For all sorts of reasons, and in all sorts of ways, some cofounder relationships flounder. One in four VC-backed startups see a founder leave within four years, according to Carta.
Sometimes it gets ugly, other times it’s amicable. But when it happens, there’s one thing that can hurt companies long-term: equity retention. The circumstances around a founder leaving, and any equity they retained, will be one of the first things potential investors ask you about. And it can be a negative signal that might cost the company down the line.
To protect from that, remaining founders should consider negotiating a windfall clause with the departing founder, which sees them give up all their equity in exchange for an agreed sum of money if the company is bought or goes public in the future.
Money for nothing
What does a leaving founder most want from their retained equity? The prospect of a payout in the future. A big chunk of it for no risk, or further effort. However, them holding on to equity might reduce the prospect of the company raising money in the future and impact the valuation investors are willing to give you because it may signal past, and possible future, disharmony. That reduces the probability of that equity converting to a payout and, even if it does, the amount the leaver could receive.
The leaving founder might also have to defend their stake against potential investors seeking to disproportionately dilute it, and deal with ‘equity admin’ such as tax declarations.
The leaving founder may also value having founded, and helped build, a successful business — a story bringing them both pride, and future opportunities. Successful founders are rare, and will always be in great demand. This legacy is a high value component often forgotten by the leaver.
The leaver has both money and legacy at stake, and holding equity may reduce the probability of both. The remaining founders have that at stake too. However, they might not be able to buy the leaver’s equity or only at a price that will devalue the company.
The windfall clause
A windfall clause, which replaces equity with a specific payout if the company exits, can be the solution to the headache above. It also gives the leaving founder better odds of a payout because the equity has gone. It may also give the leaver a greater sense of control that convinces them to accept the offer — and at a lower value than the equity might eventually be worth.
The windfall structure has other advantages over equity. What happens if the company isn’t sold or floated after, say, five years? Equity offers only the chance of a dividend. Instead a ‘profit clause’ could instead be triggered with the agreed windfall paid in installments.
The windfall can be index-linked against inflation too. This, and the ‘profit clause’ give it a level of insurance, and probability, perhaps more like a state-backed pension. One the remaining founders don’t get but which costs them nothing in the immediate term and reduces risk to growth.
The negotiation process
Let’s take an ambitious tech company with a post-money valuation of £10m. Three founders hold 25% each and, in an amicable separation, the leaving founder drops to 12.5%. The returned 12.5% can be reallocated, but the retained equity issue remains.
Like all complex negotiations it’s both what you say and the order that you say it. The remaining founders can start by outlining to the leaver the risks to the company’s success if they keep the equity. Emphasize the lower chances of funding and strong valuation.
Add legacy as another value at risk. It is a new, more intimate, topic so timing is key. Alter the way they see the value at stake, then the risk of additional equity dilution and the effort to defend against it (plus admin). Alter the picture of an equity payout as low effort / high reward.
Give time for the value and legacy concepts to be absorbed. Let any emotion be gradually replaced with honesty. It should be a safe conversation but with a cold, hard, focus on the leaver’s real concerns and interests. Subtly educate them on those interests, and the obstacles.
Let each piece land, one by one, with time in between, before outlining the answer, which might not be logical to them immediately. Then present the windfall clause as an alternative way to increase the probability of both money and legacy, for very little effort.
The number and close
If they are ready, move to the windfall figure. The obvious starting baseline would be the last round’s valuation. In this example that’s still a hefty £1.25m, which is better avoided. How? By ignoring the negotiation principle that you never make the first offer.
Instead, the remaining founders should suggest a number. Any decent number will feel more raw and real, especially if it’s inked on an agreement seen as more likely to materialise. “How about £300k?”
If £300k gets them talking, but isn’t enough, then use the profit clause and index-linking. Frame it as an additional concession which reduces and shares risk and makes it feel like an upgrade on equity.
Cap it at up to £500k. If they insist on the £1.25m baseline, then argue for half of that— £625k, even £800k, is still no cost to remaining founders now and a small proportion of any decent exit or payment off a healthy balance sheet.
The windfall is a win-win framework for founders, in a negotiation where they so often tragically all lose.
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