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Why a founder’s agreement is crucial for startups

On Behalf of | May 8, 2019 | Uncategorized |

Entrepreneurs are go-getter’s who are eager to leave their mark on the world. If you are discussing starting a venture with one or more partners, you are all probably chomping at the bit to get the operation out in the marketplace.

However, before you dive head first into your operations, it’s a good idea to get your founders’ agreement down as a formalized legal document. This step is crucial in the formation of the business and needs to be done carefully to help mitigate disputes that may crop up down the road.

Importance of formalizing agreements

Some entrepreneurs may have been attracted to starting their own company because they want to do things their own way. However, in the modern world, it’s rare that organizations as complicated as a growing business will be able to maintain their integrity off a handshake. As your business grows, more and more tough decisions will have to take place.

Early on, you may feel confident that you and your business partners see eye-to-eye on your business’s mission and strategy, but this may change quickly, and you will want to have a previous agreement in place that covers contentious issues.

Ownership Structure

The way your business is co-owned is an important detail that can’t be overlooked. If you are going to divide company ownership by shares, you should have agreements in place about these shares that will ensure no one acts egregiously.

One provision that is common for division of shares, is a vesting schedule. A vesting schedule delays partners from attaining all their shares at the beginning. Instead, the shares that they are entitled to will transfer to them at set dates. This ensures that someone doesn’t work at the start up for three weeks, quit and then shows up years later when the company is doing well claiming that they own 33% of the company.

The ownership structure of the agreement can also dictate what responsibilities will be given to which founders.

Changing Ownership

There are many reasons for new players to come and go from your business. Maybe one of the original founders has decided that the company is no longer a good fit and it would be better for all parties for him to sever ties. A common provision for these cases could include a right to first refusal, which states that if a founder wants to sell off his shares of the business, he must first offer to sell these shares back to the original founders before offering them to another individual.

Although you may not have any plans for seeking outside investment in the moment, it is a good idea to go over the possibility of having an investor stick his hand in the pie in the future. This way you can discuss how shares might one day be diluted without catching anyone by surprise.

Decision making and disputes

An initial agreement, though helpful, can never cover all the tough decisions that will be made regarding a business. Shifting landscapes and interests will inevitably cause disagreements. Having a formalized procedure to work through these disagreements can help mitigate logjam as well as any hard feelings about the direction of the company down the road. You may also want to dictate different processes for different kinds of decisions, such as day-to-day operations versus big picture strategy.

Another provision that the decision-making section of an agreement may cover may be the procedures a business will take in case one of the founding members is not delivering on his end of the business.

Protect yourself and your company

Although you may already have a mission statement and an informal agreement about everyone’s role and stake in the company, formalizing these agreements before your company begins operations is crucial.

The deep sea of the startup world is full of hazardous and dangerous waters. It is in your best interest to ensure that your business is as set up as possible to prevent internal pressure from capsizing your company by drafting a sound legal agreement between founders.