HansonBrigett presents: Legal Issues: A Primer for Start-Up Entrepreneurs

1. Legal Issues:
A Primer for Start-Up
Entrepreneurs
Aging 2.0 San Francisco
September 19, 2018

2. Panelists
Jonathan Storper
Partner
Corporate Department
Leader
Natalie Wilson
Senior Counsel Emerging
Companies Group Chair
2

3. Issue #1 – Entity Choice
• What type of entity is best for my Company?
• Where should I form my Company?
• What legal documents are involved in formation?
3

4. Which Type of Entity Should I Choose?
• Why an entity in the first place?
• C Corps, S Corps, LLCs….
• Tax treatment, among other considerations:
– S Corps and LLCs utilize “pass-through” taxation; i.e. the entities
themselves are not taxed on income. They simply pass the
company’s income or loss on to their members or shareholders.
– C Corps are taxed in their own right at the corporate level, and
then the dividends they pay to their shareholders are taxed as
income. This is commonly referred to as “double taxation.”
• So why not an S Corp or LLC? Because S Corps can’t issue
preferred stock and LLCs are too wishy-washy. These are deal
killers for VCs and sophisticated angels. Also, some venture funds
are not even permitted to invest in LLCs.
4

5. What State Should I Incorporate In?
• Delaware is by far the most preferred state of incorporation.
– The most well-established body of corporate law.
– More deferential to the board of directors (California is more
shareholder-focused)
– Delaware is more streamlined. Can often file and close on same day.
CA can take weeks.
– Venture capital investors routinely insist on non-Delaware corporations
re-incorporating in Delaware as a condition to closing. Doing so costs
time and money, so may as well start in Delaware.
• Is there a downside to incorporating in Delaware? Not really…
– You pay tax in two states. BUT, Delaware franchise tax for early-stage
companies is typically between $350-$500/yr. Franchise tax goes up as
a company grows, but pros typically outweigh the cons.
– Need a registered agent for service of process in DE (around $300/yr)
5

6. What Documents Do I Need?
• Certificate of Incorporation
• Bylaws
• Action by Incorporator
• Initial Board Consent in Lieu of First Meeting
• Initial Stockholder Consent
• Founder Stock Purchase Agreements
– Founders purchase their shares partially in exchange for assigning all of
their IP rights to the company. IP MUST be assigned.
– Shares are typically subject to vesting.
• Equity Incentive Plan and Form of Option Agmt
• Forms of NDA
• Indemnification Agreements
• Advisory/Consulting Agreements
• Employment, Proprietary Information Assignment, and Arbitration Agmts
6

7. B Corp Benefit Corporation
Certification
Obtained From B Lab
Type of Entity
Obtained From a State
7

8. • A certification conferred by the
non-profit B Lab
• A company that meets a high level
of social and environmental
performance AND makes a legal
commitment to consider all
stakeholders
• Any for-profit company in any
country can pursue certification
(LLC’s included)
• A corporate form (taxed like a C-
corp or an S-corp) that has a higher
level of transparency,
accountability and purpose
• A legal entity that has protection
and permission to consider its
impact on all stakeholders, not just
shareholders
B Corp Benefit Corporation
8

9. Big Trend & Opportunity
9

10. Why? Today’s Consumers are Demanding Better
370
503
10

11. How to Become a B Corp
Earn a verified score of 80
points on the B Impact
Assessment
Give the company legal
protection and permission to
consider all stakeholders.
Make a profile showing topline
performance on Bcorporation.net.
80+
To learn more, visit:
www.bcorporation.net/become-a-b-corp/how-to-become-a-b-corp
11

12. The B Corp Community = Good Company to Keep
>2100 B Corporations 50+ Countries 130+ Industries
1 Unifying Goal
12

13. • A certification conferred by the
non-profit B Lab
• A company that meets a high level
of social and environmental
performance AND makes a legal
commitment to consider all
stakeholders
• Any for-profit company in any
country can pursue certification
(LLC’s included)
• A corporate form (taxed like a C-
corp or an S-corp) that has a higher
level of transparency,
accountability and purpose
• A legal entity that has protection
and permission to consider its
impact on all stakeholders, not just
shareholders
B Corp Benefit Corporation
13

14. • Expanded purpose beyond maximizing
share value to explicitly include general
and specific public benefit
• Directors must consider (model) or
balance (PBC) public benefit purpose
and non-financial stakeholder interests
when making decisions
• The legislation requires transparency
and accountability for the expanded
purposes
What is a benefit corporation?
For-profit corporations can opt in by adopting charter provisions in state
business corporation statutes
14

15. Legal Protection for Stated Values
• Safe harbor for directors for multi-stakeholder approach
• Flexibility to prioritize among profits, environment and social
concerns
Exit Strategies and Succession Planning
• Stated values unchanged by sale of minority/majority of stock
• Greater flexibility to identify the "right" buyer and succession
planning
Why Become a Benefit Corporation?
15

16. Misperceptions about benefit corporations
A benefit corporation is a for-profit business entity
that enjoys existing protections in corporate code
***
Benefit corporations are NOT
• Nonprofits
• Taxed differently
• Required to be audited or certified
• Subject to additional liability exposure from third parties
• Prevented from going public
16

17. Issue #2 – How Do I Raise Money?
• What is Preferred Stock?
• What are convertible notes and convertible equity?
• What are some of the common pitfalls I should be aware of?
17

18. Fundraising Basics – Preferred Stock
• Most sophisticated investors (VCs and angels) want to invest
in preferred stock because of the bells and whistles that
typically accompany preferred stock, including:
– Liquidation preference. This means the preferred shares
get paid first in the event of a liquidation or acquisition. It’s
key.
– Preferred dividends.
– Special veto rights.
– Registration rights.
– Rights to maintain proportionate ownership in future
offerings.
– Many others….
• However, preferred stock financings are expensive and
typically involve a lot of documentation.
18

19. Fundraising Basics – Convertible Debt
• Convertible notes are just that: notes (i.e. loans) that convert later in
a preferred stock financing. They are simple, inexpensive, and
flexible
• Typical terms include:
– Interest Rate
– Defining a “Qualified Financing”
– Conversion Price – including discounts and valuation caps
– Mechanics of conversion
– Changes of Control or an IPO prior to conversion
– Many others….
• Drawbacks include the limited amount that can typically be raised,
as well as accruing interest and a maturity date, which can create
uncertainty and the possibility of default
19

20. Fundraising Basics – Convertible Equity
• Very similar to convertible debt in most regards, except no interest
accrues and there is no maturity date
• Common versions include:
– YCombinator’s “Simple Agreement for Future Equity” (SAFE)
– 500 Startups’ “Keep it Simple Security” (KISS)
20

21. Fundraising Basics – Potential Pitfalls
• In early-stage equity financing, be wary of agreeing to strong
investor-favorable terms. You are setting a precedent for later
rounds.
• In issuing convertible debt and convertible equity, beware of
agreeing to differing discounts and valuation caps with
different investors.
• Tip: limit investments to “accredited investors.”
21

22. Questions?
Jonathan Storper:
jstorper@hansonbridgett.com
(415) 995-5040
Natalie Wilson:
nwilson@hansonbridgett.com
(415) 995-5157
22