Gareth Jones: Divorcing your co-founder

Gareth Jones – Founder & CEO, TownSq

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I saw a fascinating statistic recently: getting married is less of a commitment than co-founding a business.

The average length of marriage in the US that ends in divorce around eight years, in the UK the highest chance of divorce happens between the 4th and 8th anniversaries. It’s broadly accepted that growing a successful company can take a decade – overnight success is often years in the making.

And yet, across Wales, founders enter into business partnerships every week with less legal protection than they’d get from a marriage certificate – but with just as much to lose. When you’ve found your co-founder, how do you make sure you’re both in it for the long haul?

There are so many scenarios that can play out in this, but sometimes you only find out the true nature of your co-founder when the going gets tough.

I’ve seen so many scenarios that justify taking this very seriously. It’s one of those things where planning and considering it in advance can save you a lot of time, money and heartache if things don’t go as hoped.

It’s hard to remove a co-founder, but you ought to have an early chat as a founding team to lock in some rules and conditions that give you both security for the future.

Splitting the pie

This is where tools like earn-ins can make a lot of sense.

Most often, when a company is started you will divvy up and split the equity between you based on what seems fair and meritocratic. If you’re equal founders then you might go 50/50, if one of you is putting in slightly more cash, or time, or assets then you might make it 60/40 in favour of one or the other. There are a million ways this could go.

But you might choose to do something a little more based on proving your worth. An earn-in is an allocation of shares which are unissued but are agreed to be issued based on you doing certain things. What this means is that you get the shares, but only if you do the work.

With an earn-in, these shares aren’t issued to you unless you hit key agreed milestones. They might be simple things like still being at the business after 12 months, or 36 months, through to delivering the product, securing your first customers, or hitting turnover targets.

Earn-ins seem logical, but most companies get started so hastily you might not have the foresight or legal support to implement something like this.

This is the big lesson if you’re pre-launch or early stage, try to invest the time to have these chats and not rush into something that might be hard to back out of.

In reality, when so many businesses are started between friends, family, former colleagues, or people who are well networked, these conversations will feel uncomfortable. But they’re nowhere near as uncomfortable as the ones you’ll have two years down the line without them.

Earn-ins can also imply an element of mistrust between you, which might feel like it’s getting off on the wrong foot, but it’s worth the uncomfortable conversation.

When it goes wrong

If you don’t want anything as complicated as earn-ins then you at least need to have some kind of good and bad leaver policies.

I’ve known so many businesses where one of the co-founders hasn’t pulled their weight, or an equity holder has been super supportive at the start and then disappears.

In one scenario the co-founder was painting the picture of being flat-out but it was only after they went AWOL that the others realised how little they had been doing – people hadn’t been paid and legal commitments hadn’t been completed.

But even after they had left, they still held equity, and just as much as the other founder who was carrying the can and trying to tidy up the mess they had left behind.

Even as a founder you can still be fired, and you could fire your co-founder if things aren’t going well.

Bad leaver policies can give you protection, so if a co-founder doesn’t do their job, or stick at it, then they forfeit their equity.

Defining what a good leaver is might be harder than judging a bad leaver, but you might use some specific things as examples of what makes them a bad leaver, like if they exit early or don’t do what they’re committed to – similar to earn-ins but in reverse.

It might also give you each a way to get out when the time is right while still retaining some value that you have earned in the way of your shareholding.

That might be a clause that says you can keep 10% but the directors have the right to buy the rest of your shares back at a reduced rate per share, regardless of the value of the company.

These things shouldn’t be treated as an insurance policy for your company, but more of a way to keep everyone honest and incentivise behaving in the long-term interests of the company.

Zombie equity

One final point on this is that you don’t want any equity sitting with zombies. Those folks who sit on your cap table and stand to benefit if you ever sell the company without contributing anything for years.

Equity is expensive, in that you can only give it away once. Be mindful of who you give any ownership of your business to, and only do so if you feel they’ve really earned it or can continue to provide support and create value down the line.

You don’t want to look back in ten years at the 5% equity holder of your business who hasn’t spoken to you for nine and a half years but who you’ve now made very well off, when others in your team who have done the work have no stake.

Supporting founders

Wales has a growing startup and small business ecosystem, but the support infrastructure around legal advice for early-stage founders is still patchy. When we do ecosystem mapping at TownSq, one of the most common gaps we find is access to affordable IP and commercial legal expertise. In some parts of Wales there aren’t any commercial solicitors locally who specialise in this.

Business support organisations, accelerators, and the Welsh Government’s own programmes could do more to make template shareholders’ agreements, earn-in structures, and good/bad leaver policies accessible and affordable for founders at the earliest stages. This isn’t glamorous stuff, but it’s vitally important.

None of this is meant to put you off co-founding. Having a co-founder is an essential advantage if you get it right. But the legal foundations you put in place at the start are what let you focus on building the business rather than worrying about what happens if it all goes sideways.

Get the boring stuff done early. Your future self will thank you for it.