The Legal Checklist For Venture Capital Track Startups

Starting a company and have a blank legal canvas? Already started, but need a legal tune-up? The below Startup Legal Checklist covers the key items that your company needs to get right in order to succeed. This checklist was prepared for companies that plan to raise money from investors, but many of the items are applicable to any startup. Although failure is often celebrated in the startup world, legal failures are not. Hopefully this checklist can save you from some of the big ones! For easy reading, the links throughout the blog post click-through to related blog posts for a deeper understanding.

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Incorporation

1. Review all agreements with former and current employer(s) (e.g. confidentiality, invention assignment, non-solicitation, non-compete).
2. Conduct a basic trademark search on your company name.
3. Form a Delaware C-Corporation (not an LLC)
   • Authorize 10-15 million shares
   • Issue 8-10 million shares to founders (a lesser amount if you plan to add more founders)
   • Set par value to $.00001 per share
   • Use generally accepted incorporation forms prepared by startup lawyers (e.g. bylaws, stock restrictions agreements)
4. File foreign qualifications in the states where company is doing business (e.g. Colorado)
5. Split equity decisively
6. Founders pay cash and assign company-related IP for their shares
7. Founder shares vest over time (e.g. 4 years with 1 year cliff)
   • Founder vesting accelerates upon sale of the company
   • Consider Class F Common Stock
8. Founders file an 83(b) election with 30 days of receiving shares
9. Founders sign Confidentiality & Invention Assignment agreements
10. Setup founder-only board to start
11. Board elects officers (President, Secretary, Treasurer)
12. Prepare and issue electronic stock certificates (Carta)
13. Secure a Federal Tax ID number (EIN) from the IRS
14. Open a separate company bank account and keep personal and business finances separate
15. Hire an accountant

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Human Resources

1. All employees and contractors sign Confidentiality & Invention Assignment agreements
2. All employees are due minimum wage (20% exception)
3. Classify employees carefully
   • Not everyone is a consultant
   • Not everyone is exempt from overtime
   • Unpaid interns (6 factor test)
4. Define all employees “at-will”
5. Document employee misbehavior
6. Consult with lawyer on all terminations
7. Use non-competes sparingly

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Stock Options

1. Adopt a stock option plan upon an equity financing, meaningful revenue, or other increase of valuation
2. Allocate enough shares to the plan for the next 6-12 months
3. Use market studies to determine how many option shares to grant (e.g. advisors 0.15%-1.00%)
4. Set exercise price on option shares based on FMV (409a)
5. Be intentional on whether you issue ISOs vs. NSOs
6. Option shares should vest over time
7. Carefully consider post-termination exercise periods

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Contracts, Generally

1. Good contracts are clear, precise, efficient, and do what they are intended to do
2. Be careful of creating contracts orally, via IM, or email
3. Always be due diligence ready

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Intellectual Property

1. All founders, employees, and contractors sign Confidentiality & Invention Assignment agreements
2. File trademark registrations for brand names
3. File copyright registrations for works susceptible to copyright information
4. Consult with a patent counsel (provisional patent applications can be a less expensive way to start the patent process)
5. Understand implications of using open source software

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Funding

1. Not DIY – securities laws in this area are complex and the penalties for noncompliance are severe
2. Raise money from accredited investors
3. Do not pitch publicly (e.g. Twitter, website)
4. Do pitch privately with 15-20 slides, not a full business plan (see Sequoia Capital business plan)
5. Do not pay finder’s fees
6. Consider convertible equity over convertible debt for seed financings
7. Understand ‘high resolution fundraising’
8. Use generally accepted funding forms: Y Combinator’s SAFE; 500 Startups’ KISS, Series Seed, TechStars’ Series AA
9. Understand funding alternatives (crowdfunding, Kickstarter, revenue financing)
10. Use an investment term sheet to facilitate negotiations and investor coordination (blueprint of the deal)
11. Identify economic vs. control issues (Read Venture Deals)
12. Build a model in Excel to understand the economics of the deal
13. Be stingy with board seats understanding that the board can fire the founders
14. All directors/officers complete bad actor questionnaires
15. File Form Ds with SEC and applicable state divisions of securities

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Exit

1. Be due diligence ready as time kills all deals
2. Negotiate all keys issues at the letters of intent / term sheet stage as leverage usually decreases over time
3. Be very wary of no shop clauses > 60 days
4. Build a model in Excel to understand the economics of the deal
5. Structure the deal to optimize for tax (stock vs. asset sale)
6. Clearly communicate priorities to lawyers so negotiations are focused on the issues that matter

For a downloadable version of this checklist, click below!

Rubicon_Startup_Legal_Checklist.pdf