Rockstart Law School: The Founders’ Agreement, as told in GIFs
Setting up and running a startup requires knowledge of the industry that you are in. It also requires knowledge about finance, marketing, customer service, management, and legal matters. There is no way of knowing everything you need to know, which is why the network that supports you becomes a valuable tool and asset.
Rockstart Law School is a combination of blog posts by outside contributors and vlog posts by Rockstart’s very own legal counsels Els Metten and Lisette Schuilwerve. They will show the roadmap to the legal side of starting and running a startup company. Rockstart Law School focuses on the Dutch law system as an example and is meant as a resource and gives you lessons learned and suggestions, but is not meant to be used in the place of legal advice. The mechanics of these topics tend to be similar from country to country, but the details could be different. Always consult a lawyer in the country where you are operating. We hope these series of posts will give you a greater understanding of the legal needs and points of attention that you may encounter during your startup journey.
The concept of founders’ agreement is not clearly defined, but in practice this term normally refers to the one that co-founders enter into before getting their venture off the ground. It normally happens before a legal entity for the startup is set up.
Is it really necessary to make such agreement in writing at this stage? No.
Is it wise to nevertheless do so? Yes.
Safeguarding the viability of the startup requires open discussions around the key issues and clear agreements around them. This post addresses the founders’ agreement on a high level, gives a pragmatic basis to it, and provides a bunch of useful tips on the fundamentals that should be covered.
It is mandatory to nail down how the ownership (or the shares of a limited liability company) of the enterprise will be allocated among the founders. There are different ways to accomplish this. For instance, the founders may simply split the equity equally. In that case, obviously, if there are four founders, each will hold an equity stake of 25 percent from the start. This may seem the easiest way, but it’s not always the fairest one.
Another common method for splitting ownership is a bit more complicated, but works fine as well. This split involves a consideration of the efforts or capital that will be contributed by the founders. For instance, founder A provides the startup not only with his 24/7 willingness to work hard, but also with his brilliant ideas and €50,000 of initial capital, whereas founder B’s contribution will be limited to a 40-hour working week. In this case, it is rather common (although not imperative) that a greater proportion of shares is granted to founder A.
Make clear agreements that determine the mandatory transfer of ownership by founders who will appear to be early leavers. It is advisable to agree upon a so-called vesting schedule: only if a founder remains actively involved for a certain period, will they be fully entitled to their part of ownership. If not, the early leaver will be obliged to transfer their ownership (fully or partially) to the remaining parties pro rata.
Roles and responsibilities
Make sure you have a clear understanding of the roles and responsibilities in the founding team. Too many startups don’t do this, which creates a chaos that doesn’t help in the early days. Of course startups are not corporates, and broad and vague role descriptions are inevitable. However, as a starting point, there should be a clear designation of the founders for certain well-defined tasks. Having multiple CEOs is not a good idea.
Pay attention to the process of how decisions are made, especially the material ones, such as the issuance of shares, firing of directors, or assumption of financial liability. Will all founders have an equal vote? Will a decision require a unanimous vote? Will a qualified majority be wise? Just make a list and decide on everything; if necessary, call your lawyer to double-check if it works.
Startups in general and tech ones in particular should never ignore the fundamental topic of intellectual property (e.g. your startup’s logo, domain, code, designs, know-how, etc.). Obviously, the startup’s IP should be owned by the startup, or at least licensed, as this determines the value of a startup to a large extent. Make sure this IP ownership is safeguarded (for instance through an IP transfer to the BV). We have seen too many founders assuming the IP was owned by them or their startup whereas the developers they once hired were the actual owners.
Startups usually require funding, and funding usually brings new investors on board. Be prepared for fundraising, and discuss in advance the activities to be made to find a suitable investor, the amount required, the use of funds and the dilution you would be ready to accept. Also, it may help to agree upon a certain founders’ protection you will demand from investors (for instance, in regards to the voting power or financial rights).
Good to know: once an investor is on board, they will most likely demand a more advanced shareholders’ agreement, which will then replace the founders’ agreement and will include terms like non-compete, full-time commitment, tag along, drag along, anti-dilution, etc. We will discuss these in a future Rockstart Law School blog post.
The final note: Don’t exaggerate and have no fear
The founders’ agreement should not at all be an extensive document, and there really is no need to make things too difficult. A two-pager briefly but clearly addressing the critical subjects will do. Also, have no fear for the applicable laws and regulations. Of course, these are relevant. But don’t worry too much about it at this point, no matter what other lawyers tell you. ☺
Marnix and Antony are lawyers at LXA Startup Lawyers, trusted advisor to (1) investors with an early-stage focus and (2) qualifying startups. The LXA team (consisting of corporate and IP lawyers) specializes in handling financing transactions and making startups investment ready. Check The Engine for concrete info on their services.
Image credit: Giphy.com.
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