The Importance of Leaver Clauses in Equity Agreements

In a startup, equity agreements are essential to ensuring a fair distribution of ownership among founders, key team members and potentially even service partners that work for equity.

One crucial aspect of these agreements is the leaver clause, which outlines the terms and conditions under which a founder or team member may exit the company and how their equity will be handled. 

Why is a Good Leaver Clause Important?

A well-drafted leaver clause can help protect the interests of both the departing team member and the remaining shareholders, ensuring a smooth and fair transition.

In the absence of a clear leaver clause, disputes may arise. In the worst case it can lead to potential legal battles and damage to the startup's reputation.

Key Components of a Leaver Clause

A well thought out leaver clause should clearly define the circumstances under which a team member is considered a good leaver (e.g., leaving due to illness, disability, or retirement) or a bad leaver (e.g., termination for cause, voluntary resignation).

This distinction is crucial as it impacts the treatment of the departing member's equity.

For both cases, the leaver clause should specify how the departing team member's equity will be treated. For good leavers, the equity might be retained, vested, or partially vested, while for bad leavers, the equity may be forfeited or subject to a repurchase option at a reduced price. 

The agreement should also address any unvested equity and the implications of a team member's departure on vesting schedules.

You further need to establish a clear method for valuing the departing team member's equity. This might include a pre-agreed valuation, a fair valuation of the uncompensated contributions by the leaving co-founder, a formula based on the startup's financial metrics, or a third-party valuation.

The leaver clause should outline any restrictions on the transfer of the departing team member's equity. This may include right of first refusal for the remaining founders or a requirement that the shares be offered to the company or other stakeholders before being sold to a third party.

Lastly, specify a reasonable notice period for the departing team member to provide the startup with ample time to manage the transition.

Especially after working together for several years with investors and larger shareholders on board, you may need a significant transfer time.

To ensure a fair and orderly process for team members who leave the company it is best to discuss leaver clauses as early as possible, and negotiate them regularly. You can also discuss specific situations (e.g. disagreements or investor related issues) and appoint a third party to act as consultant when needed.

In the worst case of a bad fallout of a teammember with significant shares, it will be considerably harder to negotiate terms without your shareholders loosing trust in you and your company.

If you want to learn more about it, contact us.

Do you have any experiences or insights related to leaver clauses in equity agreements? 

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