Here at Smith Shapourian Mignano PC, we often receive questions from early stage entrepreneurs regarding how to acquire funds for their business. Often, at the time they arrive on our doorstep, these entrepreneurs have a great idea (or at least, an idea in development); have devoted some resources to engineering their idea; and are in preliminary talks with potential investors. To that end, we provide this short and informative blog article about what to do when you’re seeking funding from outside sources.
STEP 1: As obvious as this sounds, it bears elucidation -- you cannot give away equity in your company in exchange for money without creating a corporation and authorizing shares. Most (institutional) investors prefer a Delaware C corporation because Delaware corporate laws are friendly to both companies and their investors, and there is no corporate income tax. So, for the savvy entrepreneur who intends to, or at least wants to preserve the opportunity to, raise venture capital money, incorporating in Delaware is an excellent choice.
As a side note, consider filing/processing time. Filing Articles of Incorporation with the Delaware Secretary of State is easy and quick to do, but it can take a couple of weeks for the hard copies to return by mail to California (absent paying extra money for expedited processing time). Also, for those startups headquartered in California, registering to do business here with the California Secretary of State, and registering to do business in your local county, can also take three to five weeks (with regular processing time). If you do not want to pay any extra money for expedited filings, you should consider the time that you want your business to be “official” and open to receiving money, and then subtract three to five weeks to generate a conservative estimate of the time to incorporate.
STEP 2: If your startup is marketing a product of some sort, it also might be worth your time to consult with a patent agent or patent attorney. Investors want to make sure that you own your technology and that you are not infringing on anyone else’s technology before investing in your company. Our law firm refers to a few patent law firms that can provide you with some preliminary guidance as to whether your technology is even patentable, and can perform a search to ensure that your idea is not already patented by another company.
STEP 3: While issuing shares to founders and early stage employees, you should keep track of what your company is doling out to each person by way of a cap table. Investopedia provides a distinct summary of a cap table her:
A capitalization table is a spreadsheet or table, typically for a startup or early stage venture, that shows capitalization, or ownership stakes, in a company, including equity shares, preferred shares and options, and the various prices paid by stakeholders for these securities. The table uses these details to show ownership stakes on a fully diluted basis, thereby enabling the company's overall capital structure to be ascertained at a glance. Founders are usually listed first, followed by executives and key employees with equity stakes, then investors, such as angel investors and venture capital firms, and others who are involved in the business plan.1
You do not need a lawyer to create a cap table for you, although we do for a number of our clients to help them stay organized. There are a number of free templates online, and outsourced CFO service companies may provide templates and guidance as well. And of course, speaking of getting your finances in order, you can prepare your startup for a successful raise by engaging bookkeepers and accountants early on to ensure that your financial reports and documents are tidy and accurate. Remember -- you’re running a business and Investors like entrepreneurs that know and manage their finances properly.
STEP 4: Finally, you may raise some preliminary funds via convertible note term sheets or SAFE documents. We discussed the differences between these two vehicles, and the securities requirements associated with raising money, here. In California, most startups are raising their pre-seed or seed money via SAFE documents.
Smith Shapourian & Mignano, PC is available to answer any questions or concerns you may have regarding raising money for your startup.
This blog does not constitute solicitation or provision of legal advice, and does not establish an attorney-client relationship. This blog should not be used as a substitute for obtaining legal advice from an attorney licensed or authorized to practice in your jurisdiction. You should always consult a suitably qualified attorney regarding any specific legal problem or matter in a timely manner, as statutes of limitations may bar your claim.
1. See http://www.investopedia.com/terms/c/capitalization-table.asp#ixzz4nrwFfdT5.