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Venture Capital
Santa Clara University School of Law
Kornegay, Robert F.

Venture Capital Law Outline

1) Theories of Financial Contracting:
a) Readings:
i) Theory of the Firm
(1) Notes:
ii) Now is the Time to Reform SOX Section 404
(1) Notes:
iii) Goldman Sachs IPO:
(1) Notes:
b) Lectures:
i) Agency Theory and Financial Contracts:
(1) Corporation is the Nexus of contracts between: (1) Suppliers, (2) Customers, (3) Creditors / Lenders, (4) Employees, (5) Shareholders, (6) Management
(2) Agency theory focuses on the relationship between the shareholder and the manager.
(a) Agency relationship exists where: PRINCIPLE delgates decision making authority to AGENT. i.e. Shareholder/Manager.
(b) GOAL: Create financial contract structures that align INTERESTS of shareholders and managers to MINIMIZE AGENCY COSTS.
(i) Agency Cost: The lost benefit to the Principle because the interest of the Agent diverge from the Principle.
1. SHIRKING – actions by managers that diverge from the interests of shareholders.
(3) The Capital of a Corporation is composed of: (1) Equity Claims of the Stockholders, (2) Debt Claims of the Creditors.
(a) Note: These are generally Alienable and Divisible – Claims on both Assets and Cash Flows.
2) High Level View of the Venture Capital Industry
a) Readings:
i) How Venture Capital Works
(1) Notes:
ii) VC versus Entrepreneur
(1) Notes:
3) Venture Capital: Basic Fund Structure
4) Star-Ups: Basic Organizational Matters
a) Readings:
i) How to Write a Great Business Plan
ii) Legal Forms of Oranization
iii) Legal Protection of Intellectual Property
iv) The Delaware Way: How We Do Corporate Law
b) Lectures:
i) Form of Business Organization
(1) Critical Issues:
(a) Liability of shareholders – entrepreneurs – management for Creditor Obligations of the Business
(b) Tax Efficiency
(i) Extent to which business structure will minimuze aggregate taxes paid in connection with the business
(c) Financability –
(i) Extent to which the business structure will accommodate financing requirements of business
(d) Employee Incentives –
(i) Whether business structure is sufficiently flexible to accommodate some form of equity incentive – participation
(2) FORMS:
(a) Sole Proprietorship
(i) Mom & Pop business – no legal entity involved
(ii) For liability and Tax purposes – the business and the entrepreneur are the same
1. Assets of entrepreneur available to satisfy claims of creditors of the business
2. Earnings taxed at individual rates to the entrepreneur, regardless of whether actually distributed
(iii) No ability to obtain 3rd Party Equity Financing
(iv) Limited ability for equity participation by employees
(b) Partnership
(i) General v. Limited Partnership
1. GENERAL – Joint and several liability. 1 level taxation – Pass through entity.
2. LIMITED: may be financing vehicle but limited by number of participants, transferability
(c) Limited Liabili

ck – no preferred stock
3.Failure to meet the requirements automatically disqualifies company to a SubChapter C Corp status
4. Subchapter S Corp will not work for the purposes of a VC backed Start-Up
1.Both offer pass through of tax attributes – no entity level tax
2.Both offer limited liability to all owners
(e) Pseudo-Foreign Corporation Statute:
(i) CAL GCL § 2115
1. Pseudo Foreign Corporation:
a. 50%+ of shareholders have addresses located in California AND average of the Property, payroll and Sales is more than 50%
b. Application of 2115 invokes the applicability of:
i. §301 – Annual director election
ii. §309 – Directors Standard of Care
iii. §317 – Indemnification
iv. Chapter 1200 – Mergers and Reorganizations
v. Chapter 13 – Dissenters rights
ii) State of Incorporation
(1) Which is more favorable law from the perspective of managements – does anyone care?
(2) California V. Delaware – What are the relevant factors in choosing?
(a) Filing services in Delaware vs. California
(b) Ability of counsel to offer legal options
(c) Pro-Management corporate law
(d) Cost of Reincorporation