What is the difference between a founders' agreement and a shareholders' agreement?

A founders' agreement governs the relationship between the people starting the business — equity split, roles, vesting, intellectual property and departure — and is usually signed at or near incorporation. A shareholders' agreement governs the relationship between the company's owners once investors come in, dealing with board composition, reserved matters, transfer restrictions, anti-dilution and exit.

Is a shareholders' agreement binding on the company in India?

Not automatically. Under Section 10 of the Companies Act, 2013, the memorandum and articles bind the company and its members. A shareholders' agreement is a contract between its signatories. In V.B. Rangaraj v. V.B. Gopalakrishnan the Supreme Court held a transfer restriction not reflected in the articles bound neither company nor shareholders; in Vodafone International Holdings BV v. Union of India the Court recorded that it did not subscribe to that view, without expressly overruling it. The safer course is to reflect material rights in the articles.

Should founders' agreement terms be written into the articles of association?

Where a right matters — a transfer restriction, a reserved matter, a board appointment, a pre-emption right — yes. Amending the articles by special resolution at the time the agreement is signed is procedurally straightforward, and it removes the enforceability question entirely.

What is founder vesting and is it legally required in India?

Founder vesting means founder equity is earned over time, usually with a cliff, rather than held outright from day one. There is no statutory requirement for it in India; it is entirely contractual, which makes the drafting decisive. Investors commonly require it at the first institutional round.

What are good leaver and bad leaver clauses?

Provisions determining what happens to a departing founder's equity, distinguishing circumstances of departure — resignation, removal for cause, death, incapacity. A good leaver typically retains vested equity; a bad leaver may forfeit more. The definition of "cause" should be precise, because vagueness in that definition is where disputes begin.

Can founders receive ESOPs in India?

Generally no. Under Section 62(1)(b) of the Companies Act, 2013 read with the Companies (Share Capital and Debentures) Rules, 2014, options may not be granted to promoters, promoter group members, or directors holding more than ten per cent of outstanding equity. A startup recognised by the Department for Promotion of Industry and Internal Trade is exempt from that exclusion for ten years from incorporation, subject to shareholder approval and the other conditions.

What is a drag-along clause and why does it matter to founders?

A drag-along permits a defined majority of shareholders to compel minority holders to sell their shares on the same terms. Founders diluted across successive rounds can become minority holders and be required to sell in a transaction they would not have chosen. The triggering thresholds and any carve-outs are worth negotiating carefully.

What are reserved matters in a shareholders' agreement?

Decisions requiring investor consent before the company may act — commonly issuing shares, borrowing beyond a threshold, changing the business, related-party transactions and a sale of the company. This list is where practical control sits, and it should be negotiated item by item rather than accepted as standard form.

Who owns intellectual property created before the company was incorporated?

Not the company, unless it has been assigned to it in writing. Work created by a founder personally before incorporation remains that founder's unless formally assigned. This is a standard diligence item and a frequent gap where a technical founder built an early version before the entity existed.

What is the difference between full ratchet and weighted average anti-dilution?

Both protect an investor if a later round prices lower. Full ratchet adjusts the investor's conversion price to the new, lower price regardless of the size of the new issue. Broad-based weighted average adjusts by reference to the relative size of the new issue. The dilutive effect on founders differs materially.

What do investors examine in legal due diligence?

Typically: a documented equity split, executed intellectual property assignments covering every contributor, vesting arrangements and the position reached, cap table reconciliation, correctly passed board and shareholder resolutions, and signed documentation from departed founders. Gaps are usually resolved through repricing, indemnities or delay rather than termination.

What happens if the founders' agreement and the shareholders' agreement conflict?

The later document and the articles will generally prevail. Founders who agreed careful vesting terms at inception and then signed standard investment documentation without checking the interaction sometimes find the original terms displaced. The two should be reconciled expressly.

Do two founders with equal shareholdings need a deadlock provision?

It is strongly advisable. A fifty-fifty split with no mechanism for resolving disagreement can leave a company unable to act. Options include a casting vote on defined matters, referral to a third party, mediation, or a buy-sell mechanism.

When should a startup put these agreements in place?

A founders' agreement is best signed at or near incorporation, while the founders are aligned and before any equity question is contested. A shareholders' agreement is negotiated at the first institutional round, and the commercially decisive terms are usually settled during negotiation rather than in the drafting that follows.

Legal Analysis & Regulatory Commentary · Corporate & Commercial

Founders' Agreements and Shareholders' Agreements: The Clauses That Decide What Happens Next

12 October 2026 · Sagar & Sagar Law Offices · 12 min read

Last reviewed: 12 October 2026

A founders' agreement records the terms between the people starting a business — equity split, roles, vesting, intellectual property and what happens if one of them leaves. A shareholders' agreement governs the relationship between a company's shareholders once outside investors come in, dealing with board composition, reserved matters, transfer restrictions, exit and information rights. In India, the critical point is that neither instrument binds the company by itself: the company is bound by its articles of association, and under Section 10 of the Companies Act, 2013 it is the memorandum and articles that bind the company and its members. A right agreed in a shareholders' agreement but never written into the articles may be enforceable between the signatories as a contract and still be unenforceable against the company.

1. Why founders sign the wrong document first

Most Indian startups begin with no written agreement at all. The founders know each other, the equity split is understood, and documentation feels like a cost that can wait until the first term sheet.

It can wait. The problem is what it costs when it stops waiting.

By the time a seed investor conducts diligence, the questions are specific. Who owns the code written before incorporation? Is the equity split documented? Is there vesting, and has any of it vested? Did the founder who left eighteen months ago sign anything? A gap in any of these is not fatal, but it is resolved at the worst possible moment — under time pressure, with the investor holding the leverage, and frequently at the cost of the remaining founders' equity.

The second, quieter problem is that founders who do sign something often sign a template that is a shareholders' agreement in form and a founders' agreement in name. The two instruments do different work, and the difference matters.

2. What each instrument is actually for

A founders' agreement governs the relationship between the people building the business. It is signed early, often before or around incorporation, and frequently when the company has no outside shareholders at all. Its concerns are equity, contribution, roles, time commitment, intellectual property and departure.

A shareholders' agreement governs the relationship between the company's owners. It arrives with the first institutional round. Its concerns are governance, control, protection of the investor's economic position, and the mechanics of exit.

Topic	Founders' agreement	Shareholders' agreement
When signed	At or near incorporation	At the first institutional round
Parties	The founders, usually with the company	Founders, investors and the company
Central concern	Contribution, commitment, departure	Governance, control, exit
Equity	Split, vesting, forfeiture	Anti-dilution, preference, further issues
Control	Decision-making between founders	Board seats, reserved matters, veto rights
Transfers	Lock-in, restriction on founder sales	ROFR, ROFO, tag-along, drag-along
Departure	Good leaver, bad leaver, buyback	Founder lock-in, promoter obligations
IP	Assignment to the company	Warranted to the investor
Survives?	Often superseded or subsumed	Governs until exit or replacement

A founders' agreement does not stop being relevant when a shareholders' agreement is signed — but if the two say different things about vesting or departure, the later document and the articles will usually prevail. Founders who negotiated a careful vesting schedule at inception and then signed a standard investment document without checking the interaction sometimes discover the original terms have been displaced.

3. The enforceability problem every founder should understand

This is the point at which Indian practice diverges from the templates circulating online, and it is worth stating precisely.

Under Section 10 of the Companies Act, 2013, the memorandum and articles, when registered, bind the company and its members. A shareholders' agreement is a contract between its signatories. The question of what happens when the agreement says one thing and the articles are silent has a long and unsettled history.

In V.B. Rangaraj v. V.B. Gopalakrishnan, the Supreme Court held that a restriction on transfer of shares contained in a shareholders' agreement but not reflected in the articles was binding on neither the company nor the shareholders. For years that was the governing position.

In Vodafone International Holdings BV v. Union of India, the Supreme Court recorded that it did not subscribe to that view, observing that shareholders may enter into any agreement in the best interest of the company provided its provisions do not run contrary to the articles. It did not, however, expressly overrule Rangaraj, and High Courts have since gone different ways — the Bombay High Court giving effect to inter se arrangements not reflected in the articles, the Delhi High Court declining to enforce them.

The proviso to Section 58(2) of the Companies Act, 2013 states that a contract or arrangement in respect of transfer of securities is enforceable as a contract. That provision sits within the section dealing with public companies. For private companies — which is what almost every startup is — the position is not settled by statute in the same terms.

The practical consequence is simple, and it is the single most useful thing in this article. Negotiating a right is only half the work. If the right matters — a transfer restriction, a reserved matter, a board seat, a pre-emption right — it should be reflected in the articles of association, by special resolution, at the same time as the agreement is signed. Amending the articles is procedurally straightforward. Discovering, three years later, that a carefully drafted clause cannot be enforced against the company is not.

4. Clauses in a founders' agreement that should never be left out

Equity split, with the basis recorded. Not just the percentages, but what they reflect — capital contributed, time committed, IP brought in, roles. When a split is questioned later, the recorded rationale is what makes it defensible.

Founder vesting. The provision founders most resist and most need. Equity vesting over time, typically with a cliff, means a founder who leaves in month eight does not retain a quarter of the company. There is no statutory requirement for founder vesting in India; it is purely contractual, which makes the drafting load-bearing. Investors will ask for it in any event — agreeing it between founders first means agreeing it while everyone is still aligned.

Good leaver and bad leaver. What happens to unvested — and sometimes vested — equity on departure, distinguishing resignation, removal for cause, death and incapacity. Define "cause" precisely; a vague definition becomes the dispute.

Intellectual property assignment. Everything created for the business, including work done before incorporation, assigned to the company in writing. This is a standard diligence item and a common gap, particularly where a technical founder built an early version personally.

Roles, decision-making and deadlock. Who decides what, what requires unanimity, and what happens when two equal founders disagree. Fifty-fifty splits with no deadlock mechanism are a recurring source of paralysis.

Confidentiality and restrictive covenants. Note the limit: Section 27 of the Indian Contract Act, 1872 renders agreements in restraint of trade void, subject to the statutory exception, and Indian courts have generally declined to enforce post-employment non-compete restrictions. Confidentiality and non-solicitation obligations stand on different footing. A founders' agreement that relies on a broad post-exit non-compete is relying on something that may not hold.

Founder compensation and expense. Modest, but disputes about who was paid what, and who funded what personally, are common and entirely avoidable.

5. Clauses in a shareholders' agreement that decide control

Board composition and observer rights. How many directors each party appoints, quorum requirements, and whether a meeting can proceed without the investor director present. Quorum is where control quietly sits.

Reserved matters. The list of decisions requiring investor consent — issuing shares, incurring debt beyond a threshold, changing the business, related-party transactions, selling the company. This list is the real governance document. A long list can make ordinary operations require consent; a short one may leave an investor without protection. It should be negotiated line by line, not accepted as boilerplate.

Transfer restrictions. Right of first refusal, right of first offer, tag-along and drag-along. Drag-along deserves particular attention from founders: it permits a defined majority to compel minority shareholders to sell. Founders who become minority holders after successive rounds can find themselves dragged into a sale at a price they would not have chosen. The thresholds and carve-outs are worth real negotiation.

Anti-dilution. Protection for the investor if a later round prices lower. Full ratchet and broad-based weighted average produce materially different outcomes for founder equity in a down round. The distinction is not technical detail; it is the difference between dilution and significant dilution.

Liquidation preference. Who is paid first on a sale, and whether the preference is participating. In a modest exit, preference terms can determine whether founders receive anything at all.

Information and inspection rights. Reporting obligations. Unremarkable until they become a compliance burden on a small team.

Founder lock-in and exit obligations. Investors typically require founders to remain for a defined period and restrict founder share sales. These interact directly with the founders' agreement — and are where inconsistency between the two documents most often surfaces.

Dispute resolution. Arbitration clause, seat, governing law, number of arbitrators. Drafted carelessly, the dispute resolution clause produces a dispute of its own before the substantive dispute is reached.

6. The ESOP point founders routinely miss

Startups create an option pool early, and founders often assume they can participate in it.

Under Section 62(1)(b) of the Companies Act, 2013 read with the relevant rule in the Companies (Share Capital and Debentures) Rules, 2014, options may not be granted to a promoter, a person belonging to the promoter group, or a director holding more than ten per cent of the outstanding equity directly or indirectly.

There is an exception that matters commercially: a startup recognised by the Department for Promotion of Industry and Internal Trade is exempt from that exclusion for ten years from the date of incorporation. A founder in a DPIIT-recognised startup who holds a significant stake and is classified as a promoter may therefore receive options within that window, subject to shareholder approval and the other conditions.

Two practical implications follow. DPIIT recognition is not merely a branding exercise. And for a founder diluted across successive rounds, a grant made during that window has a defined shelf life — the exemption runs from incorporation, not from when anyone thinks about it.

7. The moment both documents are tested

Diligence is where drafting is examined, and the pattern is consistent. Investors look for a documented equity split, executed IP assignments covering every contributor, vesting with the position accurately recorded, clean cap table reconciliation, properly passed board and shareholder resolutions, and signed documentation from departed founders.

Where a gap exists, the transaction does not usually collapse. It is repriced, or an indemnity is inserted, or completion is delayed while a founder who left two years ago is located and asked to sign. Each of those outcomes is paid for by the founders.

8. How Sagar & Sagar Law Offices approaches this work

Sagar & Sagar Law Offices has practised in corporate and commercial law in India since 2000, advising companies, promoters, investors and institutional clients on commercial documentation, shareholder arrangements, transactions and the disputes that arise from them.

Advocate Rajeev Sagar, the firm's founding and managing partner, leads this work. His practice covers corporate and commercial matters including company law, contractual and shareholder questions, and extends to the transactional advisory, negotiation and documentation that precede them. He appears before the Supreme Court of India, the High Courts, the National Company Law Tribunal and the National Company Law Appellate Tribunal, and that contentious practice informs the drafting: provisions are settled with reference to how they would be construed if the relationship broke down. Founding partner Sanjeev Sagar was designated a Senior Advocate by the High Court of Delhi in November 2024 and is available as senior counsel in complex and appellate matters.

Three features of the firm's approach are relevant to founders and growing businesses.

Documents are drafted against the dispute they may produce. Vesting, leaver provisions, deadlock, drag-along and dispute resolution clauses are settled on the footing that they may one day be tested before a tribunal. The firm drafts the instruments it litigates.

Enforceability is addressed at the documentation stage. Whether a negotiated right is reflected in the articles, whether approvals were correctly passed, whether a restrictive covenant is enforceable at all — these are resolved when the document is made, not when it is relied upon.

Negotiation is treated as part of the legal work. On a term sheet or an investment round, the commercially decisive terms are usually settled in negotiation rather than in drafting. The firm's involvement typically begins at that stage.

For growing companies and for law firms and in-house teams abroad, the firm also provides structured contract review, abstraction and legal support through its legal process outsourcing practice — useful where a business has accumulated contracts faster than it has reviewed them, and where a diligence exercise requires document-intensive work at volume under supervision.

Related work is described on the firm's Corporate, M&A, Private Equity & Capital Markets, Litigation & Dispute Resolution and Arbitration, Mediation & ADR pages.

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Frequently asked questions

What is the difference between a founders' agreement and a shareholders' agreement?: A founders' agreement governs the relationship between the people starting the business — equity split, roles, vesting, intellectual property and departure — and is usually signed at or near incorporation. A shareholders' agreement governs the relationship between the company's owners once investors come in, dealing with board composition, reserved matters, transfer restrictions, anti-dilution and exit.
Is a shareholders' agreement binding on the company in India?: Not automatically. Under Section 10 of the Companies Act, 2013, the memorandum and articles bind the company and its members. A shareholders' agreement is a contract between its signatories. In V.B. Rangaraj v. V.B. Gopalakrishnan the Supreme Court held a transfer restriction not reflected in the articles bound neither company nor shareholders; in Vodafone International Holdings BV v. Union of India the Court recorded that it did not subscribe to that view, without expressly overruling it. The safer course is to reflect material rights in the articles.
Should founders' agreement terms be written into the articles of association?: Where a right matters — a transfer restriction, a reserved matter, a board appointment, a pre-emption right — yes. Amending the articles by special resolution at the time the agreement is signed is procedurally straightforward, and it removes the enforceability question entirely.
What is founder vesting and is it legally required in India?: Founder vesting means founder equity is earned over time, usually with a cliff, rather than held outright from day one. There is no statutory requirement for it in India; it is entirely contractual, which makes the drafting decisive. Investors commonly require it at the first institutional round.
What are good leaver and bad leaver clauses?: Provisions determining what happens to a departing founder's equity, distinguishing circumstances of departure — resignation, removal for cause, death, incapacity. A good leaver typically retains vested equity; a bad leaver may forfeit more. The definition of "cause" should be precise, because vagueness in that definition is where disputes begin.
Can founders receive ESOPs in India?: Generally no. Under Section 62(1)(b) of the Companies Act, 2013 read with the Companies (Share Capital and Debentures) Rules, 2014, options may not be granted to promoters, promoter group members, or directors holding more than ten per cent of outstanding equity. A startup recognised by the Department for Promotion of Industry and Internal Trade is exempt from that exclusion for ten years from incorporation, subject to shareholder approval and the other conditions.
What is a drag-along clause and why does it matter to founders?: A drag-along permits a defined majority of shareholders to compel minority holders to sell their shares on the same terms. Founders diluted across successive rounds can become minority holders and be required to sell in a transaction they would not have chosen. The triggering thresholds and any carve-outs are worth negotiating carefully.
What are reserved matters in a shareholders' agreement?: Decisions requiring investor consent before the company may act — commonly issuing shares, borrowing beyond a threshold, changing the business, related-party transactions and a sale of the company. This list is where practical control sits, and it should be negotiated item by item rather than accepted as standard form.
Are non-compete clauses enforceable against founders in India?: Section 27 of the Indian Contract Act, 1872 renders agreements in restraint of trade void, subject to the statutory exception, and Indian courts have generally declined to enforce post-employment non-compete restrictions. Confidentiality and non-solicitation obligations stand on a different footing and have been enforced in appropriate cases.
Who owns intellectual property created before the company was incorporated?: Not the company, unless it has been assigned to it in writing. Work created by a founder personally before incorporation remains that founder's unless formally assigned. This is a standard diligence item and a frequent gap where a technical founder built an early version before the entity existed.
What is the difference between full ratchet and weighted average anti-dilution?: Both protect an investor if a later round prices lower. Full ratchet adjusts the investor's conversion price to the new, lower price regardless of the size of the new issue. Broad-based weighted average adjusts by reference to the relative size of the new issue. The dilutive effect on founders differs materially.
What do investors examine in legal due diligence?: Typically: a documented equity split, executed intellectual property assignments covering every contributor, vesting arrangements and the position reached, cap table reconciliation, correctly passed board and shareholder resolutions, and signed documentation from departed founders. Gaps are usually resolved through repricing, indemnities or delay rather than termination.
What happens if the founders' agreement and the shareholders' agreement conflict?: The later document and the articles will generally prevail. Founders who agreed careful vesting terms at inception and then signed standard investment documentation without checking the interaction sometimes find the original terms displaced. The two should be reconciled expressly.
Do two founders with equal shareholdings need a deadlock provision?: It is strongly advisable. A fifty-fifty split with no mechanism for resolving disagreement can leave a company unable to act. Options include a casting vote on defined matters, referral to a third party, mediation, or a buy-sell mechanism.
When should a startup put these agreements in place?: A founders' agreement is best signed at or near incorporation, while the founders are aligned and before any equity question is contested. A shareholders' agreement is negotiated at the first institutional round, and the commercially decisive terms are usually settled during negotiation rather than in the drafting that follows.

This article is general commentary and does not constitute legal advice, nor does it create an advocate–client relationship. The enforceability of shareholders' agreement provisions against a company is an evolving area, and statutory provisions and rules are subject to change. The position in force should be verified before it is relied upon.