Choosing the right co-founder is one of the most important decisions you’ll make in your startup’s life. The individual you bring on board is more than just a business partner; they’re someone with whom you plan to cultivate a long-term relationship. But, as with any relationship, your partnership with your co-founder may ultimately not work out. A co-founder leaving can have a big impact on your startup, particularly when you’re in a fundraising phase, so you want to ensure that you take the appropriate actions and do so legally.
There are certain measures you can take early on to help make a co-founder exit situation easier to deal with. Creating a Founder Accord that details founders’ roles and responsibilities is a good way to help prevent future disagreement. You should also make sure to have a shareholder agreement that includes vesting provisions for founder shares. A vesting schedule will help protect you and your company, and can mitigate the risk of disputes over ownership if your co-founder decides to leave.
A real-world example of what could happen if you don’t put thought into founder equity and responsibility in the beginning is Zipcar. Long before Zipcar became a hugely successful business and was acquired by Avis, Zipcar founder Robin Chase very quickly entered a 50/50 equity split with her co-founder Antje Danielson. So when the relationship went south shortly after they went into business and Chase fired her co-founder, Danielsen retained half of the company she wasn’t even helping to build.
It’s also a good idea to create a founder IP agreement that includes terms that clearly define what happens if your co-founder leaves your startup. This is mainly to prevent a situation in which your co-founder leaves and is in possession of your company’s creations, opening the door to potential competition.
Reasons why your co-founder might leave
There are a number of reasons why your co-founder might leave your startup, and it is certainly not an uncommon event in the startup world. In some cases, your co-founder may choose to leave in order to pursue other professional goals, whether that’s a full-time role at another company or going out on their own. They may also have personal reasons, such as educational obligations or financial burdens.
More likely is that your co-founder leaves due to conflicting interests or because they are simply no longer a good fit. Your co-founder and your team may not align on your startup’s direction or have fundamental disagreements about how your startup should be run. Or, perhaps your co-founder can no longer fulfill the duties of their role as agreed upon when they joined your startup. In the latter scenario, if you are unable to come to a resolution and your co-founder does not choose to leave voluntarily, you and your team may decide that it’s better to terminate your co-founder to avoid further difficulty. It’s usually more beneficial in the long term to simply end the relationship than to try and convince your co-founder to stay on.
The right way to handle your co-founder’s exit
When you know that your co-founder is leaving, the very first thing you should do is communicate the situation to your team and your key stakeholders. You should make your investors aware of everything that goes on in your startup, but not just because they can take legal action if you don’t. Informing them of a major occurrence like your co-founder leaving could also be an opportunity to build trust. If you let your investors know exactly what’s happening, they will feel more confident in the relationship and could provide advice on what to do. At the very least, they may be interested in aiding your search to find a C-level replacement should you decide to look for one.
If your co-founder is not a member of your board, you can terminate them at any time. However, if your co-founder is a member of the board, your board will need to vote on your co-founder’s termination. It is important to consider that your co-founder may not leave willingly and could come back with alternative demands. The last thing you want to deal with is a messy exit, so it’s very important that in any co-founder exit scenario you talk to your attorney. Your attorney can make sure that you handle all aspects of the exit according to legal best practices and help you avoid future legal disputes.
Your biggest concern once you’ve informed your team is how to deal with your co-founder’s equity. If your co-founder was assigned common stock, they own any vested shares free and clear no matter when they decide to leave (which is why vesting schedules are so important). If they have options, they can exercise any that have vested. They can then either keep or sell back their shares. Even if you had vesting on your co-founder's common stock grant, your ability to reclaim the unvested shares is dependent on the repurchase terms of the grant—usually, you'll pay the original price per share at which the co-founder purchased the stock—and you will need to issue your co-founder a notice that the company is exercising its right to repurchase the stock.
What to do once your co-founder has left your startup
You’ll probably want to have some sort of plan in place for how you’re going to deal with the interim period if you plan on hiring a new co-founder for your startup. Bringing on someone new at such a high level is a process that will take time and will depend on many factors, including whether you have more than one co-founder and how much progress your company has made. Your team may be concerned as to why a critical person has left, which may result in them asking questions and potentially demanding more compensation in order to continue on with the company. A good way to help increase your team’s confidence is to be forthcoming about why your co-founder left and to have an open discussion about where your startup is headed and what your team members need in order to feel comfortable staying on board. Making sure everyone is on the same page after such an impactful event is critical. It’s also a good idea to include your team and your investors in the co-founder search process, so that they feel engaged and know that action is being taken to move forward.
A co-founder leaving your startup can feel like a big loss, but it certainly does not have to mean the end of your startup journey. The important thing is that you terminate the relationship fairly and with full transparency, and make sure to engage with the appropriate professionals to avoid mistakes and potential legal problems in the future.
This article is intended for informational purposes only, and doesn't constitute tax, accounting, or legal advice. Everyone's situation is different! For advice in light of your unique circumstances, consult a tax advisor, accountant, or lawyer.