Can we raise funds and sign a term sheet without a shareholders agreement?

My co-founder refuses to complete our shareholders agreement. He has always tried to avoid conflict. Every time we come to a contentious issue in the agreement, he doesn’t want to discuss it. We can’t resolve key issues. The lawyer hasn’t been able to persuade him that this needs to be done.

We now have firm offers for $750K seed investment and we need to sign the term sheet. Can we raise funds and sign a term sheet without a shareholders agreement?

I should have educated myself about the legal documents

I never paid much attention to the legal work that was done when we formed the company. There was so much detail it was overwhelming. I assumed the lawyer knew what she was doing so I just signed things.

The first problem arose when the Board couldn’t agree on the terms of an employment contact for our new CFO. Eventually we had to vote and it was two in favor and two against. The issue was the options package.  It turned out that we needed a super majority to appoint a director and distribute options.

We only had four directors so there was no way to break the tie. We finally hired an arbitrator. We appointed the CFO, but two Director harbored deep resentment.

The next problem was when our senior sales manager resigned. The Directors did not want him to keep his options, but the incentive scheme granted them to him after 18 months. The Directors wanted to change the scheme but couldn’t make it retrospective.

The next problem was when we needed 95% of all shareholders to approve a new investment. Three small shareholders responsible for 5.2% of the shares refused. We had to buy them out at a premium.

I wish we hadn't issued voting shares to all our employees

We issued share options to everyone who worked for us when the company was 1 year old. We did the same in years two and three. We had over 150 individual shareholders who lived all over the world. We had to make sure we kept track of them because we needed them to vote on company matters and approve the annual report. This was time consuming and we had already lost track of 12 people who held 7% of the shares.

We were approached by a large institutional investor who wanted to buy a majority share of the company. To approve this investment, we needed 95% acceptance from our shareholders. The investor wants to buy out all small shareholders (under 1%).

It took us three months and we had to hire investigators to locate everyone. There was nearly 2% we never found so it was a close vote to approve the investment.

Our supermajority of 80% made it so that all four directors have to agree

We were drafting the shareholders agreement and people started talking about majority and supermajority votes. I was too embarrassed to ask what they meant and why they mattered. I get intimidated with all the legal stuff and don’t want to slow things down or show my ignorance.

When we needed to raise funds, the agreement said the board of directors could make the decision, but a supermajority was required. Ours was a threshold of 80%. We have four Directors and one refused to vote for the investment because one of the investors had turned him down previously. It was simply bad blood, but there was no way around it for us; we were deadlocked.

Who owns the business?

We met at a hackathon, developed a new business application, and registered a company. We did not have money for a lawyer, so we drafted an agreement ourselves, which set out the shareholding. We all signed it.

There was some work done on the app and there was a rough prototype. We didn’t generate any sales so we went our separate ways. One member of the team continued to develop the app and found a test site. With a little more work it was launched and sold through the Apple App Store. Sales began to pick up and eventually reached $200K in the first year.

The shareholders all meet to discuss what to do. Some wanted to take their share of the profits. The developer said he did all the work and was entitled to a larger share of the profits and that the business needed the cash to grow.

The shareholders were split 50-50 and could not reach a decision. The developer said he was quitting and setting up on his own. The others claimed they owned the intellectual property. Each had a different version of what they agreed to do when they started the business.