Tech Startups (C-Corp)

How do startups usually allocate shares ?

The Gold Standards setup for a Technology Startup is to authorize 10,000,000 shares of common stock for the formation of a startup. From these 10,000,000 shares, 8 millions are usually distributed between the owners according to how they want to split up their percentage ownership.

The other 2,000,000 (2 Million) are reserved in the treasury for future employees, advisors, and sometimes for early investors. Remember, before issuing any shares to non-founder employees, you will need to set up a company stock plan. It’s the law! our in-house lawyer can help you with this at lawyer@stellarformation.com

 

What is Par Value?

Par value is an antiquated concept that comes from a previous era when companies actually issued physical paper stocks and people kept them in bank vaults. Now everything is digital and par value doesn’t matter except for TAXES! For this reason,  we keep the par value as low as possible $0.0001 per share. This allows you to qualify for the minimum Delaware annual tax rate of $350 per year.

 

How many shares will each Founder own?

We ask you what percentage of the company each founder should have, and then we  calculate your shares based on that.

Since we authorize 10 million shares, but make sure to leave 2 million shares in the treasury fo future employees and early investors, that leaves 8 million shares to divide among the intitial founders.

You give us the percentages and then we divide up 8 million shares - it’s simple math.  

 

What are the standard documents for a Tech Startup?

A full company setup for a Tech Startup should have the following documents listed below. These are necessary to issue shares to the Founders, deal with any vesting (especially the Tax side),  set up your structure of governance, protect the company’s intellectual property, and get the ball rolling!

  • Certificate of Incorporation
  • Bylaws
  • Action by Sole Incorporator
  • Initial Board Consent
  • Standard Share Purchase Agreement with vesting, acceleration and drag along rights
  • 83(b) Election Forms
  • Intellectual Property Assignment Agreement
  • Stock Certificate

What is vesting?

Ok. Let’s talk about vesting. Every sophisticated startup subjects the shares it issues to vesting. This is a situation in which you and your other founders receive all your shares upfront. This means you can vote the shares and manage the company as you need. However, for a period of time, the company has a right to repurchase these shares for $1. Over time, this right to repurchase diminishes. After 3 months the company can only repurchase 90% of the shares, after 6 months 80%, etc. After three years (which is the amount of time we recommend for founders) all the shares have vested and the holder owns them fully and outright.

Why do we do this?

So why do we do this? Look, sometimes things don’t work out, for good reasons and for bad. You start a company with a great co-founder, and then the cofounder gets an amazing job offer from Google, or runs off to become a surf instructor in Bali, or you realize after a while that you’re not a good fit.

One of the founders leaves, and the other founder or founders are left holding the ball. What’s worse, you have to find a new co-founder. But what are you going to if you don’t have any shares to offer the new cofounder because the old cofounder left with them? This is where the repurchase right comes in. The Company can claw back the shares that haven’t vested and can offer them to someone new to carry the torch. Vesting protects co-founders from both good and bad situations.

What is the standard vesting schedule that you recommend?

We recommend a three year vesting schedule for all founders with a six month cliff. This means that no stock vests for 6 months, at which point 1/6th of your shares vest. After that, the shares vest monthly for the next 24 months until everything is vested. We think this is enough. When you receive your first major round of investment any sophisticated investor will require that the founders re-start their vesting, so this should be more than enough to get you there.

What is a cliff?

Basically, none of your shares vest for the first 6 months. We think this is fair, because it takes about six months to get everything started and to make sure all the founders are committed to the project. After six months, you get all six months of vesting at once. If someone leaves before the first six months, they don’t leave with any shares. This saves you from losing shares to someone who’s not really up to the task!

I heard 4-year vesting is standard. Why do you only provide for 3 years?

We think 3 years is more than enough for founders, even though 4 years is standard for employee hires.

When you receive your first major round of investment any sophisticated investor will require the founders to re-start their vesting. 3 years of vesting should be more than enough to get you to that first round of investment!

 

What is an 83b Form and when does it have to be filed ?

The 83b form is an option the IRS implemented which allows you to pay taxes based on the initial value of the stock, which is generally $0!

If you don't file this form then, you have to pay taxes on the shares as they vest overtime. This means, if your company is successful, that you might suddenly be hit with a giant tax bill a year or two down the road. 

The 83b form needs to be filed within 30 days after signing the post-incorporations documents. If you have vesting on your Shares, PLEASE PLEASE REMEMBER TO DO THIS!!!

 

What is a Director?

A Director is a decision maker in a company. Together, all directors form The Board of Directors, which is the governing body for a company. Every year at their annual meeting, the stockholders of the company elect Directors to the Board. Delaware law requires that you have at least one director. If you have more than one director, we recommend appointing an odd number of Directors so you don’t end up with a board deadlocked 50-50 board for a major decision.

Each Director has one vote, and all major decisions need to be ratified by the Board. You will need the Board's approval to sell your company. You will need the Board's approval to raise a round of financing. The Board appoints officers of the company like a CEO and approves all matters of major strategic importance.

What is the typical setup?

Delaware law requires that each corporation have a CEO or President and a Secretary.  However, one person can fill more than one role. A Founder can serve on the board of directors and be an officer of the Company (very common). In single founder companies, the founder has three hats: Director and two Officer positions - CEO and Secretary.

In early stage startups, the Founders usually both sit on the Board and act as the officers that run the day-to-day business of the company. However, as the company grows and brings on  investors, outside directors will likely be appointed to the board.

Here’s a typical setup for a two founder startups:

  • Founder 1, Director and CEO
  • Founder 2, Director and Secretary

Why do we need Directors and Officers?

Delaware law requires a CEO and a Secretary for every corporation, as well as at least one Director for the Board of Directors. On a different note, you have to have someone govern the Company. The Board of Directors does this by passing resolutions authorizing the Company, and specifically, the Officers of a company to take certain actions. The officers then sign agreements, contracts, etc. on behalf of the company. It may all seem a bit silly when a company only has a few people in it, but as your company grows, you will be thankful that there are people fulfilling all these different roles. 

 

What is an Officer?

Officers are appointed by the Board of Directors. They are responsible for the management and day-to-day operations of a corporation. Most founders will be familiar with the CEO or President position.

Delaware law requires that every corporation has a CEO or President and a Secretary. Remember, though, a single person can hold multiple officer positions, and we often set up companies with the same person acting as CEO and Secretary.

 

What is a CEO ?

The corporation’s CEO or president is responsible for the overall day-to-day activities of the corporation. Basically, the CEO is the head honcho. (S)He directs the company, subject of course to the Board of Directors who can hire or fire the CEO at any time.

 

What is a Secretary ?

The Secretary maintains the corporate records of the corporation and prepares minutes of board and shareholder meetings. The secretary also provides certification for banks or other financial institutions and provides requested copies of corporate documents.

 

What are other officer positions?

Here are a few other officer positions:

  • Vice president. The vice president fills in when the CEO is unavailable or when the board assigns him or her specific duties.
  • Treasurer or chief financial officer. The treasurer is responsible for the financial matters of the corporation. In early stage startups corporations, this will include daily responsibility for financial matters, keeping the cap table organized, and maintaining the financial corporate records.

What powers do Officers have?

It’s important to remember two significant facts about officers of a Corporation:

  • Executive officers have the authority to legally bind the Corporation to contracts
  • Officers are not personally liable for their acts while acting (lawfully) on behalf of a Corporation 

Afterwards, the powers of each officer depends on the tasks delegated to them by the founders in their role as Directors.

Have any questions? Feel free to ask.

 

Why do I only have 1 Million shares if the Company has 10 Million shares?

This has to do with the difference between authorized shares and issued shares. The Gold Standards setup for a Technology Startup is to authorize 10,000,000 shares of common stock for the formation of a startup. However, for a single founder corporation, from these 10,000,000 shares, we only issue 1 million shares to the Founder.

The other 9,000,000 (9 Million) are reserved in the treasury for a possible future co-foudner, future employees, advisors, and sometimes for early investors.

However, a Corporation is controlled by the ISSUED shares, not the AUTHORIZED shares. So this means, if you own One Million of the One Million issued shares, then you have 100% control over the company.