Have you developed a detailed founders agreement for your new startup?

Launching a startup is an exciting time. For many, it will be the first time they will have managed their own business.

If this describes you, you probably have an implicit sense of trust with your founding partners, and (hopefully) everything about the project feels “right.”
But no matter what kind of relationship you have with your founders, legal agreements are essential for startups.

Startups Fail Often

According to Investopedia, the failure rate for startups in 2019 was 90%, with less than 30% (on average) making it past the 10-year mark.

Some common reasons for this include:

  • Lack of cash flow
  • Bad marketing
  • Lack of research
  • Bad partnerships
  • Lack of expertise

Your bad partnership or lack of agreement leading to conflict could essentially push your business to failure.

Setting everything up formally from the start won’t prevent a startup from failing, but it can easily help you divert disaster, and protect your holdings — not to mention your reputation.

Important documents such as a founder’s agreement could help you avoid potentially costly mistakes.

What is a founder’s agreement?

A founders’ agreement is simply a legal document, a contract, which binds the founders to a certain set of agreements.

It’s there to cover day-to-day operation topics, as well as determining what should happen in the future.

When everything is set in stone from the get-go, it will help to minimize disagreements down the line, thereby helping all involved, and offering the business the best chance of success.

What should be covered in a founder’s agreement?

The founders’ agreement will initially confirm some basic information, like the company name and important dates

Some other topics you’ll want to tackle are listed as follows. There is no formal structure here — you can choose what you want to include.

Your business law attorney will help you decide what’s most important.

Ownership Structure

The first thing you’ll want to ensure is clear in this agreement is what percentage that each person owns, and how this will relate to any future changes, such as mergers or sales.

Intellectual Property

Your founders’ agreement should outline what is considered intellectual property (IP), how it is valued, and how that will be incorporated into the business in the case of a sale.

Capital and Contributions

What did each person contribute?

Here you’ll want to cover not just cash but property, services, and other types of assets.

Figure out ahead of time how monetary and non-monetary contributions will be valued currently and into the future.

Accounting Details

Your accountant should help you figure out details related to:

  • Expenses
  • Budget
  • Reimbursements
  • Tax and structuring
  • Equity

Management and Responsibilities

Your founders’ agreement should outline your roles in regards to how you will act as management for day-to-day operations.

Consider topics such as:

  • What role does everyone play now, and into the future?
  • How can you make it most efficient?
  • What type of compensation will each person get?
  • What do you do in the case of disagreements?
  • Who will be in charge of approvals?
  • What are the voting thresholds and rights for major decisions?

Non-Compete Clause

Developing a clear agreement about non-competition means that your partners can’t essentially turn into your competition by going out and starting a new, similar venture.

End of Business / Termination

It’s never fun to fire people or close a business, but it can happen. The goal here is to outline the best way of handling this to avoid losses and conflict.

You’ll probably want to include, for instance, how a buyout will work, and how to value various elements of the company in the case of closure or buyout.

How to Create a Founders Agreement

As you move to prepare a draft of the agreement, you’ll want to determine some basic guidelines and agreements.

Put these together in a draft format, and bring this and all necessary paperwork to your legal representative.

Topics may include notes you’ve had on discussions about:

  • Startup equity
  • Compensation and Salary
  • Termination
  • Selling the business
  • Buyouts

Remember that this is not personal. Take time to hash out some hard conversations ahead of time, and then get legal advice and help draft the final (binding) founders’ agreement.

In addition, it’s a good idea to speak with fellow entrepreneurs.

Once you’ve had a legal review and draft you can sign and date it.

Everyone should have an electronic copy of the founders’ agreement, and having a few hard copies stored safely isn’t a bad idea, either.

Can you avoid startup failure?

When it comes to new businesses, and especially if you are new to this game, It’s best to take a realistic view, which means that failure is a real possibility.

If you accept that failure is a possibility from the start, this is a positive thing, because it will help you protect yourself, the business, and your partners.

A business attorney can help to mitigate the pain and develop binding contractual agreements so that you are well-prepared for any type of scenario or conflict.

Your attorney can be an excellent business guide, helping your team:

  • Set clear goals
  • Develop guidelines
  • Manage finances
  • Employ the right people
  • Make decisions about operations
  • Determine when and how to sell your business

Any new business owner should have a trusted attorney on their team from the start. This will ensure that due diligence is followed with respect to ethical, financial, and legal practices.

Call us or schedule an appointment today for more information — we’d be happy to hear from you!

Enjoyed this article? Here are three more to help you:

How to Structure Payments in a Business Purchase
10 Essential Steps for Buying a Business
What You Should Expect in Due Diligence if You Sell Your Company