Importance of Founders' Arrangement
When finding a start-up squad, aspiring entrepreneurs
normally turn to trustworthy peers, acquaintances, or family members. There is
implicit confidence in the partnership the other party would put in his
experience and work for the new venture's growth. Such agreements are
generally agreed orally by founders without formal documents. Regardless of the
sort of business organization intended to be formed (limited partnership or a
company), acting without a structured founders' agreement is the single biggest
mistake entrepreneurs may make before beginning business. Imagine a variety of
different scenarios. What's the respective founder's position and
responsibilities? How's the company's equity divided? Who holds the company's
intellectual property rights(IPR)? If there are more than one founders (which
is always the case), what sorts of rights and responsibilities do the founders
share? What happens next funding round? What if a big company decision
disagrees? What opinion prevails? What would this dispute show when seeking
funds from investors? What happens if the creators leave? Such problems are
expected to occur as the company advances, and one can not hope to overcome
those deadlocks over a cup of coffee based on prior verbal understandings. It
is relevant to recognize that even though the co-founder is the best friend,
disagreements will occur over time and if little is done to fix them, the
startup will most likely fail.
Co-founders' rescue deal
The only way to prevent the above is to have a co-founders' deal in effect from the very beginning. Co-founders' agreement is a structured written agreement among co-founders on many-core business management topics. It helps avoid and resolve conflicts arising from founders' disagreements. It specifically describes the respective founders' positions and duties and creates comprehensive management and conflict resolution and mediation structure. Before incorporating any new company, such an arrangement should be formed. It should be drafted so that doubt does not occur. It provides an opportunity for entrepreneurs interested in the venture to have frank discussions about their ambitions and expectations such that there are no disagreements, both technical and personal, as the company expands.
Besides maintaining the smooth running of the company, the co-founders' agreement also acts as an essential document for investors to recognize the founders' inter-see positions and responsibilities. It shows the startup's governance style and plays a critical role in making investors feel.
The co-founders' agreement's substance is focused on the founders' interpretation. Such deals, however, require such traditional clauses. Defining business: It is necessary to identify the business' strategy and purpose, and what aims it intends to accomplish over time. Nature and form of business entity: The arrangement of co-founder should explicitly define the nature and sort of business entity the founders are able to incorporate. When choosing the same, the owners must consider their long-term and short-term business objectives.
Assigning Positions and Responsibilities:
If all members have the same or different business positions, confusion is likely to occur. It is therefore necessary to delegate specific roles and obligations to each creator, based on their expertise. Roles may be categorized into operations, publicity, banking, etc. If each founder knows what he wants, he'll be more effective. Simple demarcation of responsibilities further establishes an oversight structure where it will be easier to define the basic responsibility for a given mission to be undertaken by a given creator.
Founders' agreement should explicitly define the startup's ownership structure. This includes the percentage or amount of shares owned by each founder in the case of a company, or the percentage of initial investment contributed by each founder. That may be dependent on the participation of the investor of the startup or the amount of money spent by him. In the initial stage itself, it is necessary to be transparent about this clause to prevent possible future disputes among founders.
Transfer of shares:
Certain limitations on the transfer of shares by founders are relevant. There may be an idea of a certain-year lock-in cycle under which founders can not move their shares to any third party. This clause should explain what happens if, before the lock-in phase expires, a founder changes his shares. It should also consider whether a founder will pass his shares to third parties. Provisions such as first refusal rights may be implemented to give priority to established promoters in the sale of shares. If a founder leaves the company, the deal should specify how his stock will be handled- will he continue owning the stock or can the company buy back his shares, and at what value? The procedure for issuing new shares should also be set. Until beginning the company, all these problems should be addressed and included in the arrangement to prevent needless disputes later. Facebook's classic illustration. At the early stages when Facebook needed capital and sought to draw investors, Mark Zuckerberg diminished the shareholding of one of his co-founders, Eduardo Saverin. This lead to bitter litigation in The Social Network movie. While the case was ultimately dismissed, Saverin still owns 5 percent equity in the firm.
A decision-making process is an effective method for settling disputes. For starters, if a voting mechanism is introduced, it should be explained if all votes bear equal weight. What happens in a deadlock? Will any of the founder's vote casting? In such a case, will the deadlock be broken by an external member? Company decisions should not justify decision-making by voting. Initial circumstances such as these must be envisaged. If a real eventuality occurs, the promoters would be driven by a fixed process.
The arrangement could specifically set out the compensation scheme — which entrepreneur can get how much and how is the sum determined?
IPR will improve a company's profitability and is a valued commodity. When a business expands, it produces intellectual property to defend. The organization should be given IPRs, not persons. It also keeps business staff with owners. If the organization hires third-party providers to create an IP, the founders should ensure that the IPRs vest with the firm.
Removal of a Founder:
This provision specifies the conditions in which a Founder can be excluded. Some grounds include sexual harassment, misappropriation of funds, and alternative jobs. It should also be made clear what happens to own in case a creator is disqualified.
Non-compete: It should be decided that while part of the company, a creator would not participate in actions that interfere with the company. When a founder chooses to quit, he will not engage in a viable company for a period of years following his departure. In order to be successful, it is necessary to describe the company explicitly in the agreement's initial clauses.
Incorporating a confidentiality clause in the co-founders' agreement allows the founders to secure private business knowledge. Therefore, all other details the organization wishes to secure should be deftly drafted.
This provision prescribes dispute settlement procedures if one exists between members. This means that a significant period of time is not spent in settling the case if the parties can not compromise about the negotiated form of mediation. Arbitration is usually favored for its multiple benefits over the arbitration.
Besides preventing disagreements between owners, a co-founders' agreement is an essential opportunity for investors to gauge the company's management before investing in it. In the absence of such an arrangement, an investor will not be eager to bring his capital into a startup that has no structured management structure accepted by its owners. Thus, a co-founders' agreement also informs clients that the startup has a stable governance structure capable of grappling with problems it could face later. All these points mentioned make it essential for entrepreneurs to have a formal, documented co-founders' agreement before asking investors to finance their company.