The startup partners’ pact: What is it?
The Partner Pact, or ShareholderS’ Pact, is a document governing the relationship between partners and their investors. From the outset, it allows all stakeholders to set the rules of the game, including:
- capital (how to distribute the shares of capital)
- exit (in case of a breach of duties or obligations of results, …)
- conflict management (in situations where a partner does not meet his or her obligations, for example)
Overall, the partner pact allows us to anticipate conflictsituations, to anticipate problems, in particular by getting some partners out in a framed manner and protecting those who remain. Above all, it is a mediation tool, and that is why it is important that every entrepreneur understands the issues related to its creation.
The Partner Pact is a document that protects, but also commits each of its signatories to respect a set of very specific clauses
Is there a good time to create his partner pact?
There are several situations that call for the creation of a pact of associates. But what is even more certain is that there is a bad time. First of all, many founders are convinced of the need to freeze this pact from the beginning of their startup, even before the design of their business plan. But, unfortunately, it’s more of a waste of time than anything else, according to Stéphane Paillard, Head of startups programs at Schoolab.
“In the early days of a startup project, the idea is not worth much, and the risk of failure is high for many reasons: there is no point in wasting time, energy and money at this point. “However, it is important from the outset to make a gentlemen’s agreement and to properly divide the roles and missions of each.
Rather than embarking on a time-consuming and often exhausting contracting phase, it is more useful to focus your energy on the essentials: finding your first customers and making your first sales.
On the other hand, it is once the traction begins to be felt at the sales level that the partner pact becomes useful. Indeed, at this stage, there are real assets and interests to protect.
The exception that confirms the rule: partner with an employee or a freelancer
👉The only time it is important to think about a pact at the beginning of a project is if one of the partners receives third-party remuneration (freelance, job centre, etc.) and the other does not. In these circumstances, this implies that one of the two founders is more at risk than the other. Therefore, this situation may justify a share gap between each partner, but it can also be quickly resolved by the payment of a salary by the startup, once the growth is in place and the business plan secure.
How do you distribute the capital of a startup in its partner pact between each entrepreneur?
The associated pact: reconciling the interests of each entrepreneur
The definition of the terms of the partners’ pact can be a source of conflict or tension, as it is one of the things to define the amount of each person’s shares and thus to value individual contributions to the project.
Therefore, this phase requires careful consideration of the decision-making role and the initial value of each stakeholder. But there is no point in complicating the capital-taking structure: for a project to have a chance of success, each partner must contribute to the same value (whether in cash contribution or skills, their contribution to the business plan must be fair).
“I generally advise each startup we support to give partners equal shares: each entrepreneur should bring the same level of value or skills and the homogeneous distribution of capital reflects an alignment of the team founder.” – Stéphane Paillard, Head of startups programs, Schoolab
Managing the entrepreneur-investor relationship
One of the classic mistakes, regularly made in the startup ecosystem, is the race to raise funds. Lack of good information at its disposal; many founders are influenced by public opinion, which values investment and too frequently. As a result, they make mistakes during the contracting phase with their investors.
Game of Clauses: Defining a Partner Pact Between Just Entrepreneurs
Often, the entrepreneur has the impression that the most important thing in a fundraiser is the amount raised and the valuation. But in reality, these are not the most important parameters.
The rules of the investment game and shareholder pacts must be taken seriously
Why the amount is not as large as one might think: because there are subsidy systems, leverage mechanics, CIR (Research Tax Credit), etc., which allow to multiply its raised capital.
Why startup valuation is still misunderstood by entrepreneurs: during a fundraiser, the goal of a startup’s partners is to find a balance between the amount raised, the valuation and the shareholders’ pact (or partner pact). Thus, chasing a high valuation is a costly mistake:
- The higher the valuation, the more clauses investors will add to the pact, which will force partners and teams to achieve high profit targets.
- The more demanding the clauses in the first round of fundraising, the more they will be required afterwards, because the investment funds are based on the existing documents of previous rounds, when formalizing a new fundraiser.
Above all, you have to know how to arbitrate with your investors and associates. Ultimately, this is the best way to create an initial partner pact model with the least restrictive conditions possible for each stakeholder, as they will gradually become so.
Understand the impact of the partner pact on shareholders:
- Scenario 1: Suppose a fund invests 1 Million euros in the company that we will randomly appoint (or not…) Start Up, for a 20% share of capital. Start Up is now valued at 5 million euros, and the investor expects a minimum ROI of x10 (to compensate for the risk of failure of his investments), i.e. a return of 10 million euros for the million invested. So you have to push the Start Up value to 5 million x 10, or 50 million euros.
- Scenario 2: Suppose instead of 20%, the founders negotiate 5%: Start Up’s total valuation rises to 20 million instead of 5, so its value must be increased to 200 million euros!
Wanting to negotiate with your investors about the amounts of capital invested and the terms of its pact is a normal reflex, but you must always keep in mind the reality of the amount owed and the constraints that this entails for your startup.
What is the price of a partner’s deal?
The answer is simple: it depends! Writing a good partner pact is expensive, as the procedure requires the intervention of several lawyers, so the price of a partner pact can quickly reach a few thousand euros.
Whatever the status of the company that wishes to draft its partner pact: SAS, SARL, SPRL, … the terms are broadly similar. However, the SAS is often the legal structure chosen by startups because it remains the least restrictive, the most flexible and most often the least expensive.
Price point – partner pact price:
The average price of an associate pact is quite variable, however, there are online solutions that collaborate with lawyers and offer this type of services for 500 euros or less.
Why involve several lawyers to draft his partner pact?
Often, startup partners have the reflex to hire a lawyer who will manage the legal and tax aspects of their business, and this lawyer is paid by the company. Legally, this situation does not hold up because the lawyer represents the company and not the founders! Ideally, for the pact to truly and equally respect the interests of each, each partner would have to hire a lawyer and each lawyer would have to negotiate the terms. This is the reason for the high cost of a quality pact.
How long is an associate pact?
If no mention is made in the design of the associate pact, then the pact has an indeterminate lifespan and each of the signatories is in its right to terminate it as long as its approach is not in bad faith. This is why it is important to specify the duration of this document, or at a minimum to define tacit renewal clauses.
Partner Pact: Where to find models?
As the Partner Pact is a private and confidential document that contains sensitive information, it is difficult to find self-service examples or templates.
On the other hand, to better understand what the pact entails, we must not hesitate to:
- Soliciting another entrepreneur (or several), asking him for a feedback and the things he/she learned after the fact, which was missing in his pact…
- To learn about the operation of an investment fund, to arm yourself as best as possible before the negotiation phase during its negotiation.
It is also interesting to look at term sheets: the term sheet is the first document written before a lifting, which will list all the conditions listed in the shareholders’ pact, the pact being more focused on the legal aspect.
🌟 Example of partner pact, the resource to know: the term sheet of Series A explained from A to Z, in detail, by the Galion Project. It’s this way!
BONUS Schoolab: Free SAS Partner Pact Model
To access a set of resources including:
- Associated Pact: A free partner pact model.
- Tips: An article on the classic mistakes to avoid when forming his partner pact
To download the free SAS Partner Pact model and our Schoolab bonus,
👉 It’s this way! Free model partner pact (link)
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Going further: understanding the terms of partner pacts
The definitions below come from the detailed analysis of the Galion Project term sheet – a bible to know for any entrepreneur!
“Forced exit clause allowing the majority parties to be able to sell 100% of the company’s capital in the event of the sale of the company. The right of pre-emption is fundamental in all pacts, as it allows for the control of the arrival of new entrants.”
Joint exit clause and joint exit
“Allows the protection of minority shareholders who ensure they benefit from the same liquidity as large shareholders. It should be noted that some investors also ask for a proportional joint exit fee that applies when only a fraction of the securities are sold.”
“The fact that the founders devote the exclusivity of their professional time to the company is generally a key point for investors.”
Partner Pact: Veto
“Investors still demand a veto over the modification of the specific rights attached to their shares, which is all the more understandable since they rarely control the majority of the capital at this stage of the development of the Company. Nevertheless, it is important that this right be collective and not individual. “
“Ratchet is another protection commonly demanded by investors, which generally takes the form of share warrants (BSA) in France, which can be exercised at face value, attached to shares subscribed by investors. The idea of the ratchet is to correct the price of investors in retrospect if it turns out that the valuation of the tower was overvalued by allowing them to obtain additional shares for a symbolic price. “