Starting a new business with partners can be an exciting endeavor. You likely have a great idea, complementary skills, and a shared vision. However, without clear alignment, things can go south quickly.
That’s why every co-founded startup needs a founder agreement – a legal document that outlines the rights and responsibilities of each founder.
A founder agreement helps set expectations, avoid conflicts, and preserve relationships. It provides a roadmap for making decisions, splitting equity, and handling changes down the road.
In this complete guide, we’ll cover everything you need to know about founder agreements:
- Why a founder agreement is so important for your startup
- When you need to create one
- What key sections to include
- Founder agreement templates and examples
- Tips for drafting and finalizing yours
Properly setting up your founder agreement now will save you headaches as your business grows. Let’s dive in.
Why Your Startup Needs a Founder Agreement
Launching a business with multiple founders comes with advantages – more skills, connections, and capital. However, it also introduces complexity around decision-making and equity splits.
Without defined processes, you may encounter problems like:
- Disagreements paralyzing important business decisions
- Confusion over who owns what percentage of the company
- Unclear procedures if a founder wants to leave
- Questions around salaries and distributions
A founder agreement provides a playbook for handling issues objectively. It forces you to have important conversations upfront.
Here are some key benefits of creating one:
Defines Roles and Responsibilities
A founder agreement clearly delineates the roles and responsibilities of each co-founder. This ensures you play to people’s strengths and avoid stepping on toes.
For example, if you have three founders, you may designate one as CEO, one as Head of Product, and one as Head of Marketing.
You can outline the major duties under each role and processes for making hiring decisions. This prevents confusion and power struggles down the line.
Sets Equity Splits
Equity is one of the most sensitive topics for startup founders. Early on, you want to agree on the percentage ownership stake that each founder will receive.
The founder agreement locks this in writing so there are no surprises later. You can also include a vesting schedule outlining how much equity founders earn over time.
Setting equity splits early keeps things fair and minimizes the chance of conflict.
Outlines Decision-Making Processes
With multiple founders, how will you make major business decisions? Based on equity ownership? Unanimous vote? Something else?
The founder agreement documents decision-making processes so you stay aligned as the business grows. For routine choices, you may designate a CEO or management team. For larger strategic moves, you may require unanimous founder approval.
Whatever you decide, write it down clearly to prevent disputes down the road.
Covers Founder Departures
It’s uncommon, but founders may need to leave a startup for personal or professional reasons. Your agreement should outline what happens if a founder leaves, gets terminated, passes away, or becomes disabled.
Typically this involves buying back vested shares at a predetermined price. Having an exit plan prevents legal issues and provides continuity if the worst case occurs.
Finally, a founder agreement offers other protections like non-compete and IP assignment clauses. These prevent founders from taking ideas or leaving to start competitor businesses down the road.
Spelling out rights and requirements provides security for everyone as you scale your company.
When Should You Create a Founder Agreement?
The best practice is to create a founder agreement as early as possible – ideally when first starting the business.
However, it’s never too late to put one together. Any co-founded startup will benefit at any stage.
Here are some scenarios that call for a founder agreement:
At Company Formation
Drafting a founder agreement during initial incorporation is ideal. This aligns everyone from day one before taking investment or generating revenue.
At this stage, no one has “sweat equity” so it’s easier to split things equitably. If you already have a pitch deck or business plan, use those to inform decision-making and equity splits.
Before Receiving Investment
If you don’t create an agreement at inception, be sure to complete one before taking any outside investment.
Investors will ask to see a founder agreement during due diligence. Some may even require having one to move forward.
This ensures your house is in order before taking on capital and new shareholders.
Upon Hiring First Employees
Once you start hiring team members, a founder agreement becomes critical. Employees will want to know how decisions get made and who ultimately calls the shots.
Defining these procedures early on instills confidence in your leadership team.
When Scaling Revenue
As your business model is proven and sales increase, revisit your founder agreement. High growth often changes roles, responsibilities, and equity ownership.
Realign based on who contributed most to growth. An updated agreement reduces politics during rapid expansion.
Before Seeking Acquisition
In the event you decide to sell your startup, buyers will dig into your legal docs including your founder agreement.
Ensure yours is comprehensive and up-to-date well before pursuing an exit. Tidy up any areas that could raise red flags.
What to Include in Your Founder Agreement
Now that you know why you need a founder agreement, let’s cover what to actually put in it.
Here are 10 key sections to include:
1. Founder Information
- Names and contact information of all founders
- Date the agreement takes effect
This identifies who the agreement covers along with when it becomes valid.
2. Company Purpose
- Description of the company business model and objectives
- Founder intentions for the startup
Outline your shared mission and what problem the company aims to solve.
3. Role Definitions
- Job titles and responsibilities for each founder
- Decision-making abilities associated with each role
As discussed earlier, clearly delineate who does what at both the individual level and management team level.
4. Equity Splits
- Percentage and number of shares owned by each founder
- Type of stock issued – common shares, preferred shares, stock options, etc.
- Vesting schedule if applicable
Document the equity stakes of all founders, along with conditions around vesting and earning shares over time.
- Financial – who contributes what cash amounts
- Intellectual – who contributes what core ideas or IP
- Physical – who contributes what equipment, facilities, etc.
- Value of all contributions across founders
Document what each founder contributes to the business, both financially and through sweat equity. This often informs equity splits.
6. Decision Making Process
- Outline procedures for making business decisions
- Which decisions require full founder approval vs. delegated to management
- Rules around voting if unable to reach a unanimous agreement
- Processes for approving major expenses
As discussed earlier, outline exactly how you’ll make important operating and strategic decisions as partners.
7. Salaries and Distributions
- Compensation packages and salaries for each founder
- Conditions and schedule for profit distributions
- Any limits on distributions until certain milestones are met
Establish pay and payment schedules so it’s clear who gets paid when, especially before generating revenue.
8. Departure Procedures
- The process if a founder leaves voluntarily
- The process if a founder is terminated
- The process if a founder passes away or becomes disabled
- Any restrictions around “bad leaver” situations – criminal activity, misconduct, joining a competitor, etc.
Document what happens if the worst case occurs and a founder must exit the business.
9. Non-Compete Clauses
- Limits on founding or joining a competing business after departing
- The time period the non-compete remains in effect
- Geography where the non-compete applies
Reasonable non-competes prevent unfair competition from former founders.
10. IP Assignment
- States all IP and innovations created at the company are property of the business
- Requires founders to assign IP rights to the company
This protects company intellectual property and prevents founders from taking ideas with them if they leave.
Founder Agreement Template
Here is a template for a founder agreement that covers all the key sections startups would need:
Founder Agreement Template
This Founder Agreement (“Agreement”) is made on [Date] by and between:
[Founder 1 Full Name] (“Founder 1”) [Founder 2 Full Name] (“Founder 2”) [Founder 3 Full Name] (“Founder 3”)
For the startup company called [Company Name] (“Company”) located at [Company Address].
The Founders hereby agree to the following terms:
The purpose of the Company is to [Description of Company Business and Objectives].
Founder Roles and Responsibilities
Founder 1: [Title and Responsibilities] Founder 2: [Title and Responsibilities]
Founder 3: [Title and Responsibilities]
The Company authorizes issuance of [100,000] Common Shares. These shares are allocated as follows:
Founder 1: [50,000] Common Shares ([50%]) Founder 2: [30,000] Common Shares ([30%]) Founder 3: [20,000] Common Shares ([20%])
[Outline any vesting schedule here]
The Founders will contribute the following to the Company:
Founder 1: [Description of Financial and Non-Financial Contributions] Founder 2: [Description of Financial and Non-Financial Contributions] Founder 3: [Description of Financial and Non-Financial Contributions]
The following actions require unanimous approval by all Founders:
[Major Decisions Requiring Unanimous Approval]
All other decisions can be approved by [simple majority/CEO/etc.].
Salaries and Distributions
[Outline compensation packages and distribution schedule here]
[Outline what happens if a Founder leaves here]
[Non-compete restrictions on Founders if they leave]
The Founders acknowledge that all IP and innovations created as a result of their work for the Company belong to the Company.
[Signatures of All Founders] [Date of Signing]
How to Create Your Own Founder Agreement
With templates and examples in hand, it’s time to draft your own founder agreement. Here are some tips:
Have Extensive Founder Discussions
Don’t rush the process. Have multiple brainstorming and feedback sessions with fellow founders before drafting.
Align on company purpose, roles, equity splits, decision making and more before putting pen to paper.
Involve a Lawyer
While founder agreements don’t require the same rigor as investor documents, it’s wise to involve a startup lawyer in finalizing yours.
They can ensure you cover all key areas and help customize based on your specific situation.
Make it Thorough but Simple
Don’t overcomplicate your agreement, but don’t leave out important details either. Shoot for simple, clear language covering all major topics.
Leave room for amendments over time as your business evolves.
Set Objective Rules Upfront
During your founder honeymoon period, agree to objective decision-making rules and exit clauses before emotions come into play later.
Approach your agreement as dispassionately as possible.
Make it Legally Binding
While founders are still aligned, take the key step of making the agreement legally binding. This gives it real weight as your business grows.
Agree to mediation and other remedies in the event disputes arise down the road.
Bringing It All Together
Launching a startup with co-founders can be extremely rewarding. But the road to scale isn’t always smooth.
That’s why laying the foundation with a solid founder agreement is so important early on. Like any contract, you hope to never need it, but are glad it’s there if you do.
Be sure to invest the time upfront to clearly align on purpose, equity, roles and other key areas. Get advice from those who have been down the road before.
With a carefully crafted founder agreement, you give your startup its best shot at growth – while preserving your most precious asset, your relationships.
So gather your team, break out the whiteboard, and start hashing out the details. The time is now to set your new venture up for shared success.