Starting a company or entering into a new partnership? While a handshake or conversation over drinks is a common start, putting it in writing is essential to building a solid foundation. Ask any attorney why, and prepare to be regaled with grizzly tales of agreements gone wrong. Serial entrepreneur Jim Price, in his article “Why I Always Tell Co-Founders To Sign A Prenup,” explains what a thoughtfully structured agreement can do for a business.
As with a marital prenup, negotiating such an agreement disciplines you as partners – at the beginning while you’re good friends and enthralled with your startup – to reason through what should happen if the partnership doesn’t hold together as planned. It’s a healthy thing to do. And if you design your prenup intelligently, you don’t have to anticipate every eventuality; you simply need to set up a thoughtful framework.
While it has become trendy to refer to startup agreements ‘prenups,’ the basic premise remains unchanged. What should be included in this all-important document?
George Khouri, Esq sums it up nicely in a recent article with the recommendation to address what he calls ‘The Big Three: Cash In, Cash Out, and Equity.’
The Big 3: Cash In, Cash Out, and Equity
If you are founding a startup, the three biggest questions you and your co-founders must address are:
- Who is putting the money in, and how do they get their money back?
- Who gets to pull money out, and how much can they pull out, and when?
- How much equity does everyone get, and when do they get it?
Also crucial is planning for failure. It may not be a popular or heartwarming thought when planning a new venture, but it must be discussed. Plan to succeed but prepare for the worst, and make sure all stakeholders are on the same page. How does a partner exit by choice? What is the protocol to oust a partner who isn’t contributing appropriately? Planning for unforeseeable circumstances, such as death or a longterm illness, is also key.
Protecting your ideas, products, and brand is part of protecting the partnership. Depending on the nature of your business and industry, consider the pertinence of non-complete, confidentiality and invention assignment clauses.
It is not possible to plan for every scenario. As even seasoned entrepreneurs understand, you don’t know what you don’t know. In this case, though, it is unimportant. A well-crafted agreement can ensure that partnerships and friendships can remain in tact no matter what business may encounter down the road.
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