Tonight I attended the ULS Legal Roundtable at the NYU Polytech campus at 160 Varick Street in Manhattan.  The event hosted by Graham Lawlor (@generationg) was a soup to nuts freebie offered by Tedd Lustig of Seyfarth Shaw LLP.  As matter of full disclosure, Tedd is my counsel so obviously I have a biased opinion on incredible success of the event.  Neverthesless I took a lot of notes and would like to share with you what the audience wanted to learn about and what Tedd delivered.  Also, some of the content below comes directly from Tedd’s presentation that was provided to all attendees.

Quick corporate items:

• Follow me on Twitter @startupofficer.
• Startup Officer is looking for business planning services and a PR agency.
• A shout out to blog by BizBriefs (Twitter @bizbriefs) a strategic social media “CONTENT” planner and consultant who guides companies through the Web 2.0 arena while providing meaningful content for each organization he works with.

Topics of Interest Presented by Startups: Process of incorporating, documentation, issuing stock, attractive venture capital, S-Corp vs. LLC, contracts, juggling being a startup while still working a 9-to-5, terms of service/privacy policy, creation and protection of intellectual property, trademarks, copyright, incentivizing employees and partners, fixing prior legal mistakes, sector specific legal issues, takeouts, spin-outs, benefits of a corporate structure, pro-bono legal work, founders agreements, sweat equity…etc.

Introduction by Tedd Lusting: Starting a Company, Legal Pitfalls to Avoid

Why do you want to form/start a company? To separate personal liability from corporate debts and obligations.  To create a structure that is friendly for angel and/or venture capital investors.  Once you decide that your idea is big enough to have customers, partners, employees, supplies, etc, you want to create a corporate structure to shield you from personal liability.  This protection is not available as a sole proprietor or general partnership.  It is created when you form a LLC or C/S-Corporation.  There are also favorable tax consequences as these entities offer passthrough of income to owners.  In order to take full advantage of the corporate protection, you should not only officially become an entity but also operate as one so that somebody  cannot pierce the corporate veil.  This means that you need to have a charter, by-laws, board of directors,  and officers.  These documents (nomenclature for S-Corp is applicable to LLCs as well) show that you are really doing business as something other than the individual and provide necessary protection.

What are the steps in creating a company? While you can create a Delaware entity (or any other by yourself) I recommend that you get a lawyer involved early in your formation to help you through the documentation and filing process.  You can do it yourself for less, but you will be well served by enlisting a professional to help you determine the appropriate corporate form and produce key items specific to your model (non-disclosure agreements, invention assignments, terms of service, privacy policy, founders agreements, etc.)  Next up are public (charter, agent of service and process) and private items (by-laws, stock ledger, Board meeting/actions, equity plans).  Establish an EIN and then take it along with public docs to a bank and open a bank account (again, separate personal and business banking).

Top 10 Pitfalls of Starting a Company:

1. Do not think that legal documents are a substitute for trusting your founders, employees, investors, customer or business partners.  This is a way of saying make sure you have got a grasp on the human part of being a business owner.  Things do go wrong so it’s important to have a cooperative and collaborative set of partners so that you can manage everyone’s expections.
2. Do not make deals too complicated or change the terms of your deals (unless you can afford it).  If your deals/documents aren’t easy to understand it will cost more to draft/review.
3. Do not assume that your Company owns its intellectual property. You need to prove ownership through documentation.  Example here is that don’t let someone else reserve a domain name on your behalf because then they will ask for money to turn it over to the Company.
4. Do not sign license or development agreements without carefully scrutenizing them. The devil is in the details, seek help to review documents and ask questions if you don’t understand a paragraph.  Further, don’t draft every document yourself unless you are proficient.  You may leave out key language of protection or give away exclusive rights without meaning to do so.
5. Do not think that you can just sell anybody stock/equity in your Company. This one is big–there are regulatory laws and procedures to offer and issue stock.  Investors need to be accredited and you need to file with appropriate federal and state agencies.
6. Do not allow your stockholder base to get too large.  The harder it is to communicate, align interests, and get consensus on corporation actions, the more costly/less efficient it will be for approval.
7. Do not allow minority stockholders to cripple the Company.  Similar to point 6, you want to be able to run the Company without having every Tom, Dick, Harry, Mary, Sue and their 1,000 closest friends be able to micromanage.  You can avoid this by having the appropriate stockholder provisions (restrictions) and implement corporate first rights of refusal should they want to sell their shares/interests.
8. Do not let angel investors purchase equity.  Most angels don’t have a true sense of valuation (and neither do you as a new startup) and therefore you do not want to dilute existing investors by accident.  A more appropriate way to treat an investor is to issue a convertible promisory notes that will will have a conversion/price at a later offering date.
9. Do not promise anyone a percentage of the Company.  Again, you don’t know the valuation and you don’t want to be burned in the future by a former employee/founder coming by years later asking for 25% of something that may have no value before but lots now.  Instead, issue shares in a formal agreement.
10. Do not give unrestricted stock to founders.  Instead have a provision whereby the longer a person stays, the more liquid and and less restricted the stock becomes.