Executive Employment Contracts: Key Provisions for Startup Success

A solid employment agreement can set your startup up for success. Let’s talk about what to look for when you’re drafting one, and discuss why it’s so important to get it right.

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What is an Employment Contract?

An employment contract is an agreement between you and the employee that defines the terms and conditions of the employee’s role. It covers everything from job duties to compensation, intellectual property rights, and more.

Here’s why a well-drafted employment contract is crucial: imagine you hire Mark to lead your product development department. Things start off great, but after a while, Mark begins skipping work frequently. Two months later, he leaves the company to work for a competitor, claiming ownership of the intellectual property he created while at your company, and even says you owe him $10,000 because of an informal agreement.

Without a written contract, you’re in for a nightmare trying to resolve these issues. But with a written agreement, you would have all these terms clearly defined, avoiding many disputes. For example:

• A noncompete clause could prevent Mark from joining your competitor.

• A proprietary rights clause could state that all IP created by Mark belongs to your company.

• A compensation clause could clearly specify Mark’s pay, preventing any disputes over what was agreed upon.

Types of Employment Agreements

There are several types of employment agreements, but generally, there are two main categories:

1. Lower-Level Employee Agreements: These are typically more standardized and can often be adapted from templates found online, with necessary adjustments.

2. Executive-Level Employee Agreements: These agreements need to be highly customized. Below, we’ll cover the key provisions you should include in an executive employment contract.

Key Provisions of an Executive Employment Contract

Position and Duties

The Position and Duties clause outlines the specific role the executive will fill and the responsibilities associated with the position. Including this provision sets clear expectations for both parties. It is advisable to keep the description of duties broad enough to allow the company flexibility to adapt the role as circumstances change. This can prevent issues if the company needs to reassign duties that may differ from those initially agreed upon.

Example Provision:

The executive shall perform such duties as assigned by the Board of Directors from time to time, consistent with the position of [Title] of the Company.

Why This Matters: Imagine you hire an executive to lead product development, but as the company grows, you need them to take on additional responsibilities related to marketing. If the duties are described too narrowly, the executive could refuse these new tasks, leading to friction or even legal disputes. A broad description allows for greater adaptability, which is essential for a startup.

Additionally, consider whether to include provisions on outside activities. Executives may be involved in other pursuits, such as serving as an outside director for another company or volunteering. To avoid conflicts of interest, you could include a clause requiring the executive to obtain prior written approval before engaging in activities that might distract from their duties.

Why This Matters: Suppose your executive starts consulting for another company without informing you. This could lead to divided attention or even conflicts of interest. A well-crafted provision ensures the executive remains fully committed to your company’s success.

Compensation

Base Salary

This provision specifies the annual base salary that the executive will receive. Be sure to comply with state laws regarding minimum wage, frequency of salary payments, and overtime. Including a provision for salary review—such as specifying that salary adjustments are at the company’s discretion—can help align the executive’s compensation with both performance and the company’s financial position.

Example Provision:

The Executive shall receive an annual base salary of [Amount], subject to review and adjustment by the Board of Directors in its sole discretion.

Why This Matters: If your company’s financial situation changes, you may need to adjust salaries to stay afloat. Having discretion over salary adjustments ensures you can make necessary changes without breaching the contract.

Bonuses

Bonuses are often a significant part of executive compensation and may include annual bonuses, signing bonuses, or performance bonuses. It is essential to clearly define the criteria for earning a bonus, such as meeting specific performance targets. Leaving the bonus decision entirely to the company’s discretion may not be acceptable to an executive candidate, so consider a balanced approach that provides incentives for achieving agreed-upon milestones.

Example Provision:

The Executive shall be eligible for an annual bonus, payable upon the achievement of performance goals as determined by the Board of Directors.

Why This Matters: Suppose your executive believes they met their performance targets but you disagree. Without clear criteria, this could lead to disputes and dissatisfaction. Defining specific performance metrics helps ensure everyone is on the same page and motivated toward the same goals.

Equity Compensation

For startups, equity compensation can be an attractive alternative to high salaries. The employment contract should specify the type and quantity of equity awarded, as well as the vesting schedule. This provision can be crucial for both attracting and retaining top talent.

Example Provision:

The Executive shall receive [number] stock options, which shall vest over a [number]-year period, subject to the terms and conditions of the Company’s equity incentive plan.

Why This Matters: Equity compensation aligns the executive’s interests with the company’s success. For example, if the executive has stock options that vest over four years, they have a financial incentive to stay with the company and help it grow. Customizing the vesting schedule can also help ensure the executive remains committed long-term.

Indemnification and Advancement

Executives are sometimes exposed to litigation risks due to their decisions on behalf of the company. Including an indemnification clause ensures that the executive is protected from personal financial liability arising from lawsuits related to their duties, provided they acted in good faith. You may also consider adding a requirement for the company to maintain Directors and Officers (D&O) insurance.

Example Provision:

The Company shall indemnify the Executive for all losses, costs, and expenses incurred as a result of actions taken in the course of performing duties, except in cases of fraud or willful misconduct.

Why This Matters: Suppose your executive is sued by a third party for a decision made on behalf of the company. Without an indemnification clause, they might be personally liable for legal costs, which could deter top talent from joining your startup. Including this clause helps attract and retain qualified executives by reducing their personal risk.

Clawback Provision

A clawback provision allows the company to recover bonuses or other incentive-based compensation if the executive is found to have engaged in misconduct or fraudulent activities. This provision can provide a level of security for the company, especially in the case of financial restatements or regulatory violations.

Example Provision:

In the event that the Executive is found to have engaged in fraud, misconduct, or actions detrimental to the Company, the Company shall be entitled to recover any incentive-based compensation previously paid.

Why This Matters: Imagine your executive is found to have falsified company financials to meet bonus targets. A clawback provision allows the company to recover bonuses paid under false pretenses, protecting the company’s financial health and deterring unethical behavior.

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Termination of Employment

Termination for Cause or Without Good Reason

This provision should clearly define the grounds for termination for cause. Having a broad definition of “cause” provides the company flexibility in terminating an underperforming executive. Typical grounds include willful failure to perform duties, conviction of a felony, or breach of contract.

Example Provision:

The Company may terminate the Executive for cause, including but not limited to material breach of this Agreement, gross negligence, or misconduct.

Why This Matters: If an executive is consistently underperforming or engaging in behavior detrimental to the company, you need the ability to terminate them without facing significant legal challenges. A well-defined “cause” provision gives you that flexibility.

Termination Without Cause; Termination for Good Reason

Executives often negotiate for the ability to terminate employment for good reason, such as a material reduction in salary or duties. When drafting this provision, define what constitutes a good reason and include safeguards, such as requiring the executive to provide written notice of the specific issue and giving the company a chance to remedy it.

Example Provision:

The Executive may terminate employment for good reason, which shall include a material reduction in base salary or a substantial reduction in duties, provided that the Company is given 30 days to cure the stated condition.

Why This Matters: Suppose the company decides to restructure, leading to a significant reduction in the executive’s responsibilities. Without a “good reason” provision, the executive may feel trapped in a diminished role. This provision allows them to exit gracefully if their role changes substantially, ensuring fairness and maintaining morale.

Change in Control Termination

A change in control provision provides certain benefits if the executive’s employment is terminated after a merger or acquisition. Typically, these benefits include enhanced severance pay. Defining the specific events that constitute a change in control and the related severance benefits is critical to ensuring the executive feels secure about their role during uncertain times.

Example Provision:

In the event of a change in control, the Executive shall be entitled to severance benefits equal to [amount or duration of compensation] if terminated without cause within 12 months of the change.

Why This Matters: If your company is acquired, the new owners may bring in their own leadership team, leaving your executive out of a job. A change in control provision provides financial security, which can be crucial for attracting executives who might otherwise be wary of joining a startup with uncertain future ownership.

Restrictive Covenants

Restrictive covenants are used to protect the company’s interests by prohibiting the executive from engaging in harmful activities after employment ends. These may include:

Confidentiality Provision

The confidentiality provision requires the executive to keep the company’s proprietary and sensitive information confidential. This is crucial to protect trade secrets, client lists, and other sensitive information from being disclosed to competitors or the public.

Example Provision:

The Executive shall not disclose any Confidential Information of the Company, either during the term of employment or thereafter, except as required by law.

Why This Matters: Suppose your executive has access to sensitive customer data and proprietary technology. If they leave the company without a confidentiality agreement, they could share this information with a competitor, causing significant harm to your business. A confidentiality provision helps prevent this by legally obligating the executive to keep such information secret.

Non-Competition Provision

The non-competition provision restricts the executive from joining or starting a competing business for a specific time period and within a certain geographic area after leaving the company.

Example Provision:

The Executive shall not, for a period of [number] years following the termination of employment, engage in or provide services to any business that competes with the Company within [specified geographic area].

Why This Matters: Imagine your executive leaves to join a direct competitor, bringing valuable insights and knowledge of your company’s strategy. Without a non-compete clause, they could use this information to give your competitor an edge. A non-compete clause helps protect your business by restricting such activities, although it should be drafted to ensure it is enforceable in your jurisdiction.

Non-Solicitation of Customers

The non-solicitation of customers clause prevents the executive from approaching your clients to divert their business after leaving the company.

Example Provision:

The Executive shall not, for a period of [number] years following the termination of employment, solicit or attempt to solicit any customer of the Company for purposes of providing products or services competitive with those of the Company.

Why This Matters: Suppose your executive knows your largest customers well and, upon leaving, reaches out to convince them to switch to their new company. A non-solicitation clause helps ensure your customer relationships are protected even after the executive’s departure.

Non-Solicitation of Employees

A non-solicitation of employees provision prohibits the executive from poaching your other employees for their new venture.

Example Provision:

The Executive shall not, for a period of [number] years following the termination of employment, solicit any employees of the Company to leave their employment with the Company.

Why This Matters: Losing a key executive is disruptive enough, but if that executive also takes your top talent with them, it can seriously impact your business. This clause helps protect against such losses by prohibiting the executive from recruiting your employees.

Proprietary Rights

The proprietary rights provision ensures that any intellectual property developed by the executive during their employment belongs to the company. This is especially important if the executive is involved in developing new products, processes, or technologies.

Example Provision:

All inventions, improvements, and works of authorship created by the Executive during the term of employment shall be the exclusive property of the Company.

Why This Matters: Imagine an executive develops a groundbreaking technology while working for your startup. Without a proprietary rights provision, they could claim ownership of this intellectual property, depriving your company of its benefits. This provision ensures that the company retains ownership of all IP created during employment, securing its future growth and competitive edge.

Severability

A severability clause ensures that if one part of the contract is found to be unenforceable, the rest of the agreement remains in effect. It can also authorize a court to modify the provision to make it enforceable rather than voiding it entirely.

Example Provision:

If any provision of this Agreement is held to be invalid or unenforceable, the remaining provisions shall remain in full force and effect. The court may reform any unenforceable provision to reflect the original intent of the parties as closely as possible.

Why This Matters: Suppose a court finds the non-compete provision unenforceable because it is too broad. Without a severability clause, the entire contract could be at risk. This clause ensures that only the problematic provision is modified or removed, keeping the rest of the agreement intact.

Governing Law and Venue

The governing law and venue provision establishes which state’s law will govern the agreement and which court will handle disputes. This can be important for ensuring the contract is interpreted favorably.

Example Provision:

This Agreement shall be governed by the laws of the State of [State], and any disputes shall be resolved in the courts located in [City, State].

Why This Matters: If your company is based in Missouri but the executive lives in Florida, disputes could potentially be resolved in either state. Choosing a favorable governing law and venue helps reduce uncertainty and can provide more favorable outcomes in the event of litigation.

Conclusion

We’ve covered the key provisions that are essential for an executive employment contract. These provisions not only set clear expectations but also protect your company from various risks. When drafting executive contracts, consider customizing each clause to suit your company’s unique needs and consult legal counsel for the more complex provisions, such as severance payments and restrictive covenants

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