Ten rules for better founding teams

Previously, I highlighted the legal aspects of structuring founder agreements. These are indeed very important but it is even more important to underscore that any agreement can be modified if the parties involved agree to do so. Therefore, a non-confrontational, positive approach is always the best way for a founding team to approach removing a co-founder. It is better to err on the side of being reasonable and generous to make things simple, quick and not get into legal disputes.

My key message to founding teams is the following: think very carefully about how you want to distribute decision-making power amongst the team, especially regarding key issues such as CEO and board roles. Just as I prefer balanced, independent boards where no one person or entity exerts too much control, I prefer companies where no one founder can force or block key votes against the wishes of the rest of the founding team and investors.

In many cases of misbehaving founders weak boards and weak investors are to blame also. A couple of months ago I had lunch with an exec at a large startup in Boston. We talked about his absentee CEO who spent most his time in another country. Growth in the company had gotten sluggish because of lack of investment in R&D and the go-to-market organization. The CEO, who is well-known in the community as a control freak, doesn’t want to increase the burn because that will require a financing. A financing will bring his ownership under the threshold that allows him to block his replacement by the board. He’s made money in the past so now he’d rather be king. What surprised me about the story is that experienced VCs from two well-known firms twice didn’t confront this situation. For two rounds they were enamored-enough to invest in the company despite the unreasonable degree of control the CEO had. Now they have so much capital into the company, they can’t risk abandoning it.

If you want to build a better-balanced founding team where no one founder is irreplaceable, you may want to consider the following list of ten guidelines:

  1. Clear agreements. Have clear verbal or, better, written agreements pre-incorporation. While agreements can be adjusted later, doing so typically requires consent and that potentially gives too much power to individuals.
  2. Founder drag-along. I haven’t seen this used in practice prior to financings but it seems that a reasonable approach to (1) would be to give the founding team an ability to drag along a reluctant co-founder.
  3. Vesting. With the exceptions of the investor and certain types of advisor roles as discussed in my previous post, everyone else on the founding team should vest. (Here are my thoughts on the best vesting schedule for founders.)
  4. Consider a vesting cliff. Standard founder agreements don’t have vesting cliffs for founders. This assumes that co-founders know each other well and have experience working with each other. That’s not always the case.
  5. Align vesting with value-add. Typical founder vesting schedules are time-based. That works well for full-time employees but is a poor fit in the case of part-timers with flexible involvement or situations where there is a non-linear value contribution. I face this in my FastIgnite work frequently as I deliver much of my value up-front.
  6. Understand voting thresholds. As you divvy up ownership amongst co-founders, think about what that will look like under a range of cap table scenarios given a financing. Be careful of any founder getting too much power.
  7. Be careful with big severance packages. I saw a bootstrapped company looking for funding where the lead founder had written his agreement such that if he was terminated he could call “the loans” he’d given to the company during the bootstrapping period. With interest, it was over $1M. Also, don’t go for big vesting acceleration on termination without cause.
  8. Don’t give board seats by name. Same message as above—don’t design inflexibility in unless you have a darn good reason. Question the balls of investors who want in the deal so much they are willing to go along with highly unusual board or voting structures.
  9. Alternate founders on the board. Even if one founder, through her shareholding, can ensure a board seat all the time, you may want to discuss options that involve term limits or some type of representation alternation with your co-founders. In one of my investments, two co-founders alternated every few months. It worked well.
  10. Strong, independent boards. There would be fewer scandals on Wall Street if more public companies had strong, truly independent boards. In startups, it is relatively common for investors or a founder or the CEO to bring a “friend” on the board. Nothing wrong with that if the friend cares about the company first and foremost.

Let me know what you think about these suggestions in the comments or on Twitter @simeons.

About Simeon Simeonov

I'm an entrepreneur, hacker, angel investor and reformed VC. I am currently Founder & CTO of Swoop, a search advertising platform. Through FastIgnite I invest in and work with a few great startups to get more done with less. Learn more, follow @simeons on Twitter and connect with me on LinkedIn.
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20 Responses to Ten rules for better founding teams

  1. Pingback: Startup Founder Agreements « HighContrast

  2. Simeon,
    This is a great “CliffsNotes” version to a very complex issue in the startup world. If I may add, delaying assigning large titles could also be very beneficial for the startup. I found titles to be a major root cause for early silos, politics, and power matches in the startups and we can not afford that.
    Here is my take on the issue: http://theoperationsguy.com/dangers-of-big-titles

  3. Hey Sim, great points.

    In particular I find your comments on founder vesting in this post and the one you link to refreshing.
    I have seen little commentary that goes to that depth so well taken.
    I think another factor is how long the company has been bootstrapped/the founders have been working before incorporation (this is often, but not always, a short period).

    In our case at Going, the founders actually decided to set a high bar for ourselves and have fairly limited pre-vesting prior to taking any external funding. Once we reached the external funding milestone, we moved to the more standard numbers you mention. A bit complex perhaps but it set the right culture and tone for us.

    • Roy, so the idea was to keep things fairly open between the founders until it was clear that the company was moving forward with this particular team?

      • Yes. Also at the time we had not decided if/when we would take external funding, so we felt 25% pre-vesting at the bootstrap stage was too much for someone who could theoretically walk out the door Day 5 with a nice chunk of equity.

  4. Another great post. All the advice around vesting is right on point. I can’t tell you how many clients get into trouble on these issues. It almost seems like it is a right of passage for founders to make the mistake of giving away too much stock to someone who does not perform. I particularly like your comments about cliff vesting for founders. Founders often bring in people that they like early on to help with some task (often writting some code). A significant amount of the time , something goes wrong and then the stock is out the window.

  5. Pingback: Finance Geek » 10 Rules For Preventing Dysfunctional Founding Teams

  6. Sim, a great post with practical advice. Thank you for sharing it so broadly. I agree with your points about vesting options.

    The complications of doing this are one reason why, when I do interim CEO / COO assignments, I usually avoid stock options all together. In the 10 interim CEO assignments I’ve done in the last 10 years, I’ve found that it’s important for the company to have complete flexibility to end the assignment when the job is done (and not have to worry about ending an assignment just before (or after) a vesting cliff is reached.)

  7. Pingback: Sanhe Tech (SKGO) Signs Investment Memorandum with US Investors « Social Media « Sweet Businesses

  8. Theo V says:

    Interesting post. One of my MBA friends who is newly jobless ( as many MBAs are) is looking to join a startup where the founder has 2 nice exits and is quite wealthy. I advised him to join the startup but now I am not sure. Given what was said here I am afraid that founder may also limit growth opportunities of the firm in order to keep control. How can one figure out if the founder is like the person described here or actually a smart entrepreneur who will do what is best for employees and the firm.

    Theo

  9. Pingback: Founder Agreements – Vesting, Vesting and more Vesting « HighContrast

  10. Julia J. says:

    Hi,
    thanks for the great post, but from my point of view to just build the team or develop them is not enough, if you want to go and do some researches at Mars planet for example, you can’t having a team member who hate flying, it’s critical while building your team to gather people who have the ability and creativity to help accomplishing dream goals and targets.
    please check this post it can be helpful: http://www.jaftalks.com/Home/Show/team-leaders-need-team

  11. Pingback: The Zen of fundraising « HighContrast

  12. Bob says:

    You make some interesting thoughts. Thanks for sharing them.

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  17. Pingback: Ten Rules For Better Founding Teams – Simeon Simeonov | Startups Knowledge Base

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