Term sheets usually deal with two types of conversion, optional conversion and mandatory conversion. If a deal goes well, and the company is sold or has a large IPO, the conversion lets the investors convert their preferred shares into common stock, and participate in the upside with the founders.

Optional conversion, like it's name implies, gives each investor the option to convert his or her shares to common stock at any time. The conversion ratio should be 1-to-1 ("1:1"), meaning that one share of preferred converts into one share of common if the investor elects his or her option. This would mainly be used in a favorable sale of the company for the investor to get his or her share of the upside along with the founders.

Mandatory conversion requires all of the investors to convert their preferred into common stock if the company does an Initial Public Offering ("IPO") over a certain size. Mandatory conversion provisions also frequently require the preferred to convert into common stock if a certain percentage (usually a majority) of the investors agree to the conversion. Both of these provisions are designed to prevent some of the investors from blocking transactions like IPOs or acquisitions.

The founders should try to get the threshold for IPO size as low as possible so that the company can complete an IPO if it needs to, but expect investor pushback if you ask for a very low threshold. Both investors and founders should be able to agree on a reasonable threshold. If you're having trouble, remind investors that a lower threshold also protects the major investors from having smaller investors hold up an IPO by refusing to convert.