Co-Founder Exit – What to Expect?
Founders play the most crucial role in building a startup company from scratch. Also, it’s their sweat and tears, sleepless nights and determination that keep the team motivated. It convinces and persuades people, including investors, to believe in their idea.
By their inherent nature, startups are tough. For example, there are rarely sufficient funds or time to go around and the future is unknown or uncertain. You and your co-founder are living in each other’s pockets while being away from family, and friends.
It is not surprising that tempers can start to fray. As your company starts to grow or enter into new markets, the working environment may change quickly. As a result, one founder’s skills and experience may become less relevant as the commercial or market landscape changes.
In some cases, a co-founder’s working personality and style may have been instrumental in getting the business going. However, now it can be an obstruction to future growth and progress. Unresolved conflict can also cause problems and lead to a co-founder exit. Unresolved conflict routinely stifles the most promising early-stage companies and startups.
There is no doubt that founder breakups hurt and can cause financial and legal issues in the long term. Some contentious issues include Intellectual Property (IP) protection and voting rights.
What is Co-Founder Exit?
A co-founder exit refers to the departure of one of the individuals who helped found a company. Co-founder exits may occur for a variety of reasons. This could be personal reasons, strategic disagreements, or differences in the vision for the company’s future. Other reasons include personality conflicts and disagreements regarding compensation and future direction.
You should know that co-founder exits can have a significant impact on a company. This is more so, if the departing co-founder played a critical role in the company’s early success. For example, the departure of a co-founder can result in changes to the company’s leadership, culture, and strategic direction.
When your co-founder decides to leave your startup, it is not always easy. It is likely to cause some issues internally and may make responsibilities a lot heavier for you and your employees.
In some cases, co-founder exits may be amicable. The departing co-founder may continue to support the company in an advisory or shareholder capacity. In other cases, co-founder exits may be contentious and tricky. This would result in legal disputes and challenges for the company’s ongoing operations.
However, it’s vital to remember to protect the company as much as you can during this tumultuous and complicated time.
Co-Founder Exits and Split Ups are Normal
Did you know that almost 35% of co-founders leave the company at some stage? Note that this generally happens within two years of the initial investment round. Also, there are several reasons why a co-founder may decide to leave.
For example, it can be stress, burnout, or disagreement on strategy. On the other hand, it could be something completely non-work related, like marriage or taking care of a baby.
It is important for start companies to have a plan in place for co-founder exits. This includes provisions for equity ownership, founder vesting, intellectual property, and decision-making authority. By planning, your company can minimize the potential impact of a co-founder’s exit. It will also ensure a smooth transition for all stakeholders. Regardless of the reason for the exit or split, you should talk things through and try your best to come to a consensus.
Navigating a Co-Founder Exit
Given that many new companies and startups are formed between family and friends, you are not only risking your valuable capital but also your invaluable personal relationships when diving into a business venture. Is your co-founder leaving the company? How can you prepare for potentially unpleasant and contentious co-founder relationships breaking down?
Here are some pointers to consider if you have to navigate this complicated situation as an early-stage startup.
Repurchase of Unvested Shares
If the exiting founder has any unvested shares, these unvested shares generally will be subjected to a re-purchase right by your startup company for the amount the founder initially paid for the shares. It is important to confirm these terms and conditions by reviewing your founder’s stock purchase agreement before it expires. This kind of repurchase of the founder’s shares is a common market practice.
Also, to leave an indisputable paper trail, you should review the shareholder agreement, and document the repurchase of the unvested stock. After that, make sure you deliver the check in the amount mandated under the leaving founder’s stock purchase agreement.
What about Vested Shares?
In many cases, it is worth it for a startup company to buy back all or at least some vested shares owned by the departing founder. This is because it wipes the capitalization table clean of the founder’s ownership and the company can start anew. Access to funding and vesting schedule dictate whether this option is feasible.
But why repurchase vested shares in the first place? A startup company can use the repurchased equity in order to attract a suitable replacement for the departing founder.
The second reason is that having a scornful or disgruntled ex-founder on your capitalization table may make for potential disagreements and issues on stockholder decisions in the future and you don’t want that.
Do You Have to Terminate Them?
Is your co-founder a board member? If so, terminating them may turn out to be a bit more complicated than you may expect. For instance, the co-founder may have some additional demands around ownership or other important matters in your agreements.
If the co-founder was issued shares by the startup company, chances are that you can’t take this back as it is their equity now. These types of matters may cause some issues and problems between founders. This is why it is best to talk to a lawyer who can make sure the process goes smoothly.
You should make sure that you’ve an executed copy of the leaving founder’s confidentiality and Intellectual Property (IP) assignment agreement, as well as any other agreement pertaining to rights the co-founder may have licensed or assigned to the company.
However, if you don’t have the necessary agreements and contracts that document the rights in IP that your company believes it obtained from the founder, it is best to consult an attorney as soon as possible.
You don’t want the departing founder to claim that they own your intellectual property rights or invented a product, or can restrict your company’s use of its intellectual property. Keep in mind that claims of this nature are often made at inopportune period of time, like the eve of the startup company’s acquisition or financing, which can create big complications for the deal, especially if the founder is on the board of directors.
What about Investors?
If you own or manage a startup, you would like to be as transparent and forthcoming as possible with your investors as it is in your best interest. After all, you would like to maintain a relationship of trust and confidence with them.
If your co-founder is leaving the company, you should communicate this to your investors so that they can make informed and reasonable decisions. Also, this can provide some guidance and information for your next steps regarding your internal business procedures and activities.
Reasons Why Co-founders Leave
There are many reasons, such as burnout, why your co-founder may leave your startup. Keep in mind that it is not an uncommon occurrence in the startup world and should be expected. In many cases, your co-founder may decide to leave to pursue other professional goals and objectives, whether that is a full-time role at another firm or going out on their own. Also, they may have some personal reasons, like educational obligations and financial burdens.
Differences in Vision
This is a common reason for the exit. Co-founders may have different ideas about the direction the company should take, and if they can’t come to a mutually agreeable solution, one or both may decide to leave.
Burnout and mental stress often come into play when there’s an imbalance in work allocation. Starting and managing a company can be extremely demanding and time-consuming, and co-founders may experience burnout or feel they need a break from the intense workload.
One co-founder may feel they have to do a lot more to pick up where another might be falling short. Instead of having upfront conversations to re-balance the work responsibility, the more involved company founder may burn themselves out, eventually harboring resentment.
Founders’ Exit Strategy
Your co-founder may have had a specific exit strategy in mind when starting the company, such as selling the business or going public, and once that goal is achieved, they may choose to leave.
Here is another common reason. Co-founders may have differing opinions on how profits should be distributed, and if they can’t come to an agreement, it may lead to one or both of them leaving.
If your co-founder has better opportunities, such as a new job offer, or has their own business plans to pursue, they may abandon ship. However, this transition often comes with a mutual understanding and does not always become complicated or messy.
It’s important for co-founders to communicate openly and honestly with each other throughout the life of the company to prevent misunderstandings and conflicts from escalating.
If co-founders do decide to part ways, it’s important to have a plan in place for how to handle the transition in a way that’s fair to everyone involved and that minimizes disruption to the business.
The Right Way to Handle a Co-Founder’s Exit
When you find out that your co-founder is leaving the company, you should communicate the situation to your team as well as your key stakeholders, such as investors. When a co-founder leaves your company, it can be a challenging and emotional time for everyone involved.
Here are a few steps you can take to handle a co-founder’s exit in a way that is fair, professional, and minimizes disruption to the business.
Have a Clear Agreement
Ideally, co-founders should have a written founder agreement that outlines how an exit will be handled. This should include important details, such as how the leaving co-founder’s equity stake will be divided, what happens to any intellectual property or other assets they brought to the company, and how the company will be managed in the future.
Communicate With Stakeholders
Once your co-founder has decided to leave, it’s important to communicate the news to all stakeholders, including employees, investors, and customers. Make sure you and these stakeholders have a broad agreement about the strategy, funding and recruiting needs of the company.
Be transparent, forthcoming, and honest about the situation and reassure everyone that the company will continue to operate and thrive.
Reassess Roles and Responsibilities
When a co-founder leaves, it may be necessary to carefully reassess roles and responsibilities within your company. For example, you should determine who will assume the departing co-founder’s duties, and if needed, hire additional staff in order to fill any gaps.
Address Emotional Impact
There is no doubt that a co-founder’s departure or exit can have an emotional impact on the rest of the team. So, make sure to acknowledge any feelings of loss or uncertainty, and offer support to those who may be struggling with the change.
Focus on the Business
While a co-founder’s departure can cause disruptions, it’s important to stay focused on the business and continue working towards the company’s goals and objectives.
Remain professional and respectful throughout the transition, and strive to maintain a positive and productive workplace culture.
Most startup founder disputes arise because the founders have either under or miscommunicated. Note that a mediator or a reliable neutral third-party advisor, such as a mediator, can help you part ways at the fraction of the cost of an expensive attorney.
If your founder is not willing to deliver a resignation letter, it is prudent to consult an attorney. Your company should immediately fill any vacant positions created by the co-founder’s exit.