Positioning Your Start-Up For Success: Advice to Entrepreneurs Forming a Company
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Positioning Your Start-Up For Success: Advice to Entrepreneurs Forming a Company

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Explores choosing an entity, where to incorporate, IP protection, employee and independent contractor relationships, issuing and vesting of equity, issued and reserved shares, and Section 83(b) ...

Explores choosing an entity, where to incorporate, IP protection, employee and independent contractor relationships, issuing and vesting of equity, issued and reserved shares, and Section 83(b) elections.

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Positioning Your Start-Up For Success: Advice to Entrepreneurs Forming a Company Positioning Your Start-Up For Success: Advice to Entrepreneurs Forming a Company Presentation Transcript

  • Positioning Your Start-Up For Success: Advice to Entrepreneurs Forming a Company Joshua D. Fox, Esq. Attorney Advertising
  • Corporate Formation Which type of entity should we choose?  Possibilities: – – – – Partnership Limited Liability Company Subchapter S Corporation Subchapter C Corporation  Considerations: – – – – Tax Liability Number and Types of Owners Funding Plans Under which jurisdiction’s law should we organize? 2 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 2
  • Corporate Formation What Type of Entity Should We Choose? Partnership – “Pass through” tax treatment – No limit on number or types of owners – All owners do not necessarily have limited liability – Not an investor-favored form 3 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 3
  • Corporate Formation What Type of Entity Should We Choose? Limited Liability Company – “Pass through” tax treatment – No limit on number or types of owners – All owners have limited liability – Not an investor-favored form – Cost and time to administer 4 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 4
  • Corporate Formation What Type of Entity Should We Choose? Subchapter S Corporation – “Pass through” tax treatment – All owners have limited liability – Limit on number and types of owners – Limit on classes of equity – Not an investor-favored form 5 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 5
  • Corporate Formation What Type of Entity Should We Choose? Subchapter C Corporation – All owners have limited liability – No limit on number and types of owners – No “Pass through” tax treatment – Investor-favored form 6 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 6
  • Corporate Formation What Type of Entity Should We Choose?  Become a C-Corp if you want to: – Obtain VC funding – Go public – Use equity to compensate employees 7 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 7
  • Corporate Formation Where Should We Incorporate? Delaware 8 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 8
  • Protecting Your Intellectual Property  Who owns IP created prior to incorporation? – You? – People who collaborated with you? – Former employers? – University?  Answer: It could be some or all of the above.  Answer: The Company does not own it (yet). 9 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 9
  • Protecting Intellectual Property  How do we make sure that the company owns all of its intellectual property after incorporation?  Answer: – Assignment of inventions agreements – Non-disclosure agreements All Founders By: All Collaborators All Future Employees – Licenses from third parties (e.g., universities) 10 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 10
  • Establishing Relationships with Employees and Independent Contractors  Protect the company when establishing relationships with founders and early-stage employees and independent contractors, not any single individual  Standardized terms covering – At-will employment (offer letters) – Vesting of equity – Assignment of inventions – Non-disclosure – Non-competition and non-solicitation 11 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 11
  • Issuing Equity Prior to Fundraising Allocation of Equity:  Beware of splitting stock ownership 50/50 among two founders  Eliminate discussion of percentages; Translate into share numbers  Consider contributions to date and expected roles for the future 12 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 12
  • Issuing Equity Prior to Fundraising Dilution:  Plan in advance for equity grants to be made to new hires  Dilution can be a good thing: – Dilution typically necessary to bring in cash or human capital to grow the business – Smaller piece of bigger pie 13 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 13
  • Issued and Reserved Shares  Issued shares recommended = 2 million per founder  Purchase price per share = $0.001 per share  Total amount paid by each founder = $2,000  Purposes of initial cash contributions: – Adequate capitalization (limit liability) – Pay initial filing fees (Delaware incorporation and foreign qualification in other state(s))  Reserve: 20% for stock option pool (1 million shares if two founders with 2 million shares each) 14 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 14
  • Vesting of Equity  Company’s right to repurchase unvested shares of founder stock at original purchase price – Compare repurchase of vested shares at fair market value (reduces incentives)  Protection for co-founders in the event one or more cofounders leaves  Helps ensure that co-founders’ equity better reflects actual contributions  Expectation of VCs and sophisticated investors that founders will stay on to build the company 15 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 15
  • Vesting of Equity  Typical Schedule: Vesting over 4 years – 1 year cliff of 25% and monthly thereafter  Possible up-front vesting as “credit” for service provided to date  Acceleration of Vesting – Option #1: Upon change in control (single trigger) – Generally disfavored by buyers and VCs; Consider precedent; Possible 2550%, then reduction in number of years vs. retain original schedule) 16 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 16
  • Vesting of Equity  Acceleration of Vesting – Option #2: Upon termination without cause (single trigger) – Generally disfavored by company/co-founders and investors (difficulty establishing cause) – Option #3: Following sale of the company, if termination without cause or for good reason (double trigger) – Generally acceptable (even 100% acceleration – often within 12-18 months of sale) 17 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 17
  • Section 83(b) Elections  Founder typically files 83(b) election when issued restricted stock and paying fair market value for stock  Without making election, stockholder has taxable income as stock vests - difference between fair market value of shares that vested and the price paid for such shares  With election, taxed on difference between fair market value of all unvested shares at time of grant and the price paid for such shares – No tax payment when price equals fair market value  Within 30 days of Board approval of issuance  Consult a tax advisor (personal tax matter) 18 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 18
  • Lock-Up and Restrictions on Transfer  Lock-up – Founder agrees not to sell shares during a specified period following an IPO – Typically 180 days  Company Right of First Refusal – If founder wishes to sell stock to a third party, company has the right to purchase the stock on the same terms as those offered by third party 19 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 19
  • Voting Agreements / Rights of First Refusal Agreements / Co-Sale Agreements  Typically put in place in connection with a financing; Do not recommend such agreements among founders before financing - Voting Agreements • Election of Directors • “Drag Along” provisions - Rights of Refusal in favor of stockholders (investors) after company - Co-Sale Rights in favor of stockholders (investors) 20 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 20
  • Conclusions Do the right (simple) things now - you’ll save time, effort and expenses later.  Form the Appropriate Entity  Protect the Company’s IP  Establish Relationships with Employees and Independent Contractors that Benefit the Company  Issue Equity in a Manner that Plans for the Future 21 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 21
  • Contact Josh Fox joshua.fox@wilmerhale.com 781-966-2007 Wilmer Cutler Pickering Hale and Dorr LLP is a Delaware limited liability partnership. WilmerHale principal law offices: 60 State Street, Boston, Massachusetts 02109, +1 617 526 6000; 1875 Pennsylvania Avenue, NW, Washington, DC 20006, +1 202 663 6000. Our United Kingdom offices are operated under a separate Delaware limited liability partnership of solicitors and registered foreign lawyers authorized and regulated by the Solicitors Regulation Authority (SRA No. 287488). Our professional rules can be found at www.sra.org.uk/solicitors/codeof-conduct.page. A list of partners and their professional qualifications is available for inspection at our UK offices. In Beijing, we are registered to operate as a Foreign Law Firm Representative Office. This material is for general informational purposes only and does not represent our advice as to any particular set of facts; nor does it represent any undertaking to keep recipients advised of all legal developments. Prior results do not guarantee a similar outcome. © 2014 Wilmer Cutler Pickering Hale and Dorr LLP 22 © 2014 Wilmer Cutler Pickering Hale and Dorr LLP WilmerHale 22