- April 12, 2019
- Posted by: CYNTHIA TISHION
- Category: Legal Tips Digest
The word ‘co-founder’ in most cases comes to an entrepreneur with mixed feelings. Although it generally connotes a business partner who was instrumental to the finding or development of a new business or idea. On the one hand, an entrepreneur feels positive about the notion of having a co-founder because it presupposes a situation where his/her weaknesses (especially in business) are covered by the other’s strength. But on the other hand, the entrepreneur is also concerned about the challenges that come with partnerships and disturbing questions such as:
i. How do I ensure my partner does not earn more while I do all the work?
ii. What if my partner loses interest in the business?
iii. What if (s)he refuses to perform his/her role and expects to gain all profits?
iv. How do I prevent the business from bankruptcy in the event of a split?
v. How do we share business assets fairly?
However, before I delve into the topic, let me make this point: Not every business situation requires a partner/co-founder. Not everyone is qualified for the role either. A co-founder must be a person who passionately shares the same vision with you and (s)he must have the ability to take up key management roles which you may not be able to handle in the first place.
Having said that, let us move on to the issue at hand, i.e., how do I protect my business from dead weight co-founders? Ever heard of a Vesting Clause?
What is a Vesting Clause?
A Vesting Clause is usually found in a “Founders Agreement”. It provides co-founders with the opportunity of having a specified and agreed equity in the business vesting on the founders after a given period. Vesting in this context simply means the transfer of interests, rights, benefits and privileges of a business to a co-founder which is commensurate with the extent of his or her contribution over an agreed period of time. The Clause also provides the co-founders with the option of buying back each other’s stock/equity/interest in the business at an agreed price (usually low), on a set schedule, usually over three or four years. That way, a co-founder is compelled to give his or her best input for a reasonable period of time or leave the business at the risk of a significant loss to him/her.
Perhaps it is worthy of mention that a Vesting Clause may also be found in a Share Vesting Agreement being an agreement by which a company sells new shares to an employee or a consultant, which then vest over time or upon achieving certain goals and meeting performance standards.
How does this work?
Decide on a fair vesting schedule with a cliff period as a formal agreement. As stated above, a vesting schedule is a timeline that displays the amount of interests that accrues to a co- founder over time, usually 3-4 years. A cliff period is a time in which a co-founder has full claim over accumulated interest overtime, usually between 6 months – 1 year. In practice, if the vesting period is say, 4 years, each of the co-founders may be eligible to earn a certain percentage of the total agreed equity every giving year until the whole equity becomes completely vested.
A co-founder is not entitled to any interest if (s)he leaves before the ‘cliff period’. However, a co-founder could acquire a measure of interest if (s)he leaves after a cliff period. At this stage, a co-founder could buy out his/her colleague’s acquired interest at its original price level or at a lower price.
Is this practice recognised in Nigeria?
Yes, provided the terms of the clause are agreed on and forms the basis of a formal contract (Founders Agreement). In Nigeria, a vesting agreement is recognized so long as it satisfies the legal requirement for a valid contract.
Successful effect of a Vesting Clause.
Ever heard of the famous story of Mark Zuckerberg and Eduardo Savarine? The facts may vary but the relevant point is clear. Facebook was able to prevent itself from going under when its Co-founder, Eduardo Savarine, decided to part ways because of a pre–existing co-founder’s agreement containing the appropriate vesting clause.