Founders Agreements- Questions to be Confronted

By Sanjay Anandaram|26th Jan 2013
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Startups are typically formed when a bunch of friends from either college or work, sometimes both, get together to pursue a shared goal. Of creating, journeying and building. They are all peers with equal shareholding and compensation (in those cases where startups can afford to pay themselves). Everyone, initially, seems to be doing everything but before long, one of the team  members becomes in charge of marketing (isn’t it rare to find people using the word “sales” though that is what they mean?), one takes over  the technology function and the others, if any, do operations. Their business cards tend to identify them as either “Founders” or “Director” and sometimes both.  In more evolved situations, the team tends to identify one of itself as the CEO and the other as CTO and CMO.

But notwithstanding the situation, there are some sticky questions every startup needs to confront, honestly and directly:

-         Who will hold what title and why?

-         Should their compensation, cash and stock, therefore reflect their different responsibilities?

-         What if one or two founders come on board first and start the company and after a few months (but under a year) the others join, should there be differential compensation?

-         How then should compensation be decided?

-         Should all the founders be on the board? Why or why not?

-         Where does the buck finally stop: who carries the final responsibility for any decision?

-         What happens to the equity if one of the founders decides to leave midway? Or, if one of the founders, unfortunately, gets hit by a bus?

-         Should the CEO have the right to fire another co-founder? Should any two co-founders have the right to ask the third co-founder to leave for non-performance?

-         Should a founders’ agreement be drafted?

These are questions that most startup founders tend to shy away from. They rise to the fore only when the company starts growing and/ or when investors come on board. It is a good idea to air these questions and spend time answering them. This session is best done earlier than later and ideally before investors come on board. Investors form their own opinions on who all are the long term assets and who are the long term liabilities to the company and will then ensure that these questions get answered. Additionally, when investors come on board, they will define the number of board seats for management. So if there are 3 founders and 2 seats on the board, one of the founders is going to be feel terrible particularly if she was already on the board before the investors came in.

Complications can naturally arise if say, two founders are related to each other; Or, if say one of the related founders has to report to a third founder and both of them report to the founder-CEO; Investors tend to be extra careful of situations where founding team members are all related due to fair concerns about governance that relate to say, objective performance appraisals, consequent action and perception . How will the rest of the company perceive the matter of a CEO who gives a salary hike to a founder subordinate who happens to be related?

Many years ago, I was sitting in the office of a veteran legendary VC in San Francisco. A team of 4 was present and the CEO was presenting. About 10 minutes into the presentation, this VC looks at the other three silent founders and asks them “Why did you elect him to be your CEO?” You could have, literally, heard a pin drop! They hadn’t come prepared for this question and they stuttered and fumbled through their answers. For all practical purposes, for good or for bad, the meeting was over as this VC laid great store by team chemistry, attitude and drive.

Shouldn’t all founders ask this and other questions? Before others have to ask them? Or, worse, assume the reasons for decisions that may or not be accurate? Remember it is YOUR startup and it is only fair that all the tough questions be asked and answered by you to your satisfaction. It is only then that the outside world can get convincing and honest answers. Outsourcing these answers to others, especially investors, isn’t a good idea!

What do you think?

Read more articles from Sanjay Anandaram here. And if you liked this article, these might also pique your interest:

Which co-founder takes the spotlight?

Top 5 Uncomfortable Questions to as your co-founder

Want to make your startup journey smooth? YS Education brings a comprehensive Funding Course, where you also get a chance to pitch your business plan to top investors. Click here to know more.

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