TRANSACTIONAL DOCUMENTS
From inception, the founders and the company will need to consider a variety of agreements including, Founders' Agreements, Employment Agreements, Stock Option Grants, Non-Disclosure and Confidentiality Agreements, and Scientific Advisory Board Agreements among others. Each of these agreements must be carefully drafted in order to balance the individual's interests while appropriately protecting the company. Each agreement is important, and will be reviewed by the venture capitalist during the due diligence process.
FOUNDER'S AGREEMENT
The Founder's Agreement takes many forms and is often referred to as a "Stock Restriction" or "Shareholders' Agreement". The document will focus on multiple issues including restrictions on transferability, the commitment that each individual is making to the venture in terms of time and money, and assignment of intellectual property. Additional provisions will relate to rights of first or last refusal, co-sale rights, tag-along, and drag-along rights. The purpose of this document is that it ensures that all of the founders are in agreement with each other, with their respective obligations to the company and with the focus and scientific direction of the Company.
Another area of concern relates to stock ownership and vesting. Many (if not all) founders will consider their shares vested when the entity is created. This issue (which also arises in the context of negotiating an employment agreement) creates significant concerns for the remaining founders and the venture capitalists. If a founder, for whatever reason, prematurely leaves, is terminated with cause, suffers a disability, or dies, the company must have the right to "claw back" some or all of these shares, thus making them available to the founder's successor. Generally, the venture capitalist will require the founder and other significant officers and employees to make a 3-4 year commitment to the company, with a small portion of their shares vesting up front and the rest thereafter vesting monthly or quarterly.
Tax planning also plays a role in the drafting of these documents. From a tax perspective, the best approach is not to use options but to issue restricted shares at a nominal price (i.e. before the intellectual property or rights or contracts are transferred to the company), with the company having the right to claw them back on a decreasing monthly, quarterly or other negotiated basis.
In this structure, the parties will articulate the exact circumstances under which there will be a divestiture of the shares and the purchase price to be paid by the company in the event of a repurchase. If the repurchase occurs at a time when the company has not made significant scientific progress, then a repurchase at the same purchase price paid by the founder or other grantee may be appropriate. However, if the termination occurs near the end of the vesting period and/or after scientific or other due diligence milestones have been achieved, then a formula approach to determining the purchase price that recognizes the founder's contribution is the better method. A form of a repurchase right that arises in an employment context may be downloaded from Evelexa.
CONFIDENTIALITY AND NON-DISCLOSURE AGREEMENTS
The confidentiality and non-disclosure agreement is central to a company's ability to protect its confidential information, trade secrets, know-how, and intellectual property rights. These agreements should be signed by everyone having access to the non-public information including, employees, founders, directors, advisors, collaborators and consultants to the company. As recommended, one individual should be responsible for coordinating this effort and ensuring that originals are maintained in a secure, central file. They will be examined by the venture capitalist during the due diligence process.
While there are many templates for confidentiality agreements depending upon whether they are one way or mutual and whether the companies are private or public, such agreements should contain the following:
- A clear definition of what constitutes confidential information and whether oral information must be reduced to writing and submitted to the other party within a specified period of time;
- A stated purpose for entering into the agreement;
- The agreed upon exceptions to confidentiality;
- The period of confidentiality; and
- The right of a party to seek injunctive relief to prevent a breach of the agreement without the need to prove actual damages.
A form of a mutual confidentiality agreement is available for download from Evelexa.
EMPLOYMENT AGREEMENTS
It is rare that a start-up entity takes the time to negotiate employment agreements; but they serve the same critical function in the employment area that Shareholder Agreements serve in the equity ownership area.
From the company's perspective, an employment agreement confirms the individuals' commitment to the company and covers important subjects including, duties and responsibilities, confidentiality, assignment of inventions, publication rights and non-competition. These issues are interwoven with the protection of the intellectual property and work together to form a fence around the disclosure of the company's technology.
A well-drafted non-compete provision will prohibit the employee from competing, directly or indirectly, with the company for an agreed upon period of time after the employee leaves or is terminated. Critical to this document is the definition of the company's "business". If the language is too narrow it may miss key elements and not anticipate a change in the company's focus; and if the definition is overly broad (i.e. "the development of therapeutics for the treatment of autoimmune diseases"), it may not be reasonable in terms of time and space rendering it unenforceable. Each sentence must be thought through since a request to renegotiate the language is certain to be rejected. A form of a non-compete provision may be downloaded from Evelexa.
In EMC Corp. vs. Kenneth Todd Greshem, et al. (Suffolk Superior Court, NO. 01-2084 BLS), the Court permitted a former employee to consult with a competitor because the negotiated clause, while broad, did not actually prohibit consulting. Attention to detail is crucial when drafting these provisions; the agreement must contain a prohibition against the disclosure of confidential, proprietary information and be broad enough to capture what the employee learns either alone or in conjunction with others while employed by the Company.
In the initial stages of development, a start-up company is likely to enter into a number of agreements with individuals such as consulting agreements, fee-for-service agreements, master service agreements and scientific advisory board agreements. These agreements must contain provisions relating to confidentiality, assignment of inventions, publication and non-competition.
A form of a consulting agreement and a form of a Scientific Advisory Board Agreement are available for download from Evelexa.