Founders Agreement

Founders Agreement: complete guide

Introduction

Most startups begin with two or more people who share an idea and decide to build a business together. In the early days, decisions about who owns what, who does what and what happens if someone leaves are often made informally, on a handshake or over a few messages. That works while everyone is aligned, but startups change quickly. A co-founder may lose interest, take up a job elsewhere, disagree on direction or contribute far less than expected. Without a written agreement, these situations can lead to bitter disputes, frozen decision-making and, in some cases, the collapse of a promising business.

A founders agreement is a contract between the co-founders of a business that records how they will work together. It typically covers equity ownership and vesting, roles and responsibilities, time commitment, decision-making, contribution of capital and assets, ownership of intellectual property, confidentiality, restrictions on competing activities during the relationship, what happens when a founder leaves, and how disputes will be resolved. It can be signed before the company is incorporated, or soon after, and is often later supported by a shareholders agreement when investors come in.

In India, a founders agreement is a contract governed by the Indian Contract Act, 1872. When the business is a private limited company, it must work alongside the Companies Act, 2013 and the company's Articles of Association. Some key rights, such as restrictions on share transfers and rights to buy back shares of a departing founder, should also be reflected in the Articles to be fully effective against the company and third parties. Vesting of founder shares is a contractual arrangement in India, since shares are issued upfront and cannot simply be issued in instalments the way options are, so the agreement must explain how unvested shares will be transferred or bought back if a founder leaves early.

Our team drafts founders agreements that reflect the real dynamics of your founding team. We take time to understand the contributions and expectations of each founder, explain the common options for equity splits and vesting, and translate your decisions into a clear, enforceable document. We also advise on how the agreement fits with your company's Articles and any future investment.

Who Needs It

• Co-founders starting a new venture who want to record their arrangement before or soon after incorporation.
• Early-stage startups that have been running informally and now want clarity on equity and roles.
• Founding teams preparing to raise funds, since investors often ask about founder arrangements during due diligence.
• Teams adding a new co-founder after the business has started, who need to agree equity and vesting for the new member.
• Founders with unequal contributions, such as one providing capital and another providing technical skills.
• Part-time founders who are working on the startup alongside a job, and want to record what happens when they commit full time.
• Founders of LLPs or partnerships who want a detailed agreement on top of the statutory documents.

Key Benefits

• Clear equity ownership. The agreement records how equity is split among founders and the reasoning behind it.
• Vesting to protect the company. Founder shares vest over time, so a founder who leaves early does not keep a large stake they have not earned.
• Defined roles and responsibilities. Each founder's role, responsibilities and time commitment are set out, reducing overlap and conflict.
• Decision-making rules. It sets out which decisions need unanimous consent, which need a majority, and how deadlocks will be broken.
• Intellectual property in the company. It confirms that code, designs, brands and ideas developed for the business belong to the company.
• Exit mechanics. It explains what happens when a founder leaves, including whether they are a good leaver or bad leaver, and the price at which their shares may be bought back.
• Confidentiality and non-solicitation. It protects the company's confidential information and limits solicitation of its employees and clients.
• Investor readiness. A clear founders agreement makes due diligence smoother and reduces surprises when investors join.

How vesting works in practice. A common arrangement is four-year vesting with a one-year cliff. If a founder leaves before the end of the first year, none of their shares vest, and the unvested shares can be transferred to the other founders or bought back by the company at a nominal or agreed price. After the cliff, shares vest gradually, often monthly or quarterly. Because shares in an Indian company are issued in full at the outset, the agreement must set out the mechanism, such as a transfer to remaining founders or a buy-back in line with the Companies Act, by which unvested shares are dealt with when a founder exits. Vesting may also accelerate on a sale of the company.

Founders agreement compared with a shareholders agreement. A founders agreement is between the founders and focuses on their relationship, roles, equity and vesting. A shareholders agreement is usually signed when outside investors join and covers investor rights such as board seats, information rights, anti-dilution, pre-emption, tag-along, drag-along and exit. When a shareholders agreement is signed, it often replaces or incorporates the founders agreement, so the two need to be consistent.

Eligibility and Legal Requirements

• Capacity to contract. All founders must be competent to contract under the Indian Contract Act, 1872.
• Before or after incorporation. A founders agreement can be signed before incorporation, but once the company exists, it should be ratified or the company should be made a party for clauses that bind the company.
• Consistency with the Articles. Restrictions on share transfer, buy-back rights and decision-making rules should be reflected in the Articles of Association. Under company law, provisions in a private agreement that are not in the Articles may not bind the company.
• Share transfers and buy-backs. A transfer of unvested shares between founders must follow the share transfer procedure in the Articles, with stamp duty paid at actual. A buy-back by the company must comply with the conditions in the Companies Act, 2013.
• Tax on share transfers. Transfers of shares, even at nominal value, can have income tax consequences for both parties, depending on the fair market value of the shares. This should be considered when setting buy-back prices.
• Foreign founders. If a founder is a non-resident, share issues and transfers must comply with foreign exchange rules and pricing guidelines, with reporting to the authorised dealer bank.
• Intellectual property assignment. Founders who created intellectual property before incorporation should assign it to the company in writing.
• Restraint of trade. Non-compete restrictions after a founder exits may be unenforceable under Section 27 of the Indian Contract Act, unless connected with a sale of goodwill or shares. Restrictions during the relationship are more likely to be upheld.
• Stamp duty. The agreement attracts stamp duty under the applicable state law, payable at actual.

Company law, tax rules and foreign exchange rules change from time to time. We check the current position at the time of drafting.

Step-by-Step Guide

1. Initial consultation. We meet the founders, together or separately as they prefer, to understand the business, its stage and the founding team.
2. Founder questionnaire. Each founder completes a questionnaire covering contributions, roles, time commitment, expectations and concerns.
3. Discussion of equity options. We explain common approaches to equity splits and vesting, and help the founders reach agreement on the numbers.
4. Decision-making framework. We agree on reserved matters that need unanimous consent, the role of the board and how deadlocks will be resolved.
5. Exit terms. We discuss good leaver and bad leaver definitions, buy-back prices and timelines.
6. Drafting. We prepare the agreement covering equity, vesting, roles, decision-making, intellectual property, confidentiality, non-solicitation, exit, transfer restrictions and dispute resolution.
7. Explanatory note. We share a plain-language summary of the key terms so every founder understands the agreement.
8. Revisions and alignment. We incorporate comments from all founders and help resolve points of difference.
9. Articles of Association check. We review the company's Articles and advise on amendments needed to support the agreement.
10. Execution guidance. We advise on stamp duty, signing and any intellectual property assignment deeds needed.

Documents Checklist

For each founder:

• Full name, address and PAN
• Proposed role and responsibilities
• Time commitment, including whether currently working elsewhere
• Details of capital or assets being contributed
• Details of any intellectual property created before joining

For the company (if incorporated):

• Certificate of incorporation
• Memorandum and Articles of Association
• Current shareholding pattern
• List of directors

For the business (if not yet incorporated):

• Proposed name and structure
• Proposed shareholding

Other information:

• Any existing agreements between the founders, including messages or emails recording the arrangement
• Plans for fundraising and any term sheets received
• Details of any foreign resident founders

How Long It Takes

• Consultation and questionnaires: usually two to three working days, depending on availability of the founders.
• Equity and terms discussion: depends on how quickly the founders agree. This can take a few days or longer.
• First draft: generally ready within three to five working days after the terms are agreed.
• Revisions: one to three working days per round.
• Finalisation and Articles check: one to two working days.

Most founders agreements are completed within two to three weeks.

Pricing

Our professional fee for Founders Agreement is ₹ 3,999.

This covers:

• An initial consultation with the founders
• Founder questionnaires and a discussion of equity and vesting options
• Drafting of the founders agreement
• A plain-language summary of key terms
• Up to two rounds of revisions
• A review of the Articles of Association with recommendations for alignment
• Guidance on stamp duty and execution

Stamp duty is payable at actual. Amending the Articles of Association, drafting intellectual property assignment deeds, share transfer documents or a shareholders agreement are quoted separately.

Common Mistakes to Avoid

• Splitting equity equally without discussion. An equal split can be right, but it should reflect a conscious decision based on contributions and commitment.
• No vesting. Without vesting, a founder who leaves early may keep a large stake, which can discourage investors and demotivate the remaining team.
• Leaving the agreement until fundraising. Disputes are harder to resolve once money is involved. Sign the agreement early.
• Not aligning with the Articles. Clauses that are not reflected in the Articles may not bind the company.
• Vague exit terms. Without clear good leaver and bad leaver definitions and buy-back prices, exits can become disputes.
• Leaving intellectual property with founders. Investors expect the company to own its intellectual property. Make sure founders assign it.
• Ignoring tax on share transfers. Buy-backs at nominal prices can have tax consequences. Plan with your tax advisor.
• Not involving all founders. Every founder should read, understand and sign the agreement.

What Happens After

• Sign and stamp the agreement, with all founders and, where incorporated, the company as parties.
• Amend the Articles of Association to reflect transfer restrictions and key provisions, through a special resolution and filing with the Registrar.
• Assign intellectual property created by founders to the company through written assignment deeds.
• Issue or transfer shares to reflect the agreed equity split, following company law procedures.
• Track vesting and keep records of vested and unvested shares for each founder.
• Review the agreement when new founders join or when the company raises funds, and replace it with a shareholders agreement if appropriate.
• Handle exits properly by following the agreed buy-back or transfer process.

FAQs

Is a founders agreement legally binding in India?

Yes. A founders agreement is a contract under the Indian Contract Act, 1872 and is binding on the parties who sign it. To bind the company, key provisions should also be included in the Articles of Association.

When should we sign a founders agreement?

As early as possible, ideally at or before incorporation. Signing early helps avoid disputes and makes later fundraising smoother.

How should we split equity among founders?

There is no fixed formula. Founders usually consider each person's role, time commitment, capital contribution, skills, and the value of the idea. We explain common approaches and help you reach a fair split.

What is vesting, and why is it important?

Vesting means founders earn their shares over time. If a founder leaves early, their unvested shares are transferred to the remaining founders or bought back. This protects the company and remaining founders.

Can vesting apply to shares that have already been issued?

Yes. In India, shares are usually issued upfront, and vesting is implemented contractually. The agreement provides for transfer or buy-back of unvested shares if a founder leaves early.

What is a good leaver and a bad leaver?

A good leaver is a founder who leaves for reasons such as illness or by mutual consent, and usually receives a fair price for vested shares. A bad leaver is a founder who leaves in breach of the agreement or for misconduct, and may receive a lower price.

Can I stop a co-founder from starting a competing business after leaving?

Post-exit non-compete clauses are generally unenforceable in India, except in limited cases connected with a sale of shares or goodwill. Confidentiality and non-solicitation clauses provide practical protection.

Do we need a founders agreement if we already have a shareholders agreement?

If a shareholders agreement covers the founders' relationship, a separate founders agreement may not be needed. However, early-stage startups often sign a founders agreement before investors join.

Does the agreement need to be registered?

No. A founders agreement does not need to be registered. It must be stamped as required by state law.

Can a founders agreement be changed later?

Yes. It can be amended with the written consent of all parties. Significant changes should also be reflected in the Articles if they affect the company.

What if a founder is a foreign national?

Foreign founders can be parties, but share issues and transfers must comply with foreign exchange rules, pricing guidelines and reporting requirements.

Who owns the intellectual property created before incorporation?

Unless assigned, intellectual property created by founders before incorporation belongs to the individual founders. The agreement and separate assignment deeds should transfer it to the company.

Can a founders agreement be used for an LLP?

Yes, but LLPs are governed by the Limited Liability Partnership Act, 2008 and the LLP agreement. The founders' arrangement is usually built into the LLP agreement, and any separate agreement must be consistent with it.

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