1. Common Entrepreneur Mistakes
Presented by Bart Greenberg
Haynes and Boone, LLP
Lloyd Greif Center for Entrepreneurial Studies
Marshall School of Business, USC
May 25, 2011
Š 2010 Haynes and Boone, LLP
3. The âDe Factoâ Partnership
ď§ What is it?
ď§ Problems:
⢠Ownership of IP
⢠Vicarious Liability
Š 2010 Haynes and Boone, LLP
4. The âWrongâ State of Formation
ď§ California vs. Delaware
⢠California is shareholder friendly
⢠Delaware is management friendly
ď§ Special Case of the So-Called Quasi-
California Corporation
ď§ Why You DONâT Necessarily Want to
Be in Nevada
⢠You will most likely pay taxes
⢠The law is not as well defined
Š 2010 Haynes and Boone, LLP
5. Failing to Make the âS Electionâ
ď§ Consequences of Subchapter S Election
⢠Pass-Through of Income
⢠Pass-Through of Losses
âPros
âCons
ď§ DONâT Miss Filing Deadline
⢠RU Dead in the water?
⢠Retroactive S Election?
Š 2010 Haynes and Boone, LLP
6. Keep it Simple!
ď§ Donât Over-Build at Start-Up. Avoid the
Following:
⢠Multiple operating companies or special
business units (Subs)
⢠Related party engineering, development or
service companies
ď§ Restructuring Can Be Expensive and
Involve Negative Tax Consequences
Š 2010 Haynes and Boone, LLP
8. Putting off the Inevitable
ď§ Most Start-Ups Tend to Be Too Quick to
Hire and Too Long to Fire
⢠Donât hire Just because someone will work
for equity or for free
⢠Things will get worse and much more
complicated to unwind
ď§ Avoid Urge to Hire friends & Family
ď§ Avoid Those With âCheckeredâ Pasts
ď§ Recognize Your Own Limitations
Š 2010 Haynes and Boone, LLP
9. Mishandling the Inevitable
ď§ DONâT Violate California Labor Laws
⢠An employee who is discharged must be
paid all wages, including accrued vacation,
at time of termination
⢠An employee who quits must be paid all
wages, including accrued vacation, within
72 hours of quitting
ď§ ALWAYS get releases from liability on
separation (even if you have to pay for
it!)
Š 2010 Haynes and Boone, LLP
11. Failing to Get IP into Company
ď§ Two Typical Approaches:
⢠Contribution for equity
⢠Licensing arrangements
ď§ Factors to Consider:
⢠Protection from creditors
⢠Additional âFields of Useâ
⢠Tax considerations
Š 2010 Haynes and Boone, LLP
12. Creating Clouds on Title to IP
ď§ The âMoonlightingâ Founder
⢠Under Section 2870 of the California Labor
Code, Employer owns IP unless:
âEmployee developed entirely on her own time; and
âEmployee did not use employer's equipment,
supplies, facilities or trade secret information
⢠Exception for any of the following IP, that:
âRelates at time of conception to employer's
business, or actual or demonstrably anticipated
research or development of employer; or
âResults from any work performed by employee for
employer.
Š 2010 Haynes and Boone, LLP
13. Creating Clouds on Title to IP (cont.)
ď§ Other Employment Related Issues:
⢠Get employment agreement in place before
employee starts work
âObligations to execute assignments and to
reasonably cooperate
âNon-solicitation of employees, customers and
vendors
⢠Check for pre-existing duties of confidentiality to
former employer
⢠Ask to see employment agreement from former
employer
Š 2010 Haynes and Boone, LLP
14. Creating Clouds on Title to IP (cont.)
ď§ Issues Relating to âWork for Hireâ (i.e.,
Contractors)
⢠GET consulting agreement in place BEFORE
consultant starts work
⢠Without a suitable agreement, you may
âownâ nothing more than a limited license
to use what was developed, even though
you paid for the work!
⢠Negotiate for ownership UP FRONT, before
a deal is pending
Š 2010 Haynes and Boone, LLP
16. Oral Promises of Equity
ď§ Oral Agreements ARE Enforceable
ď§ The Problems with Oral Agreements are:
⢠Terms are never well defined or fully thought
out
⢠Difficult for employer to disprove claimed
existence of such an arrangement
ď§ âSleeping Dogsâ Tend to Wake Up When
Exit is imminent
Š 2010 Haynes and Boone, LLP
17. Using Equity as Cheap Currency
ď§ Know What is Market. How Much is
Too Much?
ď§ Keep an Accurate Capitalization Table
ď§ Look for Alternative Ways to Finance the
Business: Bootstrap!
ď§ DONâT Forget About Compliance with
Applicable Securities Laws
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18. Not Enough Strings Attached
ď§ Use of Restricted Stock and Vesting
ď§ ALWAYS use a probationary period
ď§ Repurchase Rights Upon Termination
ď§ All Equity Should Be Made Subject to a
Shareholdersâ Agreement
⢠Restrictions on Transfer
⢠Rights of First Refusal
⢠Repurchase Rights on Trigger Events
⢠Tags, Drags and Shotguns
⢠Proxies and Voting Agreements
Š 2010 Haynes and Boone, LLP
20. What Corporate Formalities?
ď§ Hold and Properly Document Meetings to
Authorize All Requisite Corporate Actions
ď§ Maintain and Keep Separate:
⢠Minutes Books & Accounting Records
⢠Bank Accounts
⢠Insurance & Licenses
⢠Contracts and Leases
⢠Letterhead and Stationary
ď§ Donât Run Personal Items Through the
Company
Š 2010 Haynes and Boone, LLP
21. Consequences to So Maintain
ď§ Alter Ego Liability (aka âPiercing of the
Corporate Veilâ) to Third Parties
ď§ Contracts May Be Voidable at Option of
Third Parties
ď§ Liability to Equity Holders for Breach of
Fiduciary Duties
ď§ The Company May be âUnfundableâ
Š 2010 Haynes and Boone, LLP
23. Underestimating Capital Requirements
ď§ Make Sure Your Projections Are Sound
(Then Double Your Cash Requirements!)
ď§ Make Sure Your Capital Sources are For
Real â Get it in Writing!
ď§ Think Long and Hard About Quitting
Your Day Job
Š 2010 Haynes and Boone, LLP
24. Seeking Capital Too Early
ď§ Build the Business First, Then Seek
Capital
ď§ DONâT Lose Focus and Permit the
Business to Suffer While You Seek
Capital
ď§ Only Seek Capital From Appropriate
Sources
Š 2010 Haynes and Boone, LLP
25. Wasting Time by Spinning Wheels
ď§ GET Educated; Learn What is Market
ď§ Network with Appropriate Referral
Sources
ď§ DONâT Work with Finders Unless You
Have a Referral from a Trusted Source
⢠They will gladly take your money
⢠They could waste precious time
Š 2010 Haynes and Boone, LLP
26. No Contingency Plan in Place
ď§ ALWAYS Have a Back-Up Plan
ď§ Pull the Trigger BEFORE it is Too Late
Š 2010 Haynes and Boone, LLP