If you and one or more co-founders are starting a corporation in New York, you may hear that it’s important to have a “founders’ agreement.” However, you may not have to draft a separate contract to get the legal coverage you need. Your commitments to your co-founders and your company may already be covered in your bylaws, shareholder agreement, stock purchase agreements, and intellectual property assignments.

This article walks through the elements of what’s often called a “founders’ agreement,” and then describes how to include them in documents you’re already creating.

Terms included in a “founders’ agreement”

“Founders’ agreement” is often used as shorthand for “core commitments between the founders.” These normally include:

• What kind of company will you form, a corporation or LLC? This is addressed in the certificate of incorporation and bylaws for a corporation, and in the articles of organization and operating agreement for an LLC. This article assumes that you’re forming a New York corporation.

• Who gets how many shares of the company, and when will these shares vest? This will be outlined in each founder’s stock purchase agreement.

• How will big decisions get made? The corporation’s bylaws will cover corporate procedures (board and stockholder meetings, voting mechanics, officer roles, etc.). A stockholders’ agreement typically handles founder deadlock, transfer restrictions, buy-sell mechanics, and “reserved matters” requiring supermajority approval.

• What is each founder’s role? Each founder should document the value they’re bringing to the company. Founders’ roles might include creating valuable intellectual property, landing the first large customers, or achieving other financial and operational benchmarks. These activities typically go into a contract that becomes an exhibit to the founder’s stock purchase agreement.

• What protections does the company need? A founder might be required to agree to confidentiality terms and other language designed to minimize risk for the company. A highly paid individual might be asked to agree to a non-compete clause, although the law on whether these are enforceable is evolving, as New York has periodically considered legislation that would significantly limit non-competes.

Whatever terms the founders agree on can be added to the IP and services exhibit to their stock purchase agreement.

Shareholders’ agreement and stock purchase agreement — why you need both as part of your “founders’ agreement”

A shareholders’ ( or stockholders’) agreement is a contract between the shareholders. It covers general topics such as:

• Do the founders have any special rights with regard to board seats or approving certain company decisions?

• If there are 2 founders who each own 50% of the company, what happens if they deadlock on a decision?

• When can a founder or other shareholder transfer shares to someone outside the company?

• When can the company buy back shares from a founder or shareholder, and on what terms?

The stock purchase agreement covers specific details about shares offered to one person, often a founder or early employee. For example:

• How many shares will that individual get, how much do they cost, and when do they vest?

• What process does the shareholder have to follow to transfer the shares to someone outside the company?

• What services will the founder provide in exchange for the shares? These terms often go in an exhibit as described above.

Founders often agree to provide services and pay a small price for their stock. The up-front payment creates a record of how much stock went to which founder. It also lets the founder prove that they bought the stock at a low price, which is helpful at tax time.

In addition, investors want to see that founders are in it for the long haul. When a founder agrees to provide services in exchange for their stock vesting over time, investors know that founder has skin in the game.

In Conclusion

Trying to combine different types of terms into one “founders’ agreement” can be a recipe for confusion, not to mention conflicts with other corporate documents. Instead, focus on key terms and make sure all of these are covered in a coordinated set of agreements:

• A clear allocation of ownership, with a full explanation of the owners’ rights.

• A plan for founder disagreements, breakups, and exits.

• Protection for the company’s intellectual property rights.

• Ways to plan for the future and manage effectively as the company (hopefully) grows.

If you’re looking to put together your first corporate documents, or if you have a set of agreements you’d like to update, please feel free to contact us.