Incorporating a startup can be daunting for first time founders, but if the company plans to issue stock to employees or raise money from outside investors, a Delaware Corporation is often the way to go. For that reason, this guide focuses exclusively on Delaware Corporations.
How to use this guide
Below is an outline of the 20 things you need to incorporate and start building your company. There are many online services to incorporate in Delaware, but not all include everything a company needs. If you decide to use an online service to incorporate, you can use the list below to confirm they are providing what you’ll need moving forward.
If you decide to hire a lawyer to incorporate, you can use use this guide to make sure the law firm offers what you’ll need to incorporate and build your company.
At this early stage, make sure you’re getting everything the company will need (and future investors will expect) once the company raises money from outside investors. Be conscious that shortcuts and mistakes early on can lead to expensive clean-up costs down the road.
Hiring just any lawyer isn’t a guarantee that incorporating in Delaware will be done correctly. When you hire a lawyer, make sure it‘s someone with experience incorporating companies in Delaware that plan to raise money from venture capital investors (not your uncle’s college roommate that specializes in bird law).
Don’t hire this guy
Below are summaries of the documents needed to incorporate and start building a company.
Note: Several law firms offer versions of these documents for free on their websites.
1. Certificate of Incorporation (“Charter”). This is the initial charter of the company that will be filed with the Secretary of State of Delaware. The charter creates and authorizes shares of each class and series of stock as the company raises money, and establishes their fundamental rights, preferences, and privileges. The charter begins with some basic background info and then sets out statutory requirements including the company’s name, it’s registered office in Delaware, and it’s general business purpose (all boilerplate language). The charter also includes corporate governance matters determined by Delaware law. The company will need to hire a registered agent to receive mail from the state on your behalf (for ~$100 per year).
2. Action by Sole Incorporator. This is a procedural step following filing of the charter to appoint the founder(s) as the initial director(s) of the company.
3. Board Action by Unanimous Written Consent in Lieu of Organizational Meeting (“Action in Lieu”). This document contains the first set of actions that will be taken by the Board of Directors (“Board”) of the company to approve the charter filing, adopt the bylaws, elect the officers, establish a fiscal year, authorize the opening of bank accounts, approve the sale of stock, adopt the initial stock plan, and approve form agreements that will be used going forward.
4. Bylaws. Along with the charter, this establishes the framework or structure for how the company’s board, officers, and stockholders can carry out its respective functions and operations.
5. Founder Common Stock Purchase Agreement (SPA). This purchase agreement covers the sale of common stock to the founder, to be issued for something like $0.0001 per share and usually paid for in cash. Sometimes these shares can be purchased “in kind” with IP that the founder is contributing to the company. The shares typically will have standard four year vesting, with a one year cliff for continued services as an employee or consultant to the company. It’s also typical for this agreement to allow for a 100% double-trigger acceleration, which means that all unvested shares will vest immediately in the case of an involuntary termination (including death or disability) following a sale of the company. Sometimes, a percentage of shares will include single-trigger acceleration, meaning that shares will automatically vest upon a sale of the company (often called a change in control).
6. Founders Preferred Stock Purchase Agreement. Sometimes founders are also granted FF Preferred Stock, which will typically be issued for something like $0.0002 per share (slightly more than the regular Common Stock). These shares would be fully vested at the time of issuance. The benefit of these shares is that they can be cashed out prior to an acquisition or IPO. This can be helpful for founders that want to get some liquidity down the road but prior to an exit. In most cases it makes sense for founders to have 10% of their shares as FF Preferred to avoid adverse tax consequences and because investors down the road won’t want the founders to totally cash out before the company exits.
7. 83(b) Elections. This is a tax filing that allows founders to pay tax on their unvested shares immediately rather than waiting until they vest. It almost always leads to a much lower tax bill. This is probably the most important thing to do correctly when forming a company because it cannot be filed late. The filing needs to be made within 30 days of completing a stock purchase.
8. Proprietary Information and Inventions Agreement (PIIA). The PIIA assigns IP developed by the founder or employee to the company. It’s important for the company to own all the IP created by employees. Otherwise, investors and potential acquirers would be concerned that employees could walk away from the company taking their IP with them and leaving a less valuable company behind. These are signed by the founders, and should be signed by all future employees. If there was IP created prior to the forming of the company, a Technology Assignment Agreement should also be signed by the owner of the IP to assign that IP to the company.
9. Capitalization Table. It’s important to keep a cap table showing each person’s holdings as well as a stock plan pool. This can be done the old fashioned way in excel, or on newer services like Carta and Capshare.
When a company is incorporated, it is common to create a stock option plan from which the company will be able to issue options to new hires as the company grows.
10. Stockholder Consent. In order to form a stock plan, the company will need the stockholders to approve the plan. This stockholder consent approves the initial stock option plan / pool.
11. Stock Plan. The Plan is typically created so that grants and sales out of the plan have standard 4-year vesting, with a one-year cliff, and no acceleration. However, these vesting details can be customized differently for individual issuances. The number of shares reserved in the plan is flexible and can be adjusted with approval of the Board of Directors.
12. Form Option Agreements. Form option agreements are typically provided for future use when making issuances out of the Stock Plan.
Intellectual Property Forms
As the company grows, the following form agreements will be used when creating agreements with various third parties. The company may not need them right at incorporation.
13. Proprietary Information and Assignment Agreement (PIIA). As the company hires employees, it’s important to have each employee sign their own PIIA so that any IP they create while working for the company will belong to the company. This is important because if employees can walk away from a company and take their IP with them, then the company’s value decreases.
14. Consulting Agreement. This document provides that anything a consultant does for the company in the course of rendering the services will be owned the company. It also should includes confidentiality provisions, a non-solicit provision, and a non-compete (limited to the duration of the term of the consulting arrangement). This agreement can be terminated by either party on short notice, and it does not include provisions regarding acceptance of milestones before payment is due, so this would not be the document to use in a more complex development deal. The company’s law firm should have forms for those situations as well.
15. Mutual and One-Way Nondisclosure Agreements (NDAs). A mutual NDA means that both parties to the NDA are restricted in their use of any information covered by the NDA. If the company is the only party disclosing information, then it makes sense to use a one way NDA, which only restricts the use of information covered by the NDA to the non-company party.
16. Offer Letters. Each new employee should sign an offer letter that has been reviewed by the company’s attorney.
Other Things to Think About
17. Qualification to do Business. If the company is incorporating in Delaware, there is a pretty good chance that it will be doing business elsewhere, and the company might have to qualify to do business there. It’s a good idea to check with the company’s attorney to make sure the company is qualified to do business everywhere it needs to be. You may also need to qualify in a given state to open a bank account there.
18. Franchise Taxes. The company will owe annual franchise taxes in each state it’s qualified, and each state will bill directly to the company’s primary business address.
19. Delaware Taxes. There are two ways to calculate Delaware taxes, one test uses the number of authorized shares and the second test assesses the total assets in the state of Delaware. The company only needs to pay the lesser of the two calculations. Delaware will send a tax bill that uses the first test, which will be very high but which the company does not need to pay. If the company does not have any assets in Delaware, the likely tax bill will be in the hundreds of dollars. Filing and payment can be made here and more information about calculating the amount of your franchise taxes can be found here.
20. Employer Identification Number (EIN). This is sort of like the social security number of the company. It’s issued by the IRS and needed for things like opening a bank account. You can apply on the IRS website.