Legal Updates

Exchanging a founders agreement draft between startup entrepreneurs may indicate previous oral understandings

January 5, 2022

Two entrepreneurs, who were also good friends, set up a startup venture and verbally agreed on the future distribution of rights between them. Two years later, at the drafting stage of a founders agreement, one withdrew from the original agreements and set up by himself a company for the venture.

The Court held that an obligating oral agreement exists and the deprived entrepreneur is entitled to 10% of the company shares. Under Israeli law in the absence of a legal provision or a specific agreement between the parties which states otherwise, there is no exclusive formal way of concluding a contract. In order to examine the question of the existence of an oral contract, one must examine whether the conduct of the parties in practice indicates the existence of intention and specificity - whether a reasonable person who would have been exposed to the other party's conduct would have concluded that the other party has decided to enter into a contract. Here, the parties are two friends and therefore it made sense that they would not formally operate in the initial stages of the startup. Over the years the deprived entrepreneur invested his time and energy in the startup and worked in a significant position without receiving compensation, in contrast to other employees, which indicates an intention to receive future compensation by way of ownership rights in the company. In addition, the deprived entrepreneur was presented to third parties as a “founding partner” and as the COO of the startup, as un the founders agreement draft. The fact that a draft was exchanged according to which the deprived entrepreneur would hold 9.99% of the shares is also an indication that the parties saw their relationship as binding even before it was drafted as a contract and that even before such time there were understandings between them regarding the rights. Therefore, the deprived entrepreneur is entitled to 10% of the company shares.