Legal infrastructure, protection and strategies are critical to an early stage company. I have seen great companies get decimated because of legal issues, and mediocre companies survive due to strong legal infrastructure. In this section we will summarize some legal strategies to help you build a great company. My best advice is to involve legal counsel early in your company’s formation. Do not skimp here as it could cost you later.
***NOTE, WE ARE NOT PROVIDING LEGAL ADVICE AND HIGHLY RECOMMEND THAT YOU CONSULT LEGAL COUNSEL IN YOUR STATE FOR PROPER ADVICE. THIS IS SIMPLY A HIGH-LEVEL SET OF CONCEPTS YOU MIGHT WANT TO THINK ABOUT AND DISCUSS WITH LEGAL COUNSEL AND YOUR ADVISERS.
Whew. Now that we got that out of the way…let’s discuss the categories of legal strategies that you will need to address:
1. Company Formation
Whenever I work with early-stage companies, one of the first things to discuss or think about is the correct formation of the company. Think of your company like a building. A solid foundation means you have a chance at the building holding up over the years. Without putting in place the correct infrastructure, it doesn’t really matter what happens after that, as your building will fail sooner than later.
Most of the companies I deal with plan on raising equity capital. If you’re not looking for outside financing, and don’t foresee in the future when you will need money from other parties, you can keep company formation simple by using a sole proprietorship. However, in most cases, the companies I work with are not interested in staying small and growing organically, but rather raising equity or debt capital. So for these types of companies, in most cases, you will need to incorporate. For further review on which type of corporation to form and why, you can see the article on company structure here.
2. Stock Option Plans
Assuming that you have the correct company structure, you may wish to raise equity capital. To do this, you’re going to need legal help. Definitely do not try to do this without strong legal counsel as raising capital is a very precise and potentially litigious exercise. A good corporate or securities attorney will provide all of the documents you need in order to bring in outside capital, and also form an employee stock option pool. My experience has shown that if you have your paperwork in order, and your legal counsel represents you well, investors gain comfort as they see some risk reduction. If you need referrals to solid startup legal counsel, please contact us.
3. Investor Packets and Term Sheets
Here is a sample list of documents that you will need in order to raise private capital:
- Term Sheet
- Private Placement Memorandum
- Preferred of Common Stock Subscription Agreement
- Certificate of Incorporation
- Shareholder’s or Investors’ Rights Agreement
- Right of First Refusal and Co-Sale Agreement
- Signature Page Packet
- More (good legal counsel will prescribe the correct documents for your situation)
4. Intellectual Property
Intellectual property refers to assets owned by your company which may or may not be able to be protected. It’s easier to raise capital, and generally more valuable if you are able to file a patent on your intellectual property.
Some entrepreneurs believe that getting to market first is enough, and depending upon your business, that could be true. However, if you have valuable inventions, you need to find a patent attorney who can research to make sure that your filings do not violate other patents, and that you submit prior art. In addition, once you know that you are clear to file, a patent attorney will take care of ensuring the patent process starts. There are tons of articles on how to file patents and steps along the way, but I found it’s just easier to discuss your intellectual property with a good patent attorney. IP is not a do-it-yourself exercise.
5. Ongoing Corporate Legal Strategies
Having solid legal counsel by your side will make your life a lot easier throughout your journey as a startup company, It’s always good to have a strong relationship with legal counsel who can give you guidance on various corporate issues. Once your business gets large enough, you might even higher inside counsel, depending upon how much legal work, you face on a monthly basis. Consider your legal counsel to be part of your team whether inside or outside of your company.
6. Mergers and Acquisitions and IPO’s
Hopefully there will come a time with your business that you will engage exit strategy opportunities. Whether it’s companies that want to buy/merge with your organization, or you are considering an initial public offering a reverse merger, you will need legal counsel throughout the process. I have found that solid legal counsel will protect you from issues, but more importantly should help to keep negotiations or plans on track.
Also remember that your legal counsel works for you. That means that you can override their decisions, if you choose to. Good legal counsel is there to help you assess risks, but I have also found that sometimes they are so risk-averse that they scare you out of taking reasonable steps. You need to evaluate every piece of advice your legal counsel provides and determine what you would really like to do. Generally with any contract or agreement, my rule is that legal counsel reviews all of the legal verbiage and I take responsibility for all business and financial aspects of the agreement. This way, lawyers help with their area of expertise, legally, but you as the entrepreneur and business person (along with your advisers and board of directors) need to take responsibility for financial aspects of the agreement. Most attorneys are not entrepreneurs by nature, nor have most of them operated divisions or companies on a P&L basis. So be sure to listen, but make your own decisions regarding finance and business.