the Investors, and any obligation on the part of the Investors is subject to the following conditions precedent: Completion of legal and accounting documentation satisfactory to the prospective Investors. Satisfactory completion of due diligence by the prospective Investors. Execution by the Investors of definitive agreements approved by Investor's counsel and executed by the Investors and the Company. Finders: Other: Conditions Precedent to Financing: Alpha Ventures, Inc. Trendsetter, Inc. Nancy Downard, Managing Principal Wendy Borg, President & CEO Post-Closing Capitalization Table Common Stock outstanding: Employee Stock Options - Reserved Pool: Of which granted: 0 Series A Preferred Outstanding Total fully-diluted shares Exhibit 2 Mega Fund Term Sheet Trendsetter, Inc. June 02, 2000 Summary of Terms for Proposed Private Placement of Series A Convertible Preferred Stock Issuer Investors: Current Outstanding: Amount of Investment: Type of Securities: Number of Shares: Price per Share: Rights, Preferences, Privileges and Restrictions of Series A Preferred Trendsetter, Inc., a Delaware corporation ("Company). Mega Fund ("Mega" or "Investors"). 4,500,000 shares of Common Stock ("Common"). In addition, by closing the Company will have reserved for issuance under its stock option plan an aggregate of 2,500,000 shares of Common (the "Reserved Shares"), of which 929,889 shares are subject to previously granted options. $5,000,000 Series A Convertible Participating Preferred Stock ("Series A Preferred" or "Preferred"). 5,000,000 shares of Series A Preferred. $1.00 per share of Series A Preferred ("Series A Purchase Price"). (1) Dividend Provisions: A cumulative dividend on the Series A Preferred will accrue at the rate of ten percent (10%) per annum commencing on the one year anniversary of the issuance of the Series A Preferred (the "Accruing Dividends"). The Accruing Dividends shall cease to accrue when the per share amount of the Accruing Dividends total twenty-five percent (25%) of the Series A Purchase Price. Accruing Dividends shall be payable (a) if, as and when determined by the Board of Directors or (b) upon the liquidation or winding up of the Company. In addition, if a dividend is paid on Series A Preferred or Common, then Series A Preferred shall receive same dividend on an as- converted basis. No dividend will be declared or paid on Common without the consent of the holders of at least 60% of the then outstanding shares of Series A Preferred. (2) Liquidation Preference: In the event of the liquidation or winding up of the Company, the holders of Series A Preferred will be entitled to receive in preference to the holders of Common, an amount per share of Series A Preferred (the "Series A Liquidation Amount") equal to the sum of (a) one-and-one-quarter times the Series A Purchase Price and (b) all declared but unpaid dividends (including the Accruing Dividends) on such share of Series A Preferred. After payment in full of the Series A Liquidation Amount, the remaining amounts available for distribution shall be distributed ratably among all holders of Common and Series A Preferred on an as-if converted basis. A consolidation or merger of the Company into or with any other entity or entities (other than a merger to reincorporate the Company in a different jurisdiction or a merger in which the shares of the Company outstanding immediately prior to the closing of such merger (a) represent or are converted into shares of the surviving entity that represent at least two- thirds of the total number of shares of the surviving entity that are outstanding or are reserved for issuance immediately after the closing of the merger and (b) have the power to elect at least two-thirds of the surviving corporation's directors) or the sale of 50% or more of the Company's assets or the acquisition in a single transaction or series of related transactions by any person or group of 50% or more of the Company's outstanding Common will be deemed to be a liquidation or winding up for purposes of the liquidation preference unless the holders of at least 70% of the then outstanding shares of Series A Preferred, voting together as a single class, elect not to treat any such event as a liquidation, dissolution or winding up. (3) Redemption: The Series A Preferred shall be redeemed at (1) a redemption price that shall equal the sum of (a) the Series A Purchase Price and (b) any declared but unpaid dividends on such shares of Series A Preferred (including the Accruing Dividends) and (l) there shall be no redemption of Series A Preferred upon an acquisition of the Company or upon a Qualified Public Offering (as hereinafter defined). If the Series A Preferred are not redeemed as required then the Investors shall have the right to designate a majority of the directors. (4) Antidilution Provisions: The Series A Preferred shall have weighted average antidilution rights on issuances of shares at a price less than 100% and greater than 50% of the Series A Purchase Price (except for the issuance of the Reserved Shares): provided if new shares are issued at a price less than or equal to 50% of the Series A Purchase Price then the adjustment will be full ratchet; provided, however, that with respect to a Designated Financing, this ratchet adjustment shall be made only if the holder of Series A Preferred invests its Pro Rata Share. A Designated Financing shall be an equity financing of at least $100,000 made on a pro rata basis (based on ownership of Common) to all Investors that is designated by the Board as a Designated Financing. Each holder's Pro Rata Share equals a portion of the Designated Financing equal to the number of shares of Common owned by such holder divided by the number of shares of Common owned by all Investors. (5) Voting Rights: The Series A Preferred will vote together with the holders of Common on an as-if converted basis on all matters presented to the stockholders. In addition to any other required vote, the Series A Preferred will be entitled to vote as a separate series as described under "Protective Provisions" below. (6) Protective Provisions: Consent of the holders of a super- majority of the Series A Preferred will be required for certain corporate actions, which actions and consent thresholds shall be agreed upon by the parties and shall be more specifically set forth in the closing documents. (7) Conversion: Each share of Series A Preferred may be converted by its holder at any time into a number of shares of Common equal to the Series A Purchase Price divided by the conversion price of the Series A Preferred. The conversion price will initially be equal to the Series A Purchase Price and will be subject to adjustment as Information Rights: Registration Rights: specified in paragraph 4 above. (8) Automatic Conversion: The Series A Preferred will be automatically converted into Common, at the then applicable conversion price, in the event of an underwritten public offering of shares of the Common at a public offering price per share that is no less than $20.00 (to be appropriately adjusted for any stock splits or stock dividends) in an offering with aggregate proceeds to the Company of not less than $25,000,000 (a "Qualified Public Offering"). So long as any of the Series A Preferred is outstanding, the Company will deliver to each Investor annual, quarterly and monthly financial statements, annual budgets and other information reasonably requested by an Investor (a) Beginning on earlier of three years from closing, or six months after Qualified IPO, two demand registrations upon initiation by holders of at least 30% of outstanding Series A Preferred for aggregate proceeds in excess of $7,500,000 Expenses paid by Company. (b) Unlimited piggyback registration rights subject to pro rata cutback permitted at the underwriter's discretion. Full cutback upon a Qualified IPO; 30% minimum inclusion thereafter. Expenses paid by Company. (c) Unlimited S-3 Registrations of at least $750,000 each, with no more than two per year. Expenses paid by Company. No future registration rights may be granted without consent of a majority of Investors unless subordinate to Investors' rights. The proceeds from the sale of the Series A Preferred will be used for working capital. The charter will provide that the authorized number of directors is five. The Board arrangements will include one member elected by the Common Stock (Ms. Borg as founders' representative and CEO). two Series A investor elected representatives, one outsider company nominated and one outsider company- nominated and acceptable to all. Use of Proceeds: Board Representation and Meetings Preemptive Rights: Reserved Shares: The Investors will be given preemptive rights to purchase securities issued by the Company (other than Reserved Shares) based on their percentage equity ownership of Preferred Stock. The integrated preemptive rights will be set forth in the Securities Purchase Agreement discussed below. The Reserved Shares will be issued from time to time to directors, officers, employees and consultants of the Company Upon closing of the Offering, the Company will have reserved for issuance under its stock option plan an aggregate of 2,500,000 shares of Common (the "Reserved Shares), of which 929,889 shares are subject to granted options. The Company shall not increase the number of Reserved Shares under the Incentive Plan or any similar stock option plan without the consent of the holders of a majority of the then outstanding Series A Preferred shares. Unless subsequently agreed to the contrary by the holders of 60% of the shares of outstanding Series A Preferred, any issuance of shares in excess of the Reserved Shares will be a dilutive event requiring the issuance of additional shares of Common as provided above in "Antidilution Provisions and will be subject to the Investors' preemptive rights. The Reserved Shares will have 48-month vesting with a 12 month cliff and linear monthly vesting thereafter. Founder's shares vest 25% on closing, with remainder vesting linearly over a 36 month period, and unvested portion subject to buyback provisions. The Company has the right to repurchase unvested shares at cost in the event of employment termination. By closing the founders will have executed an employment agreement mutually agreeable to the founders and the investors. Each officer and employee of the Company with access to proprietary information will have entered into a nondisclosure and developments agreement in a form reasonably acceptable to the Investors. Nondisclosure and Developments Agreement: The Securities Purchase Agreement: The purchase of the Series A Preferred will be made pursuant to a Securities Purchase Agreement drafted by counsel to Mega. Such agreement shall contain, among other things, appropriate representations and warranties of the Company, covenants of the Company reflecting the provisions set forth herein and other typical covenants, and appropriate conditions of closing, including, among other things, qualification of the shares under applicable Blue Sky laws, the filing of a certificate of amendment to the Company's charter to authorize the Series A Preferred, and an opinion of counsel. Until the Securities Purchase Agreement is signed by both the Company and the Investors, there will not exist any binding obligation on the part of either party to consummate the transaction. This Summary of Terms does not constitute a contractual commitment of the Company or the Investors or an obligation of either party to negotiate with the other. The Company will pay up to $20,000 for expenses of Thatcher, Major & Blair, LLP, counsel to the Investors. Expenses: Finders: The Company and the Investors will each indemnify the other for any finder's fees for which either is responsible. Mega Fund, Inc. Trendsetter, Inc. Jessica Upbeat, Managing Principal Wendy Borg, President & CEO Post-Closing Capitalization Table Common Stock outstanding: Employee Stock Options - Reserved Pool: Of which granted: Series A Preferred Outstanding Total fully-diluted shares