28 Jan Basics & Beyond: An Annotated List for Startups #4-6
This post continues the list we started a while back, and contains three more tips for entrepreneurs looking to create, expand and ultimately trade their small businesses for mountains of cash. To refresh the reader: items #1-3 on the list included some very macro-level business basics like connecting with professional service providers you trust, keep good records and approaching target markets with a critical, as-dispassionate-as-possible eye. Items #4-6 get a little more granular, and focus on early-stage business operations.
Formation/Operation to Minimize Frustration
- Don’t get cute with entity choice. Your business may be innovative, but that doesn’t mean your fundamental business structure has to be different from one of the tried-and-true available options. We at Neider & Boucher are admittedly evangelists of the limited liability company (LLC) model “ heck, we helped write the law “ but it really is a great model for many nascent companies. You get to avoid a lot of the formalities of traditional corporate law, and you have incredible freedom to write the rules of how your company operates. To be fair, though, C corps are still popular and relevant, especially if you ask some investors. So, LLCs and C corps are great options for the vast majority of companies. But what about S corps? Limited partnerships? Limited liability limited partnerships (really a thing, honestly)? NO. Except in verrrrrrry limited circumstances where an S corp makes sense for tax purposes (your lawyer and accountant can arm wrestle over the advisability of this move), you’re better off not trying to be innovative when it comes to setting up your company.
- Write the rules in plain English and make sure everybody understands them. If you form an LLC with partners, then you need an operating agreement. Although technically not mandated under Wisconsin Statutes Chapter 183, you’d be silly not to have a comprehensive document that lays out how the company was created, who owns it, how those people or entities govern it and what happens when interests in the company change hands “ when somebody dies, goes bankrupt, sells equity, etc. An operating agreement addresses all of these things, and more. The key, here, is to work closely with those trusted advisors of yours to ensure that you understand the details of what will likely be a rather long document. Ask questions “ lots of them. If something doesn’t sound right, seek clarification until you can explain the purpose behind the provisions.
- Set ground rules for ownership. This goes hand-in-hand with having a clear, thorough operating agreement: make sure all owners/founders/members understand (1) what they own; (2) what they do to earn/maintain that ownership; and (3) what happens if they fail to fulfill those obligations. It’s tempting to split up equity on Day 1 without first setting expectations, but be circumspect in this regard. Consider what might happen if one of three founders decides not to keep working for the company “ what happens? Or if one or more member contributes considerably more time/effort/money to the cause than his or her counterparts? Consider a vesting schedule or some other restriction on ownership. At the very least, be thoughtful and strategic, and understand that the good times on Day 1 might not feel so good on Day 1,000.