The recent announcement of Sam Altman’s firing as CEO of OpenAI, and his subsequent re-hiring after his team took a stand, raises several questions about the vulnerabilities founders may encounter in their own companies and the importance of a solid company culture. Even though this happened in the US where rules are different, we’ll explore here the same situation under UK law, to see how founders can protect themselves from unexpected exits (the kinds they don’t want), and the terms they can include in their legal documents to safeguard their positions.

Background

In light of Sam Altman's sudden removal as CEO of OpenAI, the circumstances surrounding his exit warrant a closer examination. The board's stated reason, a perceived lack of consistent trust and openness, particularly around interests in other projects, fueled speculation around performance issues and supposedly created underlying tensions within the organisation. Just days later, he was reappointed after a huge number of employees threatened to quit if he wasn’t rehired.

However, whilst in this case strong company culture and relationships helped to restore Altman in his role in the Company he founded, that is an anomaly and this backdrop serves as a reminder of the legal risks that founders, even in the most innovative and influential enterprises, may encounter.

How can a founder be removed from the company they created?

A hired CEO, after a company is founded, could be fired in the same way that any employee is fired following standard employment and HR procedures. This can be linked to performance issues or other breaches of contract.

A founder however, may think that given they started the company and see it as their company that they cannot simply be fired from it - and fair enough. However, it is important to remember that the concept of ‘possession’ of a company is linked to share ownership. When shares are granted to investor, the company is also ‘their company’, proportionate to their shareholdings.

In Sam Altman’s case, whilst we don’t know the precise facts, the order of events will have followed this pattern:

• Co-founders dilute their equity through huge investment rounds, meaning that they would have gone from having co-founder percentages to significantly lower equity percentages.

• Co-founders then only own a minority of shares.

• The company is no longer their company technically and is majority owned by investors.

• As part of the company’s ongoing fundraising, external directors would be appointed to the board of directors, which has day-to-day responsibility for running the company and making key decisions. Each co-founder would potentially also then be a minority on the board and may be outvoted.

• The majority of directors, following the terms of the company’s investment and shareholders agreements, have the authority to remove a co-founder from their position.

• Generally, and particularly in smaller companies than OpenAI, shareholders would also be required to vote as a majority to remove a co-founder.

The question is whether in other circumstances, for UK startups, a founder can be protected from this happening.

Legal Rules and Documents Where Key Terms are Set

The default legal position is that a director can be removed by a majority of shareholders voting in favour of the removal. They sign a resolution (i.e. a short document) confirming their vote. However, generally legal documents, set out below, can contain exceptions to this rule to safeguard founders’ positions.

The two fundamental legal documents where terms are set with investors, including around founder protections and investor rights are (1) the Shareholders Agreement, and (2) the Articles of Association. These documents provide a flexible set of rules that adapt to the company's evolution, responding to changes in ownership, leadership, and decision-making.

At earlier stages, when a founder clearly retains more than 50% and they (or founders together) have a majority on the board of directors, the risk of investors being able to force a founder exit is very low.

However, once a founder or co-founder is under 50% after having received significant investment, they should consider what protections they have in their documentation and may want to pre-empt this happening before it becomes harder to negotiate.

Shareholders Agreements

A shareholders agreement governs each shareholder in a company’s relationship with the company, whether as a founder, investor, advisor or otherwise, and their holding of shares in it.

Amongst various other matters, in this context a shareholders agreement will address explicitly the rules around removing a director or founder from their role in the company.

For example, it can require that:

• removal of a founder requires a ‘special’ majority of shareholders (e.g. 75%) rather than the usual 50%, or

• specific individuals’ or groups’ consent to remove a founder, even if a majority or a special majority vote to remove, or

• that a founder can only be removed from their role for specified reasons and not arbitrarily; or

• so long as a founder has X% of shares and haven’t done anything badly wrong, they can be a director.

By laying out clear decision-making rules, the shareholders agreement provides clarity and certainty around how what can happen in different situations and whose consent is required for significant things to happen. In particular, explicit conditions for a founder's removal and the grant of entrenched rights ensure founders can't be ousted without valid and justifiable reasons under UK law.

In this way, it can reflect the company's values, with pro-active protection of founders’ interests amidst the company’s continued expansion, and equity dilution.

Articles of Association

Complementary to the shareholders agreement, the articles of association are the company’s constitution, often covering similar points to the shareholders agreement. In earlier stage funding rounds, it is generally sufficient to include all relevant information in the shareholders agreement, rather than adopt new articles of association. In VC funding rounds though, articles of association are included within investment documents, and can contain similar protections as in the shareholders agreement.

Conclusion

The recent events at OpenAI highlight the need for founders to proactively address potential vulnerabilities in good quality legal documents, supported by high quality legal advice.

The difficulty naturally is that when negotiating investment documents, a founder may be reluctant to even raise these issues. Afterall, why would they even think about the possibility of being fired? Surely, the company is only going to be a roaring success and make everyone millions of pounds, right?

Whilst everyone hopes this is what happens, the legal documents are there to cover risks and eventualities, even negative ones. Therefore, it is important to address these matters, and this is also an advantage of working with good lawyers (such as Accelerate Law) who represent your interests.

Accelerate Law is an in-house legal service provider for startups, specialising in supporting startups and investors with secure, efficient and pragmatic legal advice as a core part of their team. Accelerate Law are experts in legal advice for startups and investors, including drafting and negotiating shareholder agreements and articles of association. To get your shareholders agreement and articles of association contact us at silvia.dalcin@acceleratela.co.uk