Founder’s Agreement – Importance and How to Make It

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Written by BusinessAlligators Support

Support Staff at BusinessAlligators is a team of business experts led by Shilpi Singh Trusted by over 100K readers worldwide.

July 29, 2017

In today’s world where startups have taken such a hike, it becomes necessary for one to know the prerequisite before starting a new business with other people. Whenever anyone starts a new business, they always want to be safe from any future consequences and uncertainty. In order to avoid any dispute among the founding members in future, there is an initial agreement which is required as to what all will be the roles and responsibilities of each individual, who will have the decision making power and what will the profit share, equity/ share distribution etc., Such agreement among the founder member is known as founder’s agreement. Most of the people don’t know about founder agreement but it plays a very crucial role in safeguarding the founder or co-founder(s) at the time of the dispute. It is “A clear agreement between co-founders on a number of key issues that their business might face.” Though it is not a legally binding contract but it is a written agreement (not enforceable by law in the case of Pvt Ltd Company or Limited Company). It will make things easier and will help you know the way forward from your startups.

Reasons and Importance of Making Founder’s Agreement

There are various reasons to have a founder’s agreement. I will state few of those reasons here.

1- The first one is that it helps outline the responsibilities of each member and helps in the decision-making process. For e.g., through this, you can decide who will be the incharge of operations, who will be the incharge of marketing, who gets to take major decisions etc. Based on the strengths and weakness of each individual, responsibilities can be divided.

2- In the founder agreement, it will be required to clearly state the ownership(share/ equity allocation) strategy of the business and how it can evolve over time. This agreement will state the profits from the business concerning the amounts of share each member has contributed towards the company.

3- The third reason is that it helps you come up with a strategy and take action in case any one of the member wants to quit from the start up and start something personally.

4- The fourth reason is that the founder agreement will ensure the intellectual property is safeguarded under your business name and will avoid making mistakes of assigning copyright ownership to an individual.

5- This agreement will help you carry out the future transaction which will affect your business. For e.g. there will be times when new offers will come flooding in, like the material transfer (the transfer of tangible research materials between two organizations) or mergers. At that time you can take advantage of it as it will be mentioned in your founder’s agreement as to what steps need to be taken in such situations.

6- The sixth reason is that in case the company reaches the point where it needs to be shut down because of different reasons, the agreement will have a clear plan and how the company will be dissolved and how can you share proceeds which will be generated because of the dissolution.

7- The last reason for you to have a founder’s agreement is that it helps you have a contingency plan, in case there is any unpredictable situation like death, under performance or severe accident.

The above reasons make a clear case as to why it is important to have a founder’s agreement and what are the things which are generally included in the founder’s agreement.

Related- How to Raise Initial Capital

How to Make a Founder’s Agreement Yourself?

Now that we know why a founder’s agreement is important, let’s focus on how to make one. As it is a legal document, a lot of people will find difficulty in drafting a founder’s agreement.

I will be explaining a step by step procedure as to how you should make a founder’s agreement. There is some previous home work which is required to be done before actually drafting this agreement. All the founder members should sit together and decide what all things do they want in the agreement, there are times when there can be disagreement related to certain issues and therefore it’s better to sit down and resolve it before one actually start drafting the founder’s agreement.

Step 1- Once all the issues have been discussed, the first step in order to make a founder agreement is to find a template. There are various templates which are available online; you can choose anyone of those. You can also make your own by selecting the best parts from each template and then combining them.

Step 2- After you have chosen your template, start filling out the details which are easy and will not require and legal help, like Names, company name, addresses, company address, phone numbers, date of inception, state and country etc. Doing this in advance will save you time and energy.

Step 3- The third step is to write down all the important details like compensation, rules and responsibilities, equity, termination clause etc. As you have already done your home work and have discussed all these details with your partners in advance this will be an easy task. It’s important to discuss all the topics and not shy away, so just be honest, tactful, thoughtful, and collaborative.

Step 4- Now that you have decided everything, you should go visit a lawyer who will help you understand what your founder’s agreement to the lacking. He or she will help you with your template in case it has any loopholes. They will give your agreement a professional touch and will look after all the details which you might have forgotten to mention and it important.

Step 5- Your founder’s agreement will go through many changes, and it is advisable to take help of your friend(s) who are already an entrepreneur. Ask them what kind of hardship, problem or misunderstanding they had faced in working as a co-founder. This way you will get a better understanding of how to handle things in difficult times. After you have made all the changes, bring your founder’s agreement to the lawyer again, they will make your template language into fully fledged legalese.

After this all is left is to get the relevant signatures and your founder’s agreement is ready.

Conclusion- I would say that a Founders’ Agreement is discretionary yet can end up being exceptionally useful if driven by the rationale that it can be basic in producing better comprehension between co-founders. Drafting a founder agreement includes many things like envisioning a venture, sharing interests and aspirations, transactions, trying different things with business-cases for different issues, making projections, and gaining from the past. The most critical part of the agreement is that it sustains, unarguably, an essential working relationship in a founder’s life and therefore is very important for the people who are planning to start their own business.

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