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Critical Considerations before Drawing up a Founders’ Agreement


When a group forms to establish a joint venture, the first legal document they should draft is a founders’ agreement. The purpose of this agreement is to define the conditions under which the entrepreneurs will establish a startup together. A founders’ agreement regulates the rights and obligations of the founders inter se and the rights and obligations between them and the company.


Founders’ agreements determine and regulate various types of provisions, commitments, and rights. It is highly recommended not to waive such an agreement. A good agreement may help you avoid conflicts and disputes later on. It is also extremely important to hammer out several issues before embarking on a joint venture and, at the very least, before drafting the founders’ agreement.


Crucial Points


When Should You Sign a Founders’ Agreement?

The question of when to sign a founders’ agreement has no unequivocal answer. One possibility is when you feel that the venture is becoming serious. This can happen at various stages in any venture. When the moment comes, it’s important to know where you are heading and what contingencies you may face.


Share Distributions

When forming a company, each founder receives shares of the company. The quantity of shares will determine each founder’s shareholding ratio and control over the company. Although it is customary for all founders to hold the company in equal shares, sometimes, when one founder’s contribution to the company is less than the others (for example, the founder is only involved in the venture on a part-time basis), then you may decide that fewer shares will be allotted to that founder. Keep in mind that the founders’ holdings are diluted during future investments as a result of share allotments to new investors. As a result, the founders’ shareholding ratios diminish proportionately.


The Right to Appoint Directors

The board of directors sets the company’s strategy and is the most important governing body in the company. The right to appoint a director enables a shareholder to have some control over the company’s management. It is customary to define that every founder will have a right to appoint one director. No less important is setting rules defining when the right to appoint a director is revoked, in order to avoid a situation whereby a founder who leaves the company retains a right to vote on the board of directors.



Another topic the founders’ agreement regulates is the division of roles in the company and the founders’ level of engagement with the company. It is important to decide the division of roles and responsibilities in the company even before establishment. This is to create order and enable the company to function optimally. By agreeing to this in the founders’ agreement, every founder knows his role and his spheres of responsibility.



It is very important to decide every founder’s degree of involvement in the venture’s activities. Sometimes, at the outset of the collaborative work, some of the founders still hold other positions. It is important for the founders to realize that, as soon as they decide to proceed with the venture, they have to decide the extent of involvement expected from each founder. This decision has a major impact on the venture’s success and future investments.


Intellectual Property

In most cases, founders begin working on the venture before establishing the company. Therefore, it is important to add a clause in the founders’ agreement that regulates ownership of intellectual property, whereby the founders covenant that they will transfer all of their intellectual property rights to the company’s ownership immediately upon its establishment. This also has an impact on the future of the company. If it becomes evident later on that a founder that left the company owns some of the company’s intellectual property, this could constitute grounds for a lawsuit and also adversely impact future investments in the company.



If development of the venture depends on funding even before the initial fundraising, for example, to hire professionals to develop the product or to purchase materials, software, and computers, it is advisable to decide whether each founder needs to invest money in the company and, if so, at what volume. It is also important to define the classification of the funds invested in the company. Possible classifications include a shareholder’s loan the company will have to repay in the future or seed money entitling the founder to an additional allotment of shares.


Reverse Vesting

One of the most important topics in a founders’ agreement is regulating the scenario whereby one of the founders decides to leave the company or, alternatively, the founders collectively decide one of them has to leave. The customary practice is to include a “reverse vesting” clause in the founders’ agreement. According to this mechanism, if one of the founders leaves the venture or company, then some (or all) of that founder’s rights in the venture transfer to the other founders, or return to the company. The percentage of rights the exiting founder retains usually depends on the time frame and the scope of his contribution to the venture.


Many consider this mechanism as a fair mechanism that balances between a founder’s right to retain a share of the venture that he helped establish and that provides the other founders with higher percentages of the venture because they are proceeding without the exiting founder (and because they may need to grant shares to a new entrepreneur).This mechanism must specifically address various scenarios, such as what happens if a founder does not achieve the milestones in the venture that were defined for him, or what happens if one of the founders becomes disabled or dies.



During the collaborative work on the venture, the founders gain access to the venture’s ideas, knowledge, and professional secrets. Therefore, it is customary to add a non-compete clause to founders’ agreements. This clause restricts any exiting founder’s use of the venture’s confidential know-how and information and prevents any adverse impact on the venture’s competitive advantage in the market. As a rule, non-compete stipulations are problematic because they infringe on a person’s freedom of occupation. However, the courts recognize this stipulation in particular instances, including when the parties are partners in the venture and have a shared interest in protecting it.


Articles of Association

A company’s articles of association legally bind all of the company’s shareholders. This differs from a founders’ agreement, which is legally binding only on the founders who signed it. Since the founders are the company’s first shareholders, the founders’ agreement can stipulate that the provisions relating to the founders as shareholders will later be included in the company’s articles of association, such as the drag-along right, the preemptive right, or the right of first refusal.


It is important to keep in mind that a founders’ agreement includes many additional provisions that require the expertise of an attorney specializing in high-tech. Every company is unique and complex and the agreement must be tailor-made for it. Although this agreement is legally binding only on the founders, founders should not underestimate its importance. Indeed, founders’ agreements can have an enormous impact on the future of the company and even on its success. 




Barnea Jaffa Lande‘s Corporate Department is at your service for questions regarding founders’ agreements and other related issues.


Adv. Dana Ben Yehuda is an associate in the firm’s Corporate Department