Importance and Advantages of having Co-Founder Agreement

importance and advantages of having co-founder agreement

Importance and Advantages of having Co-Founder Agreement

Importance and advantages of having co-founder agreement- Before creating an entity, it is essential for a company’s founder to have an agreement among themselves. Co-Founder Agreement is said to be the product of conversations that usually takes place among all the company’s founders at the early stage of formation rather than later in the life of the company.

It is a small yet crucial piece of paper which states about the responsibilities and roles, ownership and initial investments made by each founders of the company.

The motive of creating a Co-founder agreement is to have an open discussion about the fears, aspirations of individuals by assigning each of them specific responsibilities to avoid ambiguity, which may arise in the future that is why it is preferable to create it at the time of incorporation.

Essentials of a Valid Co-Founder Agreement

These are the essential elements that are that must be included in a Co-Founder Agreement:

  1. Allocation of ownership: Co-founder Agreement mentions about the percentage of each founder mentioning monetary investment, experience, network and IPRs. It specifies the number of shares owned by each of the founders, total amount of capital invested by a co-founder and division of profits between them.
  2. Roles and Time Commitments: In order to prevent ambiguity and misunderstandings, it is strongly recommended to clearly define each founder’s role, what are the responsibilities being undertaken by him/her and how many hours they are expected to put in.
  3. Confidentiality and Non-Compete clause: As a founder, it is important to have access to confidential information. The team should trust each other. There should be a clear understanding on the activities which are prohibited and may create conflict with the objectives of the company.

It is to be noted that Section 27 of the Indian Contract Act, 1872 provides that every Agreement by which anyone is restraining from exercising a lawful profession, trade or Business of any kind, is to that extent considered void.

4.Restriction on transfer on Shares: Another important aspect to be taken into consideration is the right and restrictions on the founders to transfer their shares in the company. The Agreement shall have a mechanism to deal with the situation where the co-founder wants to exit the company before the expiry of his lock-in period.

  1. Employment: Usually, the co-founders are required to be in the whole-time employment of a company. It should clear stated about the terms like employment, compensation, designation and benefits to be paid to each of them.
  2. Intellectual Property assignment: Intellectual property (IP) is everything that could make a venture unique in its characteristics. So the first thing is to determine what your Intellectual property is. What sets you apart from the competitors? It may contain blog posts, design, application ideas or something very specific to what all you do.
  3. Dispute Resolution: It shall lay down the rights of the company as well as co-founders to terminate the Agreement. The Agreement should specifically provide a clear mechanism for resolution of disputes between the company and co-founders with respect to any matter mentioned in the Agreement that is Arbitration, Mediation and Conciliation.
  4. Legal decision making and approval Rights: It is important to choose that who shall be allowed to vote on company decision. It is on the discretion of that company to give rights on the basis of member’s percentage interest or by giving limited voting rights to specific group of people. It is dependent to company to give veto rights but no voting rights; supermajority votes; or even managerial rights but no voting rights.

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Importance and Advantages of Co-founder Agreement

A Co-Founder Agreement is a baseline for how your co-founder relationship will work in the future, how your company is made, and what each owner brings to the Business.

This step is totally on the discretion of the founder that whether they want to create a document of this kind or not. A founder agreement, like all other agreements, is there to help not only to navigate company’s day-to day operations but also to come to aid when things don’t go as planned. So it is highly recommended not to skip this step.

Usually, when we look for a team for start-up, young entrepreneurs generally turned into trusted friends, family members or colleagues. This can be considered as the biggest mistake among the entrepreneurs can commit before starting their business operations. There can be various numbers of situations which can arise like Roles and Responsibilities of the respective founder, equity of the company, financing, whose decision shall prevail in case of any conflict over a major business decision, what happens if any founder leaves. When such misunderstanding arises before founders, you may regret having an agreement.

Few Advantages of having a Co-founder Agreement

The contents of the co-founder agreement are based on the understanding arrived by the founders. However, certain advantages can give the better clarity about forming a Co-founder Agreement. These are as follows:

  1. Defining the Business: it is important to define the vision and mission of the Business so that targets can be achieved over a period of time.
  2. Assigning roles and responsibilities: it can create chaos in the business entity if all the co-founders have the same or overlapping roles in the Business. For example, Roles are divided into marketing, operations, finance, and so on. If each one of them knows what is expected from them then they can be more efficient. Clear demarcation of roles develops a system of accountability.
  3. Protects minority owners.
  4. Provide signals to investors
  5. Provides for the structure in order to resolve disputes among founders
  6. Provides clarity if and when a partner wants to enter or exit the Business

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