4 Key Legal Issues for StartUps
As you begin the process of starting a new company, it’s easy to hit the ground running and worry about documenting the process down the road. However, when the company goes to fundraise, there are certain documents that most investors will require prior to finalizing investment. Companies should start thinking about these areas early on. This allows the company to be strategic in how it approaches each topic, rather than responsive when problems arise.
Below are four key legal documents that companies should have in place before approaching potential investors.
Stock Related Documents: These are documents by which the corporation issues you—the founder—and any other members of the founding team any stock in the company. Stock-related agreements let investors know what to expect when buying into the new company. The founder stock agreements tell investors how shares have been issued to the founding team and deals with issues such as vesting, the terms under which a founder can sell shares, who may have a right to purchase the shares, what happens if a founder leaves, and other possible scenarios. Founders should think about these issues upfront, and understand how investors will respond to stock terms. Investors will requires these documents for investment, so companies should think through them early on.
IP Agreements. IP related documents cover any documents which are made between the founders of the company—and any third party working for them—to decide where the rights over workplace items fall. Confidentiality agreements and invention assignment agreements are examples of agreements that fall into this category. In a future blog post, I’ll dive deeper into this to go over any issues that may arise in this process. These establish that the company owns its core intellectual property assets including artwork, branding, logos, processes, and much more.
Cap Table Documentation. A cap table is a summary of who owns what shares in the company and when they were obtained. Keeping the company’s cap table up to date can be a tedious process. Early founders may ask themselves, as a growing company, do I really need to go through the lengths to get on one of these electronic cap table programs? The answer is, it depends. For many companies, costly online tools can be overkill in the early stages. There’s no reason to pay the high fees and get tied up in a software, while an easier process exists. It’s possible to just do a stock ledger that the company’s CFO or attorney maintains. There are also free cap table tools available that companies can take advantage of. We tackle cap tables in depth in other posts. For this item, the key is having an accurate record of the company’s ownership prior to approaching new investors.
Term Sheet with input From Key Advisors. Before you approach a new investor, it’s important to model what a round of funding looks like at different valuations and structures. A company should dedicate some serious time to having a couple of preferred term sheets, with terms they have thought through with key advisors.Even if the company does not draft its own term sheet, understanding the key terminology will give founders a leg up. Thinking through how common terms will impact the company, will give founders an advantage in negotiations and will help weed out investors who may not be a good fit.
Having these documents in place will give founder solid footing to begin approaching investors. When founders have thought through these key areas of the business they can speak with credibility to venture and angel investors. Founders will also better understand where they can negotiate terms and what negotiations may impact their viability long term. Finally, when companies move into the due diligence stage, having these vital documents in place and accurate will help keep the deal on track, prevent investors from pulling out, and keep costs in check.
With this little ounce of loss prevention, founders can be more well-informed, better able to position themselves and the company—and, ultimately, accomplish what they need to be successful. Stay tuned as we conduct a deep dive into each category of these documents to help you build your business!
As you begin the process of starting a new company, it’s easy to hit the ground running and worry about documenting the process down the road. However, when the company goes to fundraise, there are certain documents that most investors will require prior to finalizing investment. Companies should start thinking about these areas early on. This allows the company to be strategic in how it approaches each topic, rather than responsive when problems arise.
Below are four key legal documents that companies should have in place before approaching potential investors.
Stock Related Documents: These are documents by which the corporation issues you—the founder—and any other members of the founding team any stock in the company. Stock-related agreements let investors know what to expect when buying into the new company. The founder stock agreements tell investors how shares have been issued to the founding team and deals with issues such as vesting, the terms under which a founder can sell shares, who may have a right to purchase the shares, what happens if a founder leaves, and other possible scenarios. Founders should think about these issues upfront, and understand how investors will respond to stock terms. Investors will requires these documents for investment, so companies should think through them early on.
IP Agreements. IP related documents cover any documents which are made between the founders of the company—and any third party working for them—to decide where the rights over workplace items fall. Confidentiality agreements and invention assignment agreements are examples of agreements that fall into this category. In a future blog post, I’ll dive deeper into this to go over any issues that may arise in this process. These establish that the company owns its core intellectual property assets including artwork, branding, logos, processes, and much more.
Cap Table Documentation. A cap table is a summary of who owns what shares in the company and when they were obtained. Keeping the company’s cap table up to date can be a tedious process. Early founders may ask themselves, as a growing company, do I really need to go through the lengths to get on one of these electronic cap table programs? The answer is, it depends. For many companies, costly online tools can be overkill in the early stages. There’s no reason to pay the high fees and get tied up in a software, while an easier process exists. It’s possible to just do a stock ledger that the company’s CFO or attorney maintains. There are also free cap table tools available that companies can take advantage of. We tackle cap tables in depth in other posts. For this item, the key is having an accurate record of the company’s ownership prior to approaching new investors.
Term Sheet with input From Key Advisors. Before you approach a new investor, it’s important to model what a round of funding looks like at different valuations and structures. A company should dedicate some serious time to having a couple of preferred term sheets, with terms they have thought through with key advisors.Even if the company does not draft its own term sheet, understanding the key terminology will give founders a leg up. Thinking through how common terms will impact the company, will give founders an advantage in negotiations and will help weed out investors who may not be a good fit.
Having these documents in place will give founder solid footing to begin approaching investors. When founders have thought through these key areas of the business they can speak with credibility to venture and angel investors. Founders will also better understand where they can negotiate terms and what negotiations may impact their viability long term. Finally, when companies move into the due diligence stage, having these vital documents in place and accurate will help keep the deal on track, prevent investors from pulling out, and keep costs in check.
With this little ounce of loss prevention, founders can be more well-informed, better able to position themselves and the company—and, ultimately, accomplish what they need to be successful. Stay tuned as we conduct a deep dive into each category of these documents to help you build your business!
