Yuval Lazi

The coronavirus crisis, which hit both the Israeli market and markets globally, has been unsettling. It undermined existing collaborations and encouraged the creation of new ones. It weakened the inertia that drove many businesses and employees, and forced numerous entities to reinvent themselves, to initiate and to dare.

To make the entrepreneurial dream a reality, many people prefer to cooperate with other entities in order to increase a new business's prospects of success. This is particularly true during the uncertainty of the coronavirus era and the string of lockdowns imposed on Israelis.

A Company's Most Important Document – Articles of Association

A common method of incorporation and working together toward a shared business goal is establishing a private company. In a company, the entrepreneurs become shareholders. Before embarking on this road and establishing a company, it is important to note an important, constitutive document designed to define future relationships between shareholders. This is a company's articles of association.

A company's articles of association is in effect a contract between the shareholders themselves and between them and the company, which is an independent and separate entity. In the articles of association, the shareholders regulate many activities in a manner that binds them. As opposed to shareholders’ agreements, which only apply to the specific shareholders that are party to them, the articles of association apply to all the company's shareholders, including those who join the company in the future. Courts have even held that the articles of association override any other arrangement between shareholders, to the extent such arrangements are inconsistent with the articles of association.

Arrangements Included in the Articles of Association

Shareholders define the structure of the company's board of directors, as well as which decisions require a special majority of shareholders or directors (e.g., unanimously). These special majority decisions may include investments or expenses that exceed a certain sum, appointments of managers, entering new field of activity, etc.

Additionally, shareholders may provide for mechanisms to protect against the entry of new shareholders. Such mechanisms are designed to preserve the company's DNA and give shareholders the tools to correct a situation in which shareholders who do not share their agenda or vision at the founding of the company later join it. For instance, the shareholders may decide to grant a right of first refusal to the existing shareholders (some or all of them). The implication is that when a shareholder wishes to sell his shares, he must offer his shares for purchase to the shareholders with the right of first refusal before offering them to a third party.

Rights Attached to Shares

A company's articles of association are critically important, especially when there are disputes between shareholders. When this happens, each party clings to an interpretation of the vaguer provisions most convenient to him, in order to take a bite out of the opposing party's rights. Last October, the court held that articles of association must be interpreted strictly (Ariela Vivian Shaked v. Wave Guard Technologies Ltd.). This ruling even further cements the importance of recording the parties' agreements and regulating the rights and protections to which each party is entitled. It is so much so that these agreements may be the material factor in resolving disputes and battles for control between shareholders.

Consequently, we anticipate many companies to incorporate in the coming weeks and months. Drafting proper articles of association, which constitutes a binding agreement between the shareholders and defines their rights and the operation of the company, is crucial. It will help clarify understandings between the shareholders, prevent future disputes and misunderstandings, and avoid obstacles on the road to the business's and the company's success.

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Contact us if you require any assistance or further information.

Sample founders' agreements are available online for download by anyone. Though there are numerous accessible founders' agreements, don’t rely on a document you downloaded from the web when establishing your new venture.

Each startup has unique characteristics only relevant to it. In addition, each startup has its own manner of operation, and founders in different stages of their lives. Thus, there are different issues to include and emphasize in each founders' agreement, in accordance with the various needs of the founders and the plan for the venture’s continuation. For a venture to succeed, the founders' agreement must reflect all of these aspects.

Sample Founders' Agreement?

The internet is full of sample founders' agreements. When googling the phrase "sample founders' agreement," about 5.7 million hits come up. Most of the results are irrelevant, but it certainly appears the internet has a plethora of materials on the topic.

The Founders' Agreement Must Include the Venture’s Specific Characteristics

A sample founders' agreement downloaded from the internet, regardless of whether it is off a legal website or a startup accelerator site, will not reflect the particular and personal needs of the startup you founded.

Like any other field, you should always seek personal customization over something generic. This applies to your founders' agreement as well.

A founders' agreement is a contract that defines the expectations from each of the founders, what each of them contributes and performs vis-à-vis the startup. This agreement essentially forms the framework for defining the responsibilities and the relationships between each of the founders and between the founders and the company. What percentage should each founder receive? How much time must each contribute? How much money must each invest? What is each founder’s role? Failing to draft a detailed, explicit, and customized agreement for a venture opens the door to conflicts and disputes between the founders, and even potential lawsuits later on. Drafting a founders' agreement, preferably at an early stage, is critical for a venture’s security and future.

One complex issue most sample founders' agreements do not cover is the mechanism that provides for what happens when an entrepreneur retires or leaves. This is a critical mechanism, which, unfortunately for most founders, is triggered often over a venture’s life cycle. It is one of the most important mechanisms in a founders' agreement. A sample founders' agreement does not reflect the needs of the founders in such a situation. This can cause uncertainty to the point of sinking the venture. 

Look at a sample founders' agreement from the internet. For the most part, the specific terms you, as an entrepreneur, must fulfill between you and your partners in the venture are not included. Even if they are included, they are not accurate enough to protect you down the line.

If you are in the process of founding a new startup, it is recommended you first draft a founders' agreement personally customized to you and your needs. This is one of the most critical steps in your venture’s life cycle.

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Our firm advises startups throughout the company’s life cycle, including on all matters relevant to founders' agreements. We invite you to contact us should you require assistance in relation to any of the matters outlined above. Feel free to contact us here.