How Do You Buy Out Your Co-Founder?
I had four co-founders. I had to fire one of my co-founders within six months of us being operational. This was six months before we had any revenue.
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The negotiation of “Randy’s” exit was simple. It took less than one hour to complete.
Here’s what you’ll need to make your co-founder buy out simple too.
Hopefully:
- You and your co-founder have employment contracts that cover what happens if you or your co-founder leaves the company. And hopefully…
- You’ve taken the steps to have your equity and your co-founder’s equity vest over time. But all is not lost if you don’t have separation agreements in place because…
You can still negotiate a separation agreement that’s fair between you and your co-founder, even if you don’t have a separation agreement in place.
Years ago, I was working with a founder that didn’t already have a separation agreement with his co-founder. Worse, the equity between him and his cofounder wasn’t vesting over time.
However, he was still able to negotiate a fair agreement between him and his cofounder. The steps were pretty straightforward:
A. Determine what your co-founder’s equity should be with standard vesting.
Standard vesting is four years with a one year cliff. This means if your co-founder leaves before one year, your cofounder gets zero. This also means that if your cofounder worked at the company for two years, your cofounder would get 50% of the promised equity.
B. Negotiate the agreement.
You can use an intermediary like your lawyer to take some of the tension out of the discussion if you like. I recommended this tip to the founder I was working with, and the tip worked quite well.
The key thing to remind yourself is you have the leverage because you can just shut the company down if you and your co-founder don’t agree. Remember that your co-founder is getting a percentage of something, and that’s better than 100% of nothing.
Having this walkaway mindset will help you negotiate the best agreement you can.
C. Have your lawyer draw up the final agreement.
A poorly written separation agreement can cause you all sorts of grief later. Spend the money on an attorney, and you will not be sorry later.
D. If you enter into a cash settlement, the amount of cash you give your co-founder can’t put the company’s future in jeopardy.
You can give a partial settlement in cash with the rest in equity. You can do it in tranches over time. However….
The one rule you need to religiously follow is the separation agreement can’t kill the company.
Earlier this year, I was helping one of the CEOs I was working with negotiate a cash settlement with his co-founder. The negotiations were very contentious between “Steve” and his co-founder, “Mark”.
Mark was asking for way too much money. In fact, the amount was so high that if Steve gave in it would put the company’s future in doubt.
However, Steve had the leverage. I kept reminding Steve, “Time is on your side. You’re under no obligation to do anything.
“You’ve made him a fair offer. Now, it’s up to Mark to negotiate in good faith. In the meantime, you should just focus on running your company.”
Steve took my advice, but it was hard because he really wanted Mark completely disassociated with the company. It took six months of patience until Mark came back to the negotiating table, ready to settle.
Working with his lawyer, Steve got Mark to agree to a fair settlement.
Revenue has nothing to do with negotiating a separation agreement.
In none of the co-founder settlements has the company’s top line revenue entered into the negotiations. The reason is the top line revenue is not the value of the company. It simply doesn’t matter.
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