A founder’s agreement (also known as a shareholder agreement) has the primary objective of protecting the interests of each individual member.
Therefore, it defines the role and expectation of each founding member clearly.
In most cases, a founders’ agreement is recommended to be drafted in the initial stages of a business because it provides clarity and helps visualize long-term goals.
You cannot ignore this really important business document because it will help you avoid future ambiguities.
Are you still not convinced?
You’ll see the benefits of a founders’ agreement in the next section!
What Is a Founders’ Agreement?
It makes sense to write a founders’ agreement for many reasons. Here are a few:
- Definition of the Type of Business Entity- The founders’ agreement will specify the nature and type of entity the co-founders will establish. As a result, it clearly sets the course the co-founders will follow in the future.
- This agreement outlines the vision and mission of the entity. It can also help you visualize your long-term and short-term goals over a period of time.
- Establishing Roles and Responsibilities- The co-founders cannot function properly without an understanding of their respective roles. To avoid conflicts with so many overlapping responsibilities, you need to put something in writing. As such, it is important to determine the roles and responsibilities of the co-founders, and this can only be achieved if the founders are in agreement.
- Structure of Ownership- In the founders’ agreement, the structure of ownership will be outlined. Typically, this is the amount and percentage of equity shares that a co-founder contributed.
- A proper decision-making process can help avoid conflicts between co-founders. Conflicts between founders cannot be avoided, but they can often be avoided. What can be done? The founders’ agreement acts as the umpire here.
- This agreement clearly states the penalty for each cofounder who violates the terms. You can thus keep everything under control.
Founders’ Agreements: What Should Be Included?
A Founders’ Agreement cannot be predetermined by a thumb rule.
According to their mutual understanding, the content of the Founders’ Agreement should reflect that.
There are, however, some crucial sections that must be stated in all founders’ agreements.
Here are a few things to include in a Founders’ Agreement:
Business Definition
You should first dedicate a space to identifying what your business is about. Set forth the vision and mission of the business and what it seeks to achieve over a period of time.
Business Entity Type and Nature
You must describe your nature and type of business entity after you have defined what you are. Regarding your business, be aware of both long-term and short-term goals.
Defining Roles and Responsibilities
Founders’ agreements are inextricably linked to this section. Because the founders have so many roles overlapping, writing this part can be a real challenge. You’ll get a clearer understanding of each founder when you finish this part.
We recommend that you decide the roles of each founder according to their experience and expertise. Depending on the role, you can divide it into operations, marketing, finance, etc.
Also, if every founder knows what is expected of him/her, now everything is clear, so they will work more efficiently.
Structure of ownership
A founders’ agreement must spell out the ownership structure of the company. As part of this, it includes the number of equity shares or percentage of a founder’s initial contribution.
Share transfer
When it comes to the transfer of shares by founders in a business, it is very important to set some clear rules. Founders should mutually agree upon a lock-in period of certain years in which no third parties can acquire their shares.
This provision should also outline what happens if a founder transfers his shares before the lock-in period ends. It should also mention if the founder is able to transfer his shares.
Decisiveness
Founders’ agreements should outline a decision-making procedure that helps resolve disputes. Therefore, this section can serve as a guide to providing answers to questions such as how the founders vote when deadlocked, will any of the founders have a casting vote?
The removal of a founder
In this section of the founder’s agreement, the circumstances under which a founder may be removed from the company are outlined. This action can be taken because of sexual harassment, misappropriation of funds, and switching jobs.
The bottom line
People, there you go!
Our blog is sure to change your mindset if you’re someone running a company without clearly defining roles, responsibilities, and other important things with the cofounders.
It was reported by Noam Wasserman in his book The Founder’s Dilemmas that about 65% of startups fail because of conflicts between co-founders.