Mutual Nondisclosure Agreements - A Necessary Component of Your Co-Founder Search
By James J. Mangan
Starting a company can be a daunting task, and many good ideas never get past the "idea stage". One of the main reasons for this innovation stasis is that rarely does one person have all the required skills to take an idea from concept to launch. It usually requires a team. Maybe you have the technical background to create the product, but you will need partners with skills that complement yours. That may mean someone with a different area of technical expertise, someone with strong marketing skills, and perhaps someone with operating and/or financial and accounting expertise to really get your company going. This is why we don't hear the term founder in its singular version very often. Most successful exits begin with a team of founders that have the skills, time and tenacity to bring an idea through the prototype and market validation stages, early financing stages, scaling up and eventually an exit or an initial public offering.
Finding pools of potential partners has never been easier - not only in traditional hubs of innovation like Silicon Valley but also in up and coming areas like the Lodo neighborhood of Denver, Austin, Seattle, and my (new) hometown of Phoenix. You can find weekly if not daily gatherings of entrepreneurs at formal events sponsored by groups such as the Founders Institute or informal gatherings held by groups on Meetup.com. Going through the search process, however, can be a difficult step in your journey. Having ridden in the sidecar with many of my clients during their co-founder searches, I understand the challenges of identifying potential partners and taking the dialogue to the point where you are ready to join forces and create something exciting.
One of the main obstacles my clients face is obtaining a level of comfort where they can discuss their ideas with potential co-founders to a level of specificity necessary for a meaningful discussion. They need to be able to entice a person to consider devoting their time and potentially capital to a project without the fear of giving away too much information before any formal relationships are created with the entity that will implement the business plan. In these cases, I often recommend that my clients enter into a mutual non-disclosure agreement with prospective co-founders once the conversation is expected to reach a level of specificity where such protection is warranted.
Mutual non-disclosure agreements are superior to one-sided confidentiality agreements in that one side will not view themselves at a disadvantage in the dialogue. Presenting a mutual non-disclosure agreement to a potential co-founder is much more palatable and far less awkward than insisting that someone sign a one-sided confidentiality agreement before you order coffee together. It shows that you have an idea you value, but also shows respect to what a potential partner can offer to the venture. It may also cause the potential co-founder to be more forthcoming with respect to what they could contribute.
In my view, a good mutual nondisclosure agreement has to carefully address several key areas. First and foremost is the definition of confidential information. While I generally think it is better to draft contracts elegantly and simply where possible, I tend to be quite verbose when it comes to defining what constitutes confidential information because, quite frankly, quite a bit of information falls into what should be you or your company's proprietary, internal knowledge. In addition to the obvious, such as formulas, algorithms, software in source or object code, and other technical data, confidential proprietary information must include lists of potential customers, suppliers, financial projections, potential strategies, potential fundraising discussions, etc. The definition of confidential information must encapsulate anything that could be used by another party to your competitive disadvantage. In the last mutual nondisclosure agreement I wrote, the definition of confidential information contained 467 words - every one of them necessary and not one of them redundant. Furthermore, it is important to note that there is no one definition that fits all situations. Every business is different. A craft brewery will want to include different terms than a blockchain-based start-up. It is critical that your agreement's definition of confidential information be precisely tailored to your proposed business and any possible offshoots or evolutions of such business.
Another critical aspect of a well-written mutual nondisclosure agreement is the standard to which you will hold prospective co-founders in guarding your confidential information, and vice versa. Many agreements I have read simply state that each party will use the same level of care they do in guarding their own confidential information. But as one of my favorite clients once told me, "The system a lot of these people use to guard their own information is crap!" You don't want your potential partner leaving a laptop unattended at Starbucks when they get up to grab another latte with the algorithm you spent two years developing stored on a thumb drive in that laptop.
It is also important to remember that you will be expected to live up to the same standard of care. While you can set the standard to something along the lines of NSA - black helicopter oversight, I think is reasonable in most cases to use an appropriate objective standard of care that accomplishes your objectives but can be easily shown to have been violated in a litigation context if something goes wrong.
Finally, you must provide a mechanism for the return of any exchanged hard copies of confidential information in the event you decide not to proceed in a business venture with the other party. If you choose to give an option for the parties to destroy any exchanged hard copies, the individuals must certify that they witnessed such destruction (or if one of the parties is a corporation, then an authorized officer must make such certification). This certification will make your cause of action stronger in the event the destruction of the information did not occur and ends up being made public or misappropriated in the future.
It is important to remember that a mutual nondisclosure agreement is not a guarantee. If it is violated, you will have to seek remedy in court, but, the disclosure, and often damage, is already done. However, insisting on such an agreement when discussions with potential co-founders reach a certain level of specificity will clearly outline the parameters for the exchange of any information, and will serve to highlight your seriousness. A mutual nondisclosure agreement, combined with your own self-policing as to what you choose to disclose prior to forming an actual business relationship with your co-founders, should at least provide you with a level of security as you embark on your journey to assemble your team and make your idea a reality.