Although good legal counsel can help you avoid costly mistakes, legal counsel can also be costly to your start-up’s budget. Below are five steps you can take in advance of your first working meeting with your counsel to get the best legal start-up advice while keeping your legal expenses under control.
The more your counsel knows about the goals and strategies of your business, the more efficient she can be. This information can not only help your counsel determine the appropriate form of entity for your business (or if you need an entity at all just yet), but will also allow her to determine when you may need additional legal services so you can plan accordingly. For example, will your business be in development mode for awhile (and, if so, with or without outside business partners), or will you be ready to go to market in a few months (and, if so, through what means of distribution)? Once you and your counsel can anticipate your needs, you can more easily establish a budget for legal expenses that works with your overall cash plan.
Don’t fall in love with any one company name since it may be taken by another company, whether as the name of an entity, a trademark or a website domain name. [See Article Three steps to Owning Your Start-Up’s Name as a Brand.]
3) Think about Ownership.
If you have co-founders, determine the relative stock ownership amounts each founder will have and consider the following:
- Will each founder vest his or her shares? Put simply, will the founders have rights to keep all of their shares if they leave the company at any time? Even if you don’t anticipate obtaining financing from angels or venture capitalists (who will more often than not require founders’ shares to vest over time) consider how you would feel if one of your co-founders decided to leave the company six months after it was established and kept all of her stock while you toiled away making the company a success. Shares that are subject to vesting (meaning they have not yet vested) can be repurchased by the company, usually at their original, unappreciated, value when a founder is no longer providing services to the company. As an example, if a founder’s shares are subject to four year, monthly vesting, then for each month the founder provides services to the company, she will become vested in an additional 1/48th of her founder shares so that by the end of the first year 25% of her shares would be vested and by the end of four years 100% would be vested and no longer subject to repurchase by the company when she departs. While not all founders shares are subject to vesting, typical vesting arrangements require founders to vest over three or four years. However, if you and your co-founders have made progress toward the company’s goals before your company was incorporated and you want some or all of the founders to vest their shares over time, consider having a portion of your stock already vested when the corporation is formed and your shares are first issued, with the remaining portion to vest over time.
- In addition to vesting arrangements, owners of small businesses may consider having “buy-sell agreements” to make sure that shares of the company’s stock do not end up in unfriendly hands and/or to make sure that a founder who is no longer participating in the business does not get the benefit of the value built in the business after she departs. Buy-sell arrangements may provide that if one founder leaves the company, or is still an employee of the company, and would like to sell all or a portion of her already vested shares, or becomes permanently disabled or dies, there is an automatic right of the other co-founders to purchase such founder’s shares at a previously agreed to value (or formula for determining the value).
- Buy-sell agreements tend to be more common among closely held businesses that do not seek venture financing. However, any company can implement a right of first refusal arrangement that requires the company (or the other founders) to have a right to purchase any shares that any founder plans to sell to a potential buyer regardless of whether or not that founder is still an employee of the company to prevent company stock from being held by shareholders you would rather not have.
4) Ask for Form Agreements.
Ask your counsel for form documents for the following, along with instructions about how to use them:
- Employee offer letter
- Employee confidential information and invention assignment agreement
- Non-disclosure agreement (mutual and one-way agreements)
- Consulting agreement.
5) Think about your Commercial Terms.
Similarly, if you ask your counsel to prepare a contract, supply your counsel with all of the business terms you care about. As the general counsel of a public company that had a small legal department, I came up with a form questionnaire, that I still use in private practice today, to elicit from clients the business terms they want from an agreement, including business issues they may not yet have thought of (with some suggested terms based on industry standards), prior to spending any time drafting a contract. Keep in mind that time spent giving your legal counsel information is much less costly than time she might spend guessing about business terms you might want in an agreement.
With contributions from Myrna Schelling.