Before Co-Founders Incorporate - the Pre-Incorporation Agreement

While an earlier post discussed the importance of a Stockholders Agreement among the stockholders in a corporation, we also thought it appropriate to discuss the benefits of a pre‑incorporation agreement among founders prior to incorporation of the venture. Pre‑incorporation agreements can serve an important role in clarifying the nature of each founder’s ownership interests and the various rights and obligations of the founders once the entity is formed.

Pre‑incorporation agreements can also bring a variety of issues to the forefront before the company is formed (and before start-up costs are incurred), which can help clarify for the founders whether to proceed with incorporation.

While there is no legal requirement that founders enter into such an agreement, some of the issues that are typically addressed in a pre-incorporation agreement include:

• The proposed name and purpose of the corporation.
• The form of the articles of incorporation of the corporation. This can spell out whether there will be different classes of shares, with different voting rights and/or preferences.
• The agreement of the founders to subscribe for shares of stock in the corporation, including the amount of consideration to be paid and the amount of shares to be issued to each founder. This of course is one of the most important issues, as it will establish the initial percentage ownership of each founder in the entity.
• A list of the initial officers and directors.
• A summary of which founders will provide services to the corporation when formed and, if so, what services will be required and what, if any, compensation they’ll be paid.
• A summary of the voting rights of the founders. This too is very important, as it may set forth certain rights of founders to elect a certain number of directors.
• A summary of how initial costs of the venture will be financed, and future capital and financing requirements of the founders. This too is very important, and can cover situations where operating revenue fails to meet operating expenses.
• A summary of what terms the stockholders agreement shall include, including restrictions on transfer of shares during lifetime (with a right of first refusal to other founders in the event a founder wants to sell their shares), the disposition of shares upon the death or disability of a stockholder and other terms as the founders may mutually agree. These provisions are also very relevant, since the founders will want to initially insure who their partners are and have, for example, a right of first refusal if one of the founders wants to sell their shares.
• Any required elections for tax purposes (i.e., a sub-chapter selection)