After spending weeks researching the best way to set up the business, I was thrilled to find the Law 101 For Startups – with Bill Schreiber of Fenwick & West interview at Mixergy. For anyone founding a startup, the interviews on Mixergy.com are gold. The interviews are always a bit on the long side, but Andrew Warner asks all the right questions – the ones I would want to ask as a new founder. Andrew had a successful startup and describes mixergy as “the site I wish I had”. For me, it’s the site I’m glad I found.
Section 1 – Get It documented
Make sure the company owns the Intellectual property (anyone who provides services in any capacity should sign agreements)
Be clear with employees and vendors on relationship.
Capitalization: Venture Capitalists want 30-60%, want the owners to own the majority, and want to know who else is involved
Consider vesting stock. If you decide to vest stock, there’s an important form to file with the IRS.
Section 2 – Business Entities and Taxation
Bill Schreiber recommends S-Corp over LLC. S-Corp advantage is ease of granting stock options. The catch: no foreign investors, single stock type (no preferred stock).
Transforming S-Corp and LLC to C-Corp is a tax-free transaction. UNLESS you have negative net assets (more liabilities than you have assets). This is “the only risk”.
Advice: Create the business opportunity offshore (parent or subsidiary). All sales generated outside the US, the US will not tax.
Section 3 – Stock
Convertible notes are the way to go.
Touches on typical terms for stock equity rounds. Valuation, liquidation preference, how board is set up, rights of preferred stockholders, etc.
Liquidation preference = how much benefit preferred stock gets at the expense of the normal stock.
Participating vs. non-participating preferred stock.