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Importance of a founders agreement for startups

Updated: 30 June 2022

A founders agreement is essential for startups. It sets out the responsibilities and roles of all the founders, and protects everyone if things get messy down the track.

It is an exciting time starting a business and it is all too easy not to worry about setting up formal agreements right from the start. This can be a mistake. Although you may think all the founders of your startup are on the same page, it can derail down the track if you do not set out the crucial details clearly in a startup founders agreement.

When setting up your startup it can be hard to foresee anything going wrong. But planning for unforeseeable circumstances makes good business sense. Set out how you will make business decisions, responsibilities, capital contributions and the equity ownership of the business at a bare minimum. This sets clear expectations and minimise any disputes if they arise

Why use a founders agreement over an employment agreement ?

Firstly, unlike an employment agreement, all co-founders sign your startup founders agreement. This means everyone is bound by the same terms and has a clear understanding of the expectations.

Your startup may use a founders agreement instead of drafting individual employment agreements. Why? Because it cuts out the cost of multiple employment agreements.

The roles of your co-founders will change as you test and tweak your business offerings.

What information should you include about roles?

You will need a general idea of each founder’s functions. Further, you will need flexibility so that your founders agreement can allow for changes to their roles based on business needs.

How should your founder's agreement be structured?

Usually, the general duties and responsibilities of each founder are in the body of the agreement while the role descriptions are at the end.

Keep in mind that you will need to customise your founders agreement to meet the needs of your startup.

Tip. A lawyer experienced in working with startups can help you.

In addition, the following gives you an idea of helpful clauses to add to your founders agreement.

1. Duties and responsibilities

The duties and responsibilities of the founders may involve the following:

• Carrying out duties with reasonable care and skill.
• Complying with laws.
• Complying with the direction of management.
• Raising capital.
• Building management teams.
• Exploring market opportunities.

2. Decision making

What's a significant decision?

You can define what a significant decision is in your founders agreement. For example, seeking $1,000,000 in funding or making a decision about logo colours might be significant for you.

Decision-making clauses outline who will make the significant decisions and the consultation process.

3. Resource contributions

Personal savings, business loans or investor capital are all potential sources for resource contributions.

Funding is a major decision for your startup and, because of that, it’s wise to include this clause.

You may want to repay each co-founder their contribution with interest where one co-founder has made a more substantial contribution than the others.

You may also decide to repay any startup loans before making any other profit allocations.

4. Conflict of interest

A conflict of interest may exist where the aims of a co-founder and your startup are incompatible. This is where clearly defining roles and responsibilities is crucial to help prevent this.

So it is important to have a conflict of interest clause in your founders agreement so everyone understands this before they arise. Your conflict of interest clause can require each founder to disclose any potential or existing conflicts of interest.

5. Restraints

You can include a restraint clause to prevent each co-founder from working with or for a competitor either before or after their term with your startup.

Employment restraints are typically from three months to two years.

Any restraints should only protect the legitimate interests of your startup.

6. Confidentiality

Confidentiality clauses stop co-founders from disclosing confidential information about your startup during and after their term.

7. Intellectual property

An intellectual property clause normally states that all intellectual property is the property of your startup.

Logos, trademarks, designs, business plans and source code are all intellectual property.

An intellectual property clause protects your startup should a co-founder leave and wish to make a claim.

8. Mediation

Mediation clauses help you to minimise the escalation of disputes to legal proceedings.

Parties usually share mediation costs equally and the mediation clause outlines the procedure for choosing a mediator.

9. Variation

Variation clauses gives you the flexibility to change the terms of the agreement including the position descriptions.

10. Termination

Termination clauses practically set out what happens when the agreement ends. For example, each co-founder must hand back company property and not divulge confidential information.

Conclusion

It's important to have a clear idea of what matters most to you and your co-founders and include this in your founders agreement.

Tailored employment agreements can take the place of the founders agreement as your startup grows and you have more cash flow.

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I wish you every success in your ventures