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Is it necessary to have a cofounder agreement?

It might be exhilarating to get your start-up idea off the ground immediately and jump straight into building the business after meeting your perfect cofounders. But it is important to pause and take stock to make sure that you do not miss out on anything important before moving forward. It can be tempting to forgo drafting a cofounder agreement especially when you are friends - you trust each other and there are no conflicts, all should be good right?

While this may hold true for some start-ups, it is nonetheless critical to set aside time to discuss the cofounder agreement. Beyond trust and friendship, there are important considerations that you and your cofounders might not have thought about. Things like values and priorities, short-term and long-term goals, working styles and what you aim to get out of this start-up. During your discussion, you might realise that not everyone sees eye-to-eye with one another. Although it might be uncomfortable and even result in conflicts, it is imperative to have an open and honest discussion to establish the common agreement - more so for cofounders who might not know each other very well. By reaffirming rights and liabilities, it helps to save costs and reduce confusion in the future, especially when things turn sour.

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"... why I said cofounders that aren't friends really struggle, is that you can't be focused without good communication" - Sam Altman

Qapita ProTip:

Ensure that goals and visions are aligned among cofounders before launching a start-up.

What is a cofounder agreement?

The cofounder agreement is a legally binding contract that cofounders enter into that governs their business relationships, and ideally be done even before creating an entity. While there are no right or wrong structures for cofounder agreements, Qapita has compiled a checklist of crucial information that must be included.

1. Founders' Information

This is essential in all cofounder agreements. Other than crucial details like the names of cofounders and the entity, this section should also include the roles and responsibilities of all members. Key roles include but not limited to:

  • CEO - responsible for making major corporate decisions and managing overall operations
  • COO - handles operational details and day-to-day administration
  • CTO - oversees current technology and ensures tech strategies align with goals
  • CFO - analyse financial strengths and weaknesses and creates financing strategies
  • CMO - manages marketing strategy and communicate offerings to customers

By writing out the roles and responsibilities clearly, it ensures that all members know what they are supposed to do and clarify any doubts. This helps to ensure that responsibilities are mutually exclusive, collectively exhaustive - increasing the overall efficiency of the company.

2. Confidentiality and Legal Issues

Many start-ups would be compromised if confidential information were to be leaked, hence it is critical to include non-compete and non-disclosure clauses in cofounder agreements. This is to prevent exiting cofounders from potentially becoming a competitor in the future. While this might be a harsh topic to discuss, it should be included for Murphy’s Law’s sake. Additional information to protect start-ups intellectual rights includes patents, trademarks, copyrights etc.

3. Equity Ownership

The ownership structure of a start-up is one of the most important pieces of information not just for investors, but for all members in the company. Oftentimes, it is difficult to decide on how to split equity between cofounders, and many resort to an equal split to avoid conflicts. Although there is no correct answer, it is not always ideal to do a 50/50 split, especially when business decisions have to be made. Rather than emotions, it is wiser to rely on math and logic when deciding on the equity split. This would depend on the founder’s contributions (both financial and non-financial), commitment, domain expertise, reputation and more. Start with x number of shares, and then increase by percentage for each factor covered during the discussion (If the result is an equal split, something is not right). It is important that every founder understands what each person brings to the table and that some might be more important than others. By understanding why there is an unequal split of shares during the discussion and having things explicitly stated, it would help to avoid conflicts and unhappiness.

After coming to a conclusion on the equity split, it is crucial to also include a vesting schedule. Most vesting periods are about three to four years, with monthly or quarterly vesting of shares. This is to ensure that cofounders stay motivated and earn their keep by creating value for the start-up while preventing free-riding. It also minimises situations where someone decides to cash out and leave abruptly, resulting in the remaining team scrambling for a replacement.

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4. Departure or Removal

There are times when difficult decisions have to be made, such as consistent underperformance, or if a cofounder voluntarily departs from the company. Termination clauses can be a thorny topic, but it must be established early so that proper protocols can be followed to minimise grievances. This includes what circumstances lead to removal, what to do when someone wants to leave and what to do with the unvested shares. By now, you should understand the importance of having a cofounder agreement before jump-starting the business. Although cofounder agreements can always be amended as the business expands with more stakeholders, having these discussions early in help to build strong foundations for the future of the company.

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Our Finishing Line - is a quote from Mike Nicholls

"A cofounder team is a lot like a marriage, but without the sex." (... It requires written rules and obligations, commitment and trust among the team, to be successful in the long run.) - Mike Nicholls

Drop us a line and someone at Team Qapita will be more than happy to help you with drafting up a cofounder agreement!

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