Subject: Venture Capital
Professor: Mira Ganor
Date: Spring 2013
Textbook: Maynard, Warren: BUSINESS PLANNING: FINANCING THE START-UP BUSINESS AND VENTURE CAPITAL FINANCING
1. Introduction to Business Planning
a. What is “Business Planning”?
i.Entrepreneur must:
1. figure out what type of company will be created (LLC, corporation, partnership)
2. generate business plan
3. locate financing
4. contemplate development of biz idea
b. What is an Entrepreneur?
i.Definition
1. “One who undertakes an enterprise, especially a contractor, acting as intermediary between capital and labor.” – Jean Baptiste-Say
2. Someone who creates value by offering a new product or service, or by carving out a niche in a market that may not currently exist – modern use
ii.The Entrepreneurial Process
1. Feasibility study to evaluate various aspect of proposed biz model
2. go/no-go decision on if idea is sufficiently viable
iii.The Business Plan
1. Blueprint as to how the new business will be created
2. Addresses:
a. legal entity type
b. potential market and method to access market
c. raising financing
i.Sweat equity – entrepreneur earns ownership interest in lieu of wages, self-financing
ii.Angel Investor – wealthy investor who invests some personal funds in exchange for equity interest
iii.Bank line of credit
iv.Venture capital
v.IPO
d. hiring management/other staff
e. where the business will operate
f. business strategy
g. financial information
i.projected cost/revenues
h. executive summary – compelling case for why the idea will be successful (drafted last, but placed first)
iv.Personal Attributes of an Entrepreneur
1. Focus on opportunities – not problems
2. Action-oriented
3. Detailed knowledge of key factors needed for success
4. Seek outside help
c. Thinking Like a “Deal Lawyer” vs. Thinking Like a “Business Litigator”
i.Lawyer as transaction planner
1. understand client’s business objectives so company is well positioned to take advantage of future opportunities
a. ex: plan to take company public? plan to sell biz within # of years?
ii.Ten Most Common Mistakes of Lawyers Representing Start-Up Companies
1. Improper IP Licensing (VII.)
2. Incautiously hiring former employees of competitors (V. and VII)
3. Not conducting timely ™ search (VII)
4. Not properly maintaining organization records (V)
5. Selling securities to nonaccredited investors (IV)
6. Blowing Section 83(b) election (VI)
7. Not adopting an appropriate employee stock option plan (VI)
8. Failing to institute trade secret protection program (VII)
9. Failing to obtain good title to IP (VII)
10. Creating a “cheap stock” problem (VI and IV)
d. Ethical Obligations of “Deal Lawyers”
i.Who is the Client?
1. Multiple Party Representation
a. Lawyer shall not represent a client if the representation involved a concurrent conflict of interest, unless:
i.lawyer reasonably believes the lawyer will be able to provide competent and diligent representation to each client;
ii.representation is not prohibited by law;
iii.representation does not invole the assertion of a claim by one client against another; and
iv.each affected client gives informed consent.
b. Common representation is permissible where the clients are generally aligned in interest even though there is some difference in interest among them.
i.Establishing a business or adjusting a relationship between two clients on an amicable basis
ii.No confidences between lawyer and one party
c. Lawyer shall not acquire ownership interest adverse to a client unless:
i.the transaction and terms on which the lawyers acquires the interest are fair and reasonable to the client and are fully disclosed and transmitted in writing;
ii.client is given opportunity to seek advice of independent counsel;
iii.client gives informed consent
2. Organization as Client
a. Lawyer employed by organization represents the organization acting through its duly authorized constituents
b. Lawyer shall proceed as is reasonably necessary in the best interest of the organization as a whole.
c. Waggoner
i.The court affirmed the grant of summary judgment in favor of defendants, an attorney and law firm, because defendant attorney did not act as plaintiff board member's personal attorney regarding a corporate preferred stock transaction, and plaintiffs, a corporate board member and wife, failed to present a triable issue of fact regarding whether defendants were liable to plaintiff board member as a third party..
3. The Three C’s
a. Competence – sufficient expertise to do work
b. Capacity – resources to meet client expectations and needs
c. Conflicts (absence of)
ii.Business Advice v. Legal Advice
1. Often impossible to distinguish between legal and business issues
a. Proposal: those who are capable of heading off catastrophic losses be charged with the responsibility to do so rather than rationalize looking the other way
2. Don’t break the deal!
a. only raise significant issues? – understand client’s risk tolerance
iii.Lawyers that Invest in Their Clients
1. Is it appropriate for lawyer to take ownership interest in client’s new business?
2. Lawyers can receive equity in exchange for legal services in form of:
a. Warrants – like option that is fully vested
b. Client issued shares in lieu of cash payment
c. Atty defers billing until client receives first round of financing, when lawyer gets stock or warrants
3. Limited by professional rules:
a. Fair and reasonable to client – burden of proof on atty
b. Terms of investment fully disclosed to client
c. Client is advised in writing to seek independent legal counsel
d. Client consents to investment in writing
4. Bar opinions:
a. investing in client aligns attorney’s interest with client’s
5. Pitfalls:
a. Attorney can alienate other clients
b. Prohibition against illegal or unconscionable fees can inhibit upside if lawyer anticipates value of stock to shoot up
c. Can impact lawyer’s professional judgement (ie, bankruptcy filing, disclosure of negative information)
6. Other considerations
a. Securities law
b. Insider trading (lawyer has access to MNPI of company)
c. Professional liability insurance policy may prohibit it
d. Can only be used to pay for actual (not future) services
e.
ration will govern matters involving the internal affairs of the corporation – even if company’s biz ops are located in other state
2. Limited liability shield
a. Directors run company
b. Directors elected by shareholders
i.shareholders have no direct control
3. Tax issue
a. C-corp
i.Separate tax paying entities
1. double-taxation burden
b. Pass-through entities
i.S-corp
ii.Partnership-type entities subject to Subch. K of IRC
v.The Limited Liability Company (LLC)
1. Combines pass-through attributes of partnerships for federal income tax purposes with corporate characteristic of limited liability
2. Three important attributes
a. Limited liability
b. Ability to participate in biz management
i.member-managed
ii.members can delegate authority to outside managers (“manager-managed”)
c. Favorable income tax treatment
3. Why would anyone not use LLC?
a. As a relatively new form of business, common law surrounding LLCs is sparse
b. Partnership law is default for entrepreneurs who do not consult lawyer
c. Corporation law addresses common questions like extent of limited liability, nature of fiduciary duties, scope of duties owed to creditors
b. Non-tax Considerations That Influence the Choice of Entity Decision
i.Costs of formation/operation
1. General partnership
a. Simplest/least expensive (costs go up with partnership agreement)
b. No regular public filings
c. Minimal requirements by states
2. LLC
a. States require Articles of Organization filed with SoS
b. States require operating agreements
3. LP
a. RULPA requires Certificate of Limited Partnership that needs:
i.name of LP
ii.address of office and address of agent for service of process
iii.name and address of each partner
iv.latest date on which partnership is to dissolve
v.any other matters parties decide to include
4. Corporations
a. File written articles of incorporation
b. Adopt written by-laws
c. Elect a board and appointing officers
d. Hold organization mtg of shareholders and then of directors
ii.Liability for biz debts (personal v. limited)
1. GP
a. individual partners subject to unlimited personal liability
2. LLC
