In a meeting this week discussing the selection of technical co-founders, I heard the remark that, when the founder has an “idea” and seeks a co-founder to crystallize that idea, he/she owns everything regarding that product. Unfortunately, these are misleading conclusions in the business world.
Let us assume that this founder collaborates on a specific project or endeavor. There is nothing in writing between the 2 “founders”. As I have stated in an earlier blog, the term, “founder”, is not a legal term for corporations or partnerships. The standard legal entities are partnerships, limited partners, C-corporations, Sub-S corporations, and Limited Liability Corporations, but “founder” entities don’t exist.
Under common law, when no written agreement exists between them, two people who enter into a room for a common enterprise will be treated as a partnership, with each partner owning 50%, all else being equal. If the founder with the original idea thinks that he/she owns everything, a judge would never conclude that. Both parties share the profits equally and own equally any property.
Now how important is that “idea”? The USPTO – the United States Patent and Trademark Office – clearly indicates that an “idea” is not a patentable item, unless it is filed, examined and granted. To wit, the USPTO clearly states “A patent cannot be obtained upon a mere idea or suggestion.” So if the founder has an idea and needs that co-founder to materialize that idea, then it is fair to have both parties share equally in the final delivery of the product. And if both founders dispute ownership over the IP without any prior writing between them, any judge will be inclined to declare that there is a common law partnership with everything equally shared.
On the other hand, had there been a written partnership document between them, stating the sharing of costs and profits outside of the 50-50 standard, that relationship will be enforced as such. Another of my blogs talks about stating the relationship in writing precisely when two parties agree to work together. You can state a specific voting power, distribution of profits, allocation of expenses, IP ownership. The partnership articulation should also describe the duties and responsibilities of each party in order to avoid confusion or rancor.
Partnerships are not the only types of legal entities out there. If a “founder” wants to dispense equity over time rather than having a partnership, it is better structured using a corporate entity. One can then formulate a stock option program over several years. Again, the corporate structure has to be defined with stock option programs prior to collaboration. And one could add a shareholder agreement in the event relationships go south over time or when majority shareholders get divorced. A shareholder agreement allows the original shareholders the opportunity of buying the vested shares.
The movie, “Social Network”, is an excellent example of what happens over such undefined, loose relationships: lawsuits, disputes, and misunderstandings. The only way that the attorneys tried to put their hands around the controversy was by presenting email correspondence. Again, I cannot reiterate the importance of defining those relationships early so any controversy or misunderstanding will be nipped in the bud.
When someone thinks of an idea, they try to hire instead an engineer or programmer to develop it. However, this will raise another red flag with the potential application of “work for hire” in these collaborations. “Work for Hire” rule means generally that an independent contractor who creates a product or design and has no “work for hire” exclusion, that independent contract owns the technology, product, or design — even if that contractor had been compensated for the work. The case came about from an artist who designed artwork whose image was later used for mailing stamps, and he sued successfully for the loss of income from the stamp sales. Unless there is writing stating otherwise, the “work for hire rule” states that any independent contractor employed for programming, etc., is the sole owner of the intellectual property.
All these results or issues are avoidable and the solutions are simple – put your relationship in writing. Don’t assume anything. Do some research as to the legal entities you need to develop and establish some documentation between “founder” and independent contractors.