If you have a great idea for a startup and you’ve already found the perfect co-founder, it can be tempting to dive right in and start developing the business.
However, it’s important to take care of some paperwork to formalize the partnership with your startup’s co-founder(s) before you get too far into the business side of things.
To do this, you should sit down and discuss the partnership’s terms, draw up a formal founders’ agreement, and have all founders sign it.
What Is a Founders’ Agreement?
A founders’ agreement is a legal contract that clearly outlines the terms of your business partnership when you found a startup with a co-founder.
Your founders’ agreement will be unique to your business, but all founders’ agreements should cover some basics. These include who is founding the company, what the company structure is, who will be responsible for what, how you will each get compensated, and more (it’s all covered in-depth below).
Why Should You Have a Founders’ Agreement?
Sitting down, discussing, and signing a founders’ agreement with your business partner right at the beginning of your company helps avoid issues and disputes down the road. If there is ever a disagreement in the future, you can refer back to the signed contract to clear it up. Since the contract is legally binding, it can also be used as evidence in court if it ever comes to that.
In this sense, a founders’ agreement protects you when things don’t go as planned or when your co-founder isn’t standing up to their end of the bargain (and vice versa for your co-founder).
Your business partnership contract also protects the company by defining whose intellectual property it is and outlining what will happen if a co-founder decides to leave.
Additionally, a founders’ agreement helps you and your business partner navigate the day-to-day operation of your business, since it clearly states who has what roles and responsibilities. This makes it easier to divide the work when your company is very young and may not have any other employees to delegate tasks to.
What Should Be Included in a Founders’ Agreement?
There is no official, set-in-stone structure for a founders’ agreement contract, and each one will be unique. That being said, there are some basic guidelines for things you should include in your founders’ agreement to cover all your bases.
1) Names of Founders and Startup
Naturally, you’ll want to start your founders’ agreement contract by listing all founders’ names and your startup’s name.
Even if your company doesn’t yet officially exist in a legal sense (i.e., you haven’t incorporated it yet), you should still come up with a name for it right at the beginning — you can always change this later on and update the contract.
2) Startup Description
After the name of your startup and the names of all the co-founders, you should include a brief overview of what your startup plans to do. Since this will evolve and change as you work on your project, you only really need to include a description that’s a few sentences long.
Including this in the contract helps define the goal of the company and the business plan, which gives context to other items in the contract. It’s also an excellent way to ensure that you and your co-founder are on the same page about what direction you want to take your startup in from the beginning.
If you’re not sure how to crunch a description of your new company into a couple of sentences, think about what you would say if someone you met at a networking event were to ask you about what you do. In other words, it can be a sort of elevator pitch description.
3) Ownership Structure
The ownership structure of your startup is what percentage of the company you and your partner each own. This is directly tied to how much equity each of you got at the beginning.
The standard route to go here in a two-person founders’ agreement is 50/50, although there may be some cases that are exceptions.
An even ownership split helps ensure you and your business partner are equally invested in your startup and equally motivated to make it a success. This also makes it easier to divide the work evenly and ensure both of you are pulling your weight when working on the startup project in its very early stages.
4) Roles and Responsibilities
Although you and your co-founder will work closely together in many areas of your business during its early stages, you should also make it clear who is responsible for certain specific tasks in your founders’ agreement.
In general, you should divide roles based on your and your co-founder’s skill sets, which should ideally complement each other.
For example, if you are partnering with a technical co-founder who will be responsible for building your first prototype or MVP, put that into writing in the contract. You can also include specific details, such as the timeframe within which they are to have a working product ready.
If you are the more business and marketing-minded of the two of you, then you should be the one responsible for things like pitching your startup to potential investors and acquiring new customers/users. You might also be responsible for activities like applying to startup accelerators and incubators.
However, you decide to divide up the roles and responsibilities initially, make sure they are clearly covered in the business partnership contract using key terms like “product development,” “operations,” “fundraising,” and “sales,” to name a few of the big ones that apply to most startup founders.
5) Capital Contribution
Once you’ve written all the basics about your business and partnership in your founders’ agreement, it’s time to start laying out some of the financial aspects of the agreement.
To start, you and your partner should agree on how much capital each of you will commit to founding the company. Capital can include cash, property, and other resources required to run the business.
For example, if you are going to put $10,000 of your own money into the startup at the beginning, and your partner is going to provide an office space that they have access to for you to work out of during the first 6 months of the business, write that in the founders’ agreement.
You should also clearly state what will happen when the company needs more capital to keep operating. For instance, will you and your partner both be responsible for contributing an even amount of money from your pockets, or will you have to seek out venture capital to continue?
Everything related to capital contribution will be very unique to your company and your agreement with your partner, but make sure everything you agree on is in the contract. Setting clear expectations here is essential to avoid financial disputes in the future.
6) Expenses and Budget
Another financial area your founders’ agreement should cover is how you will handle expenses and budget. You’re not likely to have an accurate idea of what all your expenses will be at this point, so you should just focus on outlining processes for managing the budget and expenditures.
This means that you should specify if one or all of the founders will be responsible for managing the company’s budget and doing things like approving company spending. You should also define how founders will be able to get reimbursed from the company budget if they pay for something out of their own pockets.
For instance, you might decide that both you and your co-founder will have access to the company bank account, and that you can reimburse yourselves for out-of-pocket expenses from that account by uploading receipts to a shared folder that you both have access to.
For the tax part of your founders’ agreement, you should definitely get the help of a professional accountant or tax professional. This is because taxes are very specific to your local area and your unique company.
Hiring a professional to write this part of your business partnership contract will be well worth it in the long run.
8) Legal Decision-Making
A company’s founders and owners are generally the people responsible for making legal decisions and voting on other major company decisions.
If you go with a traditional 50/50 ownership split for you and your partner, the natural thing to do is give each of you equal legal decision-making and business decision voting rights. In this case, clearly write this out in your founders’ agreement.
You might say something like, “all major business decisions require a 51% majority to pass.” In the case of a 50/50 split, this means you and your partner will have to agree on all major business decisions, which is generally the best option for new startups.
In some cases, you may decide to give some founders more decision-making rights than others. For example, if you split ownership of the company non equally for whatever reason, the person with a higher percentage of ownership will have more influence on legal and business decisions.
9) Equity and Vesting
When you enter into a business partnership with a co-founder, one of the most important things to agree upon is how much equity you will each get.
As with ownership percentages, the easiest way to go for most startups is to give each founder an equal share of equity. If this is what you agreed upon with your co-founder, write down that each of you will get 50% equity in your company in your founders’ agreement.
You should also specify in your founder’s agreement contract when/how this equity will vest.
The standard equity vesting period is four years with a one-year cliff. This means that all co-founders have to work for the startup for one year before receiving their first share of equity. After this, they receive all their equity in even shares over a period of 4 years.
The purpose of having a defined vesting period is to ensure that no co-founders leave the company with equity without putting in work. In short, it rewards the work of co-founders after a set period of time.
In addition to equity and vesting, outline any other compensation founders will receive.
For instance, you and your co-founder will eventually need to receive a salary to cover at least your basic living expenses. You should calculate these, agree on a fair salary for both of you, and put it into your founders’ agreement.
If you agree to work for a certain time frame without any salary or other financial compensation, state what this timeframe is.
Other forms of compensation to lay out in your founders’ agreement include health insurance coverage, transportation allowances, and other employee benefits.
Again, you can set certain milestones at which each form of compensation will be given, which could be dates, financial milestones, or other important achievement markers in the lifetime of your startup.
11) Intellectual Property
Any startup idea you come up with is intellectual property (IP), and your founders’ agreement should specify whose IP your startup idea is.
For example, if you came up with 100% of the business idea and are partnering with a technical co-founder who will build the product, your contract should state that the startup idea is your intellectual property.
On the other hand, if you and your co-founder brainstormed the idea for your startup from zero, it should be both of your IPs.
You might also decide to make the IP belong to the company itself (i.e., the intellectual property of your corporation). In this case, neither you nor your co-founder could walk away with the idea and capitalize on it if your company fails.
12) Removal or Departure of Founders
There’s always a chance that one or more of your company’s founders will eventually want to walk away from the company. Your founders’ agreement must clearly state what will happen if this occurs.
Things to consider for this part of the contract include: will your company have the right to buy back the departing founder’s shares? Will the founder that leaves be prohibited from founding a competing business? You should also cover what will happen if a founder departs against their will (i.e., passes away).
You want to ensure that the person who leaves is fairly compensated for their time at the company, but that your company is protected against anything negative that could happen due to their departure.
This is a good moment to reiterate the importance of having defined equity and vesting in your contract, as it protects you and the company from a co-founder leaving too soon with equity they didn’t work for.
Something else to consider for this section of your founders’ agreement is what will happen if all the founders want to resign. For instance, will the company automatically dissolve?
13) Dissolution or Sale of the Business
Last but not least, your founders’ agreement should stipulate how you will go about dissolving or selling your startup in case you decide to do either at some point in the future.
Make sure to specify what percentage of ownership vote will be required to make such a decision, as, by the time you decide to do this, you will likely have investors with equity and other shareholders who are entitled to a vote.
You should also outline all the appropriate steps and legal actions that will need to be taken in order to complete the dissolution or sale of the business.
Startup Founders’ Agreement Templates
The above ideas of what to include in a founders’ agreement are a great place to start. But, if you’re still having trouble visualizing your founders’ agreement, you can get more ideas by looking at some of the many founders’ agreement templates out there. Here are a few:
- YCombinator’s startup school co-founder agreement template (designed for trial projects, not for actually founding startups)
- UPenn’s founders’ agreement template (focused on legal terms, including ownership and dispute resolution)
- PandaDoc’s template (covers many of the areas mentioned in this article, including equity and vesting)
When you’re drafting your first founders’ agreement, it’s a good idea to get multiple sets of eyes to look over it before you sign and make it official.
If possible, get an initial second opinion from another founder or entrepreneur in your network. They’ll probably be able to tell you if there are any glaring omissions or if you should reconsider certain terms.
Then, you should ideally have a lawyer or another legal professional look over the contract as a last step before signing it. They will be able to spot any legal gaps in the contract and ensure your founders’ agreement protects all founders and the company in the ways it’s intended to.
After you’ve checked and double-checked your agreement, it’s time for you and your co-founder to sign it and proceed with the real work of founding a startup!