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Turning Over a New Leaf: Changing the Corporate Identity

A small food company dreamt of selling products that were pure and beneficial to its consumers. With that simple mission, Unadulterated Food Products was off to a start. Years later, when their “snappy apple” flavor was a best-seller, they decided it was time to rebrand as Snapple. Now, doesn’t that just sound better?

Examples of corporate name changes are all around us and the brands we know and love wouldn’t be the same without their renowned monikers:

No matter what motivated these name changes, they were undoubtedly successful. Whether your startup is facing confusion in the market with another product, you simply want to rebrand under a better name, or you need a new face for your startup to become the next big thing, a change of corporate identity may be the best option for you. This process is rather straightforward, but there are legal and non-legal matters to tend to as you navigate this process for your company.

 

Would a rose by any other name smell as sweet?

The first thing to consider as you head down the road towards a corporate name change is what the new name is going to be. Choosing a corporate name can be an emotional and trying experience for founders as they try to find the branding and identity that will best carry their young venture into the green. As you begin this process, be sure to check your state’s website for the listing of corporate names that are taken in your state. You want to be able to choose a new name that isn’t taken and isn’t likely to be confused so that your name change will be approved. This shouldn’t take too much legal or mental muscle. What it will take, though, is some creativity and vision for where you want the company to be as it moves into the future.

While this decision is being made, founders are advised to check out the availability of domain names to pair with the new corporate identity. A web presence is a critical asset to any company in the 21st century business environment; being sure that you can find a domain name that goes along with your company’s new name is essential. After all, how else are curious customers, or potential investors, supposed to make the first dive into finding out more about the startup? Consider what you would associate most with your company, and work out from there.

Websites like godaddy.com or domain.com are useful for doing searches and finding available domain names that you can register for your company. You want to obtain a popular, high-level, domain extension, like a .com or a .net, if possible. While some names may be cheaper to register under alternatives like .space or .solutions, these extensions tend to receive less traffic from users, and users who assume a .com or .net address won’t necessarily be redirected to your low-traffic extension. So, moral of the story: take care when choosing your name and domain to maximize visibility and avoid confusion with other similar brands. This is your new corporate face, so make sure that it is one that will stand out on the market to consumers and investors alike.

 

The Legal Work 

There are two key places where legal work are done in the name change process: when you file your name change amendment with the state, and when you modify any contracts, trademarks, patents, etc. so that they are all held in the name of the new company.

Regarding the name change amendment, this is typically a straightforward filing. Depending on your state of incorporation or organization, this filing will likely be a simple Article of Amendment to the company’s Certificate or Articles of Incorporation. For corporations, this will generally require the Board of Directors to adopt a resolution setting forth the name change amendment, and then having a majority of stockholders vote in favor of the amendment. In states like Delaware, however, unless the certificate of incorporation specifically requires a vote by stockholders, the name change amendment may be passed solely by the Board.

For LLCs, the process is largely the same. Unless the LLC has an operating agreement that specifies otherwise, the same Article of Amendment must be filed with the state and must be approved unanimously by the members. If the Operating Agreement specifies another procedure for the amendment of the Articles of Organization, then those procedures must be followed. Because LLCs are largely creatures of contract, it is hard to be more specific about what name change amendments will require, but generally the exact process for filing an amendment can be found, clearly laid out, in your state’s LLC Act or on the Secretary of State’s website.

Regarding the IP issues, there are several important filings that you will want to make with the U.S. Patent and Trademark Office. If the company owns any trademarks or patents, these will need to be assigned to the new corporate name in the respective USPTO registries. For both, this requires filing an assignment for owner’s change of name form with the USPTO after the corporate name has been changed with the state. This requires a modest filing fee for each mark or patent that is assigned. The company should be careful, too, to check the Patent Assignment Search and the Trademark Electronic Search System afterwards to make sure that the assignment has been reflected on the USPTO records.

Finally, any contracts that the company is a party to will need to be modified or assigned to ensure that the new corporate identity is associated with the agreement. These modifications will need to be made for things like licenses, deferred compensation agreements with founders, and other common agreements that the company is a party to so that they remain enforceable. Be sure to check with competent local counsel to make sure that any changes comply with local contract law requirements.

 

Money Matters

A busy entrepreneur will also need to notify the IRS and their bank of the corporate name change. The IRS is rather accommodating to companies who change their corporate identity. For corporations that change identity close to their tax filing, they can simply choose to fill in a box on their Form 1120 when filing to notify the IRS of the change. For partnership style entities, they simply fill in a box on the Form 1065. For both, the entity has the option of notifying the IRS by letter rather than filing. To do this, the company just needs to write a letter to the IRS at the same address to which they filed, notifying the IRS of the name change. The letter also needs to be signed by a member, corporate officer, or partner, depending on the type of entity involved.

Finally, you need to make sure that you let the bank know! Your money and business transactions will now be in a new name, and the bank needs to make sure their records reflect this.

 

Other Concerns and Worthwhile Alternatives

Now that the major concerns are taken care of in the name change process, it’s important to reflect on the fact that this name change was done to accomplish something: benefit and grow the business. So, that means it’s time to develop new marketing, new branding, new training materials, and something to advise new staff and agencies you work with of this exciting change at the company. Socrates once said that a good name is the greatest jewel one can possess, and now that you have a new name that is free and clear, it’s time to make it into a jewel.

An important alternative to consider for companies considering going down the corporate identity change path is the use of an assumed name, more commonly called a DBA—doing business as. This sort of arrangement with the state allows a company to maintain its same corporate name but register other names that it is also allowed to transact business under. This would not require the same filings, IRS notification, IP assignment, or anything. It is simply letting the company operate under more than one name. As long as the name is available with the state, this may be an easier, more appropriate, and simpler alternative for companies who are considering making a change in corporate identify, but who want to maintain their previous identity as well. For more information on assumed names and their availability in your state for your entity, simply search your Secretary of State website.

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What is a Privacy Policy and When Does It Matter?

So you’re thinking about developing a product, or starting a business, or maybe you already have clients. One question you should ask: should you have a privacy policy?

To answer this question, it’s helpful to lay out a couple of definitions. First, a privacy policy is a legal statement that tells the user how a company uses, processes, and shares personal data that it gathers from customers. People want to know that the information they provide by using your product or your website is going to be processed correctly and, once stored, that it will be protected. Second, personal information can be anything that can be used to identify an individual, including a first and last name, a home or other physical address, an e-mail address, or any other identifier that permits the physical or online contacting of a specific individual.

Thus, if you are handling any personal information, you should consider providing your business with a privacy policy. Additionally, if your products or services affect personal information belonging to European Union (E.U.) individuals, you should also make sure that your privacy policy complies with recent changes to E.U. law.

 

Why You Should Have A Privacy Policy

A privacy policy is important for a number of reasons.

First, it helps ensure that your business complies with federal and state privacy laws and regulations. U.S. privacy law consists of various sectoral rules imposing obligations and standards on companies, based on the type of data they treat and the scope of their business. If your business handles personal health information, for example, you should make sure that you are processing information in compliance with the Health Insurance Portability and Accountability Act (HIPAA). The same holds true for many other types of sensitive information, such as financial data or information relating to children.

Additionally, a privacy policy is very valuable from a business standpoint. Consumers try to avoid businesses and products they do not trust, and trust is one of the fundamental elements of today’s market. You want your customers to trust you, and to know that they can disclose information to you because you will treat it with the appropriate amount of care and in compliance with current regulations.

Adopting a privacy policy also helps to ensure compliance with state law requirements. The California Online Privacy Protection Act (CalOPPA), for instance, requires any operator of a commercial website or online service that collects personally identifiable information about California residents to conspicuously post its privacy policy and comply with its policy’s terms. As a result, if you operate an online service and collect any personal information about California residents, you need not only to post a privacy policy and make sure that it is very visible (such as by posting it on the homepage or first significant page entering the company’s website), but you also need to make sure that the policy includes all the information required by CalOPPA, such as a description of the process for notifying users and visitors of material changes to the policy, and a disclosure as to whether other parties may collect information about an individual consumer’s online activities over time and across different websites when a consumer uses your website or online service.

Moreover, if you conduct business outside the U.S., you might need a privacy policy to avoid potentially disastrous sanctions. To get a sense of the potential consequences, the new changes to the General Data Protection Regulation (GDPR) in Europe (which goes into effect May 2018) provide that businesses can be subject to fines ranging from €10,000,000 and two percent of the company’s total annual turnover, or anywhere from €20,000,000 to four percent of the company’s annual turnover—whichever is higher in either case.

 

The New E.U. Requirements

This leads us to the most recent changes on privacy in the E.U. The system of protections afforded by the new E.U. GDPR establishes stricter requirements for businesses handling personal information of individuals in the E.U. The Regulation will codify the right to be forgotten set forth by the CJEU in the 2014 Costeja case, and it aims to reinforce the system of protections regarding the processing and free movement of personal data.

First, the GDPR will impose many substantial restrictions on data processing. Article 6 establishes the grounds for processing data, and generally provides that companies cannot process personal data unless they obtain consent from the individual, or unless processing such data is necessary for legitimate or vital purposes as delineated in the Regulation. Article 7 then sets the conditions for consent to data treatment, and it requires consent to be given as a written declaration that is clearly distinguishable from the other matters, in an intelligible and easily accessible form, using clear and plain language. Further, under Article 9, it is expressly prohibited to process special categories of personal data—such as sensitive data including that revealing race or ethnicity, religion or beliefs, or genetic, health or sex life—unless specific and stringent exceptions apply.

After data has been processed, the Regulation provides individuals with additional rights. Article 15 creates a right of access for the data subject—made more effective by the provision of the right to data portability, which imposes a duty on businesses to keep data in a format that can be readily accessible for data subjects—and Article 16 affords individuals a right to rectification. Individuals can request correction of inaccuracies in personal data concerning them, and they may also request the completion of incomplete personal data.

These provisions are indicia of how privacy in the E.U. is seen as a general affirmative right to control personal information, rather than just as a shield to wield occasionally against companies dealing with particularly sensitive data in specific sectors, as in the U.S. The notion of right to protection of personal data as control over information about oneself has far-reaching implications and may be extensively interpreted by E.U. courts. As a result, your business should interpret data regulatory protections expansively from the point of view of E.U. individuals in order to avoid liability.

In light of these considerations, if you are collecting information about E.U. individuals, you need to make sure that you have a sound privacy policy that complies with the new requirements. Free tools available online to create a privacy policy might be a helpful initial step to have an overview of what the final document could look like, but you should reach out to a professional to make sure your business is equipped with a privacy policy that complies with the incoming changes and all current legal requirements.

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Should Startups Incorporate as Benefit Corporations?

Patagonia.

Kickstarter.

King Arthur Flour.

What do these three companies have in common? They are all Benefit Corporations. Increasingly, companies — particularly startups — are expressing a desire to use their businesses for social good. This desire has given rise to Public Benefit Corporations, a legal incorporation status that embraces a company’s social mission while still enabling them to grow as for-profit businesses.

The first Public Benefit Statute was created in Maryland in 2010. Today, 31 states offer the legal status and almost 4,000 companies have incorporated as public benefit corporations.

 

What is a Benefit Corporation?

A Benefit Corporation is a legal incorporation structure, similar to a LLC, C-Corp, or sole proprietorship. It should not be confused with non-profit status. Benefit Corporations are for-profit companies that choose to balance their financial objectives with the public mission.

Traditional incorporation forms require corporate decisionmaking to be justified in terms of creating shareholder value, commonly understood as prioritizing profit maximization over all else. However, social impact companies understand that commitment to their causes may sometimes conflict with profitability. The Benefit Corporation form provides companies with the legal protection to consider environmental and social factors in business decisions over shareholder value.

Benefit Corporation status only affects corporate governance, purpose, and accountability and does not affect how the company is treated under corporation or tax laws. Benefit Corporations must elect to be taxed as a C corp. or an S corp.

 

How to Become a Benefit Corporation

Becoming a Benefit Corporation is no different from other incorporation processes. To become a Benefit Corporation, companies add language to their charters and articles of incorporation requiring consideration of both shareholders and non-financial interests in business decisions. Non-financial interest can include the environment, the community, customers, etc.

However, because not all states recognize Benefit Corporations, companies must register in one of the thirty-one states which recognizes the form. Slight differences exist from state to state. One of the notable differences is the language necessary to identify the public benefit. Some states only require a general public benefit to be identified in the articles of incorporation, while other states require a specific public benefit.

Finally, most states require an annual report disclosing environmental and social impact. This report must include a third-party assessment of the companies’ impact, and, with the exception of Delaware, these reports must be publically available

 

Is a Benefit Corporation Right for a Startup?

An increasing number of startups, especially those created with a social mission, are attracted to the Benefit Corporation form. However, there are a number of variables entrepreneurs should consider in deciding what is best for their company.

 

Advantages for Startups

  • Performance: Studies suggest that Benefit Corporations perform better in the long run.
  • Consumer Trust: Consumers are more trusting Benefit Corporations after historical incidences of mislabeling and “greenwashing” by corporations. Benefit corporations are seen as more transparent because of the reporting requirement.
  • Investment: Impact investors are particularly attracted to Benefit Corporations, and other types of investors are watching the benefit sector. Investment in Benefit Corporations is predicted to grow as investors have found that social impact is particularly important to the millennial generation. Notably, venture capitalists are showing a willingness to invest in Delaware benefit corporations since the structure is similar to the Delaware C corp.
  • Attracting Talent: Companies are recognizing that social impact is important to attracting millennials as talent.

 

Disadvantages for Startups 

  • Certainty: The general or specific benefit required by law to be identified can be hard to gage making assessment difficult for directors, shareholders, and courts.
  • Legal Uncertainty: Because Benefit Corporations are a new form of incorporation, the law surrounding them is young and developing. The most pressing concern is that it is still unclear how much legal protection the social impact language adds since not all states recognize the form and those that do vary in their understanding of the form.
  • Benefit Enforcement Proceedings: These are proceedings that can be brought by shareholders for failure to follow general public benefit and to compel company to take a certain action. However, to date, no company has been subject to such a proceeding. Additionally, unless stated in bylaws, boards of directors and the company are not liable for monetary damages if the company fails to carry out mission under benefit corporation status
  • Profit Margins: Committing to a Benefit Corporation status does pose a threat to near-term profit which may trouble potential investors. Thinner margins may result in committing to social good. Entrepreneurs should be prepared to manage investors’ expectations and be able to communicate why thinner margins in the near-term are a smarter business decision in the long-term.

 

The Difference between Benefit Corporation and a Certified B-Corp

Registering as a Benefit Corporation should not be confused with attaining B-Corp certification.

“Certified B Corporation” is a third-party status administered by the non-profit B-Lab. It’s like the “fair trade” label you may see on your bag of coffee. B-Lab independently assesses companies based on a B Impact Assessment, which looks as a company’s social and environmental impact in relation to a variety of metrics. B-Lab awards the B-Corp certification to companies who receive an appropriate score.

B-Corp status brings additional credibility to social impact companies. Many Benefit Corporations also have B-corp certification, but it is not necessary to attain the certification to function as a Benefit Corporation. However, if companies that are not Benefit Corporation wish to attain B-Corps certification, and if they are incorporated in a state that recognizes Benefit Corporations, B-Corps certification requires that they incorporate as a Benefit Corporation within 2 years of attaining the certification.

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Challenging Patent Validity at the USPTO

For startup companies, intellectual property protection is essential to success. They must protect their inventions and prevent other businesses from profiting from them by filing for patents with the United States Patent and Trademark Office (USPTO). If a startup company has to enforce its patent rights in court, the validity of its patent claims may be challenged by the infringing party. As part of a basic patent education, startups should learn of the various proceedings that a third-party might use to challenge their patents after they have been granted. It is also important for startups to know how they can use these proceedings to challenge competitors’ patents.

This article will discuss three post-grant proceedings, conducted by the USPTO, that a party may use to petition the validity of a patent claim. The proceedings are part of the patent system that was recently reformed by the America Invents Act of 2011. They require a lower standard of proof than a court determination and are often cheaper and faster than court proceedings. A party may use a USPTO decision to support its argument in a lawsuit. This article will end with a brief discussion of the future of these proceedings in light of Oil States, a case currently before the Supreme Court.

 

Post-Grant Review

For the first nine months after a patent has been granted, a third party may petition the validity of the patent claims to the Patent Trial and Appeals Board (PTAB) of the USPTO through a Post-Grant Review. The PTAB is comprised of judges who have technical backgrounds and are experts in patent law. If the PTAB is persuaded that at least one claim is more likely than not to be found unpatentable, the proceedings will begin. The proceedings happen quickly. The typical Post-Grant Review is completed within 12 months but can be extended to 18 months. During this time, there are limited periods of discovery followed by motions and an oral hearing. The PTAB will then issue a final written decision. Final decisions are immediately appealable to the U.S. Court of Appeals for the Federal Circuit.

 

Inter Partes Review

Nine months after a patent has been granted, Post-Grant Review is no longer available to challenge the patent. However, a similar proceeding, called Inter Partes Review, is available through the PTAB. A petitioner must show a reasonable likelihood that at least one claim will be unpatentable. Although this is different than the standard for Post-Grant Review, it remains to be seen exactly how it is different. Significantly, in Inter Partes Review, a petitioner may only challenge patent claims based on prior art and publications. If a party is sued for patent infringement, Inter Partes Review is only available to that party if they file within one year of being served. Inter Partes Review is typically limited to 12 months and is appealable to the U.S. Court of Appeals.

 

Ex Parte Reexamination

At any time during a patent’s enforcement period, a third-party may file for Ex Parte Reexamination. They may do so anonymously. The petitioner must provide prior art to show a substantial and new question of patentability that was not previously considered in reviews of the patent. This standard is intended to prevent third-parties from raising frivolous challenges to patents. Reexamination is significantly different than Post-Grant Review and Inter Partes Review, because the proceeding is only between the patent owner and the USPTO. The petitioner usually does not play a role other than the initial filing. The review is conducted by a special panel of examiners called the Central Reexamination Unit (CRU) and usually takes two years. A patent owner may appeal a decision by the CRU to the PTAB and then the U.S. Court of Appeals. Ex Parte Reexamination might be attractive to third-parties that have strong prior art to challenge a patent and want to remain anonymous. It is also relatively cheap for the petitioner because they are not involved in the proceedings.

 

The Future of Post-Grant Proceedings

Although Inter Partes Review is a new feature of the patent system, we may soon see it change. In November 2017, a case, commonly referred to as Oil States, was argued before the Supreme Court that challenged the constitutionality of Inter Partes Review. Oil States Energy Services, a rental services company in the oil and gas industry, sued a competitor for patent infringement. The competitor then filed for Inter Partes Review, and the USPTO agreed with the competitor that the patent was invalid. Oil States argued to the Supreme Court that its patent right is a property right and it cannot be taken away without a trial before a jury in a federal court. Some who agree with Oil States argue that the USPTO system of review creates uncertainty in patent rights and makes it harder for startups to attract investors. On the other hand, many industry leaders believe the system prevents patent trolls from targeting innocent users of technology. Because Inter Partes Review is a low-cost alternative to litigation, the innocent users are less pressured to settle with patent trolls. We won’t have to wait long to hear what the Supreme Court thinks. It is expected to release its decision this year.

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Can you Hire an Unpaid Intern? FLSA’s New Interpretation Gives Startups More Freedom to Do So

For most early-stage startups, the team will always need one more person to help. Hiring interns, therefore, becomes an ideal choice. Interns can bring new ideas to the team and use their professional skills to the work.

But what start-up companies should be careful about is hiring the “unpaid intern.” It might be appealing for early start-ups to hire an unpaid intern. However, it is not always legal to do so. Startups should be careful about the work they provide to the interns and their relationship before hiring an unpaid intern. Recently, the Department of Labor Wage and Hour Division introduced a new interpretation for for-profit employers under the Fair Labor Standards Act (FLSA).

Under what circumstances should you pay?

FLSA only requires “for-profit” employers to pay employees for their work. There are two kinds of situations the start-up company can hire unpaid interns.

  1. When a start-up company qualifies as a non-profit organization.

State and local governments and non-profit organizations can hire unpaid volunteers. If your start-up company is a non-profit organization, and the intern is hired for the work for a religious, charitable, civic or humanitarian purpose, it satisfies the requirement. What is a non-profit organization? Briefly speaking, the company should have a mission with certain social impact. Any profit the company makes can’t be returned to investors in the form of profits or dividends. The profit should be contributed to the growth of the company and its mission.

  1. When the intern is not an employee.

The FLSA requires an employee to be paid by the start-up company. For an intern to not be an “employee”, the intern has to be the “primary beneficiary” in the hiring relationship. In other words, the intern has to learn and benefit from the work the start-up gives to him.

The benefit the intern gets from the work has to exceed the benefit the start-up company gain. For example, if a student works for a marketing department and has an opportunity to understand the industry as a whole, that can demonstrate that the intern primarily benefits from the program. Also, the startup could provide training and educational programming to the interns to help them learn from the program. If the internship program can be tied to a formal education program, that will qualify the intern as “primary beneficiary.”

There are a few additional requirements for the startup to ensure an intern is not considered an employee. Startup companies cannot use unpaid interns as free labor. The startup should also not use an unpaid intern to fill the position of a paid employee. The startup should be clear at the time of hiring that the intern will not be paid, and there will be no expectation of compensation. Also, the company should inform the intern there will be no guarantee of an offer to return as a paid employee once the internship concludes.

 

If you have to pay, how much?

If the hiring relationship doesn’t qualify the individual as an unpaid intern, the startup should pay at least a minimum wage as well as overtime pay according to FLSA. The company could also hire the individual as a contractor, and pay a lump sum for the work as a whole.

 

What the new interpretation changes

Under the previous interpretation, a court would employ a “primary beneficiary test” with seven factors to consider and balance. This caused confusion for both companies and owners.

The new interpretation is good news for startup owners. It gives more flexibility as compared to the 7-factor “primary beneficiary” test. The internship program provided by the company will be determined by a case-by-case standard. Therefore, if a startup can explain why the intern can benefit from the program, and there is no serious violation of one of seven criteria, it may be possible to hire an unpaid intern.

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Economic Provisions within a Term Sheet

When startups attempt to raise funding for a priced round, founders are often primarily focused on the valuation of a term sheet. This focus is not entirely unfounded. A high valuation comes with an increase in working capital for the company’s growth. The founder is also given third-party confirmation of the value of the business they created. Still, for the long-term health of the company, as well as the entrepreneur’s financial well-being, it is crucial to look beyond the valuation to the terms that come with that dollar amount.

In evaluating a term sheet, entrepreneurs need to examine the other economic provisions that impact their wealth and the wealth distribution of other investors in the event of an exit. This blog post will discuss the impact of liquidation preferences, participation rights, and anti-dilution provisions contained in most VC offers. For a further anecdotal reading on the effects of provisions in term sheets, read: How To Build A Unicorn From Scratch—And Walk Away With Nothing.

 

Liquidation Preferences

While most associate liquidation to the failure of a company, a liquidation event within the context of a term sheet includes not just bankruptcy or a wind-down of the business, but mergers, acquisitions, or a sale of voting control. The liquidation preference refers to the multiple of the initial investment stockholders are entitled to receive for a liquidation event. For example, if Series A investors invest $2 million with a 2x liquidation preference, they would be entitled to 4 million for any liquidation event. The standard liquidation preference is 1x, so founders should critically examine term sheets with higher liquidation preference multiples.

 

Participation Rights

Liquidation preferences are combined with participation rights which have a significant impact on the amount founders receive in a liquidation event. Each series of investors have the right to convert to common stock. If the class of stock investors own is nonparticipating, then the investor must choose between their liquidation preference or converting to common stock. If the class grants participation rights, then investors may take their liquidation preference and convert their shares to common stock to receive the remainder of the proceeds on a pro-rata basis.

For a clear picture of how this works, let’s examine the Series A $2 million investment. Let’s say that the post-money valuation of the company is $6 million giving investors a third of the company. If the company is sold for $8 million, then investors with a 1x liquidation preference and no participation could either take the $2 million or convert to common stock. In this instance, they would convert to common stock as the $2.67 million return is higher than their liquidation preference. Now let’s examine a sale under the same fact pattern but with investors that have participation rights in addition to a 1x liquidation preference. Those investors would get their $2 million liquidation and then convert to common stock to get a third of the remainder which would be an additional $2 million. In this scenario, the investors would get half of the proceeds from the sale of the company despite only owning a third of the company. If a founder finds themselves in a position where they must accept a term sheet with participation rights, they should at least negotiate a cap on the multiple investors can receive in return.

 

Anti-dilution

Another critical economic term that founders should be cognizant of is anti-dilution. Anti-dilution provisions give investors the ability to protect themselves if a company later issues equity at a lower price than what they paid for in a previous round. There are two types of anti-dilution provisions, full-ratchet and weighted average. A full-ratchet anti-dilution provision can not only negatively impact founders but other classes of investors as well. Using the example of a Series A $2 million investment, if the share price is $5, then the Series A investors would own 400,000 shares. If the next round is a down round at $3/share, then a full-ratchet provision would give Series A investors shares at this lower price. So rather than 400,000 shares, these investors would have 666,666 shares, an increase of over 200,000 shares. Such a harsh term not only impacts payouts among classes of investors but the level of control within the company. This provision may also deter the next round of investors from providing financing in the first place.

A fair and more common solution would be to take the weighted average of the price of all shares outstanding. A weighted-average anti-dilution provision provides investors with the appropriate level of downside protection while also mitigating the dilution impact it would have on the founders and future investors.

 

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Why Outside Advisors are Critical For a Startup’s Growth and Success

Many startup founders of young companies fall into the same trap: they insulate themselves and just talk to family, friends, colleagues, and co-founders (if any) as a sounding board to bounce off business ideas and make decisions. While it’s easy to see why this approach is tempting, bringing on outside advisors early on who are not major investors or family members are integral part of a startup’s success.

A common way is to bring on outside advisors through an advisory board. A board of advisors is not a formal legal entity like a board of directors, which means that they can’t fire you or have control of your startup. Still, they can partake in regular board meetings as well as providing advice or mentoring on ad hoc basis. These are individuals who have certain knowledge that can be valuable to a startup. For one startup, that advisor may be a finance professor, a marketing expert, a software engineer, or an operations guru. For startups, advisors are generally compensated for their advice through stock or stock options in the company, although there can be other considerations for their time.

Notwithstanding the many benefits that come with onboarding a board of advisors, you should only bring them on if you are going to listen to their feedback. If you’re just looking to retain positive feedback while dismissing advice that potentially challenges your ideas, you’ll be wasting everyone’s time, including your own.

  1. Advisors will ask critical questions and challenge ideas: Consider the following scenario. You have a great business development idea and your co-founders and the team is pumped by the possibility. Who is tempering the enthusiasm? Who is there asking critical questions or challenging the business pipeline? If the answer to this is “no one besides the leadership team,” these ideas can become circular, unfeasible, and unchecked. Outside advisors who care about your idea can help sharpen your thought process and help fill the gaps in your business strategy. These are people who are willing to ask critical questions and offer complementary skills to the founders. This results in diversity of opinions.
  2. Advisors can help you build connections and relationships outside the entrepreneur world: Founders are often surrounded by other founders. Advisors have years of experience under their belt and in addition to providing an outside perspective, they can connect you to people outside your industry. For example, student-led startups can leverage their relationship with outside investors and meet experienced entrepreneurs, venture capitalists, and industry experts. Establishing common relationships through outside advisors will broaden your network.
  3. Startups need outside investors for future capital raising: Post angel investor and seed rounds, third party investors will look to see whether a startup has a few outside advisors, often in the form of an advisory board. If a startup has outside investors who have specific industry experience and seems invested in the company, it can serve as a market validation to potential investors. Further, outside investors can help you prepare for robust business milestones and successfully pitch to get more capital. They can also help you weigh in your funding options, evaluate growth plans, and carry your company forward.
  4. Advisory Board vs. Board of Directors: The board of directors is the central governing body for your startup. For small startups, founders serve as directors and don’t consider bringing in outside board members until the company took on significant investment. As previously discussed, the board of directors is legally bound to the business and therefore has a more serious engagement, because they carry potential liability associated with being part of that board. The board of directors has legally defined responsibility and is governed by the corporation’s bylaws; since directors are elected for established terms they are more difficult to remove. In contrast, a board of advisors can be more informal and flexible. It’s essentially a team of people appointed to guide and counsel founders and their startup. The board of advisors has no fiduciary duty to the company and because they carry less liability than directors, less compensation is required to retain an advisor.

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The U.S. Immigration System and a Workaround for Immigrant Entrepreneurs

An Overview of the U.S. Immigrant System

The United States has long been the country of choice for talented and ambitious immigrants. Immigrant entrepreneurs, in particular, are drawn to tech and entrepreneurial hubs such as Silicon Valley. There, celebrated tech visionaries such as Sergey Brin (born in Russia), Jerry Yang (born in Taiwan), and Elon Musk (born in South Africa) built iconic American companies such as Google, Yahoo, and Tesla, all of which have changed the way the world lives and works. Indeed, more than half of the country’s unicorn companies had at least one immigrant co-founder, and a quarter of engineering and technology startups had at least one key immigrant co-founder.

But to immigrate to the United States is not a simple matter. Under existing law, aspiring and established entrepreneurships can apply to one of several visa categories that would allow them to live and work in the United States. These include the following:

  • EB-1A Extraordinary Ability
  • EB-1C Multinational Manager/Executive
  • EB-2 National Interest Waiver
  • EB-5 Immigrant Investor Program

However, many of these visas are subject to strict caps and can come with strict requirements. The EB-1A visa for extraordinary ability, for example, can be granted to individuals to who have won prestigious awards such as Nobel Prize or an Olympic Medal or have made “original scientific, scholarly, artistic, athletic, or business-related contributions of major significant to the field.” The EB-5 Immigrant Investor Program, similarly, requires applicants to inject at least $500,000-$1 million in capital into the U.S. economy, with the expectation that their investment will create at least 10 qualifying full-time jobs.

Because these prerequisites would preclude most applicants, except for those who are already highly accomplished and successful in their chosen fields, most immigrants resort to the H-1B visa, a common but highly sought-after visa that is sponsored by companies for skilled labor. However, each year the cap of 85,000 visas (65,000 for individuals with job offers and an additional 20,000 for those with advanced degrees from U.S. universities) is filled within days of the application process opening. In addition, the Trump administration has increased the scrutiny applied to H1-B visa renewals and is planning to stop granting work permits to the spouses of H1-B visa holders.

 

Entrepreneurs-in-Residence

In response to these strictures, many have called for the creation of a “startup” visa, which would empower immigrant entrepreneurs to try and start their own businesses, rather than coming to the United States bound to the employer who sponsored their H1-B visa.

Until that happens though, the next best possible chance for immigrant entrepreneurs may be H1-B visas sponsored by universities through the H1-B program. Unlike company-sponsored H1-B visas, which are capped at 85,000, universities may sponsor an unlimited number of foreign-born entrepreneurs through what many are calling Entrepreneurs-in-Residence. The university technically employs the entrepreneur, who is required to complete a limited amount of mentoring, teaching, or advising. During their spare time, however, they are able to work on their own business ventures. One of these programs, GlobalEIR, currently works with seven universities to host entrepreneurs-in-residence, and to-date they have been able to secure visas for 42 entrepreneurs who have raised $29.9 million and hired 123 jobs.

The GlobalEIR program and others like them have now expanded to 14 university partners across six different states. Entrepreneurs interested in these visas should hurry to apply. Senator Chuck Grassley (R-Iowa) has recently taken notice of these programs and called them a “cynical exploitation of loopholes in the law,” which means that they may soon fall victim to the Trump administration’s attempts to reduce the number of immigrants allowed into the United States.

 

To learn more about some of the currently available programs, check out some of these sponsoring universities:

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Provisional Patent Applications Provide Lasting Intellectual Property Protection

A provisional utility patent application, as opposed to a non-provisional utility patent application, is not reviewed by a patent examiner at the United States Patent and Trademark Office (USPTO), and therefore will not directly lead to the grant of a patent. So, why do we care?

Often entrepreneurs launch their startups with a concept or a prototype of an innovative product. Their business goal is to commercialize the invention. Before the product is ready to be introduced to consumers or an interested acquirer, it has to go through a stage of commercial viability testing or technical improvements. During this period of time, startups face the dilemma of how to protect their intellectual property (IP) assets with limited capital and human resources. The decision whether to file a costly non-provisional patent application is complicated by uncertainty about the patentability of the invention, a patent’s added value to the startup and the commercial prospect of the product. Under this scenario, a provisional patent application is a sensible alternative providing benefits that a non-provisional patent application may or may not have.

Priority Date

Currently the US adopts a first-inventor-to-file system in regard to right to patent. Without patent protection, an invention is subject to the risk of being copied or claimed by another party. Available to utility and plant patents but not design patents, a provisional patent application can be used to establish the priority date of an invention, the same as a non-provisional patent application. The priority date is the earliest filing date of a patent application and used to determine the right of priority over an invention through prior art search and obviousness examination. If a non-provisional patent application is filed within one year after the filing of a provisional patent application, the non-provisional patent application can claim the benefit of the priority of the provisional patent application filing date. Startups may use the one-year grace period to research the market potential for or make further improvements to their product. In addition, startups may file multiple provisional patent applications and claim the priority dates of all of them in a single non-provisional patent application.

One requirement for the priority date claim is that the later filed non-provisional patent application must be adequately supported by the description in the provisional patent application. Also, a provisional patent application cannot claim the benefit of the priority date of another provisional or non-provisional patent application. On the other hand, the patent term of a utility or plant patent is based on the earliest filing date of a non-provisional patent application.

Patent Pending Status

The filing of a provisional patent application will allow startups to use the status label “patent pending” to describe their product, the same as a non-provisional patent application. The “patent pending” status not only will afford IP protection to the invention, but also may carry advantages in various business undertakings such as marketing, venture capital financing, valuation of the company, and deterrence of potential competitors.

Cost

The cost of filing a provisional patent application is much lower than that of a non-provisional patent application for several reasons. First, since a provisional patent application is not examined, it will not incur USPTO fees in prior art search, patent examination and communications. The basic filing fee is low. For example, the electronic filing fee of a provisional utility patent application for a small entity, such as a business organization with fewer than 500 employees, is only $70.

Secondly, the examination process of a non-provisional patent application usually entails back-and-forth communications between the USPTO and attorneys that could drag on for a couple of years and result in significant attorney fees. In total, the process of obtaining a patent may cost up in the tens of thousands of dollars. Finally, entrepreneurs will have to spend time and energy working with attorneys throughout the patent examination process. All of this may strain the capital and human resources of an early stage startup.

Scope of Disclosure

Different from a non-provisional patent application, a provisional patent application does not have to include any claims, which makes it simpler to write and easier to avoid the problem of narrow characterization. A claim defines the scope of protection and therefore tends to limit patent right to an invention. If the claims are written in overly narrow terms, competitors may be able to design around a patent making it unenforceable. Therefore, it is generally recommended to use broadening statements and alternative languages in patent application drafting.

A recent ruling, The Regents of the University of California (“UC”) vs. The Broad Institute (“Broad”), from the Patent Trial and Appeal Board (PTAB) of the USPTO illuminates the importance of the scope of disclosure in patent applications to an inventor’s right to patent. This dispute involves a genome-editing technique called CRISPR-Cas9. The CRISPR-Cas9 system, similar to a cut and paste tool in a word processor, may be employed to modify the genome of an organism by permanently deleting dysfunctional genes or inserting beneficial ones, thus holding enormous potential for applications such as developing therapeutics for intractable human diseases or pest-resistant plants.

In this case, UC’s non-provisional patent application, which was filed earlier than Broad’s and based on four provisional applications, described the CRISPR-Cas9 system in prokaryotes−single-cell organisms without cellular nucleus, such as bacterium, while Broad’s patents demonstrated CRISPR-Cas9 in eukaryotes−multicellular organisms such as humans, animals and plants. PTAB declared that the two parties claimed distinct subject matter in their disclosures. Given CRISPR-Cas9’s potential in changing the landscape of biomedical innovation and both parties of this dispute have established startups to commercialize the technology, the PTAB ruling was widely considered a huge win for Broad.

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Why Do Technology Startups Need IP Assignment Agreements?

If you are considering forming a startup, an intellectual property (IP) assignment agreement will be crucial for your company, especially if your company wants to get financing from outside investors in the future. An IP assignment agreement is a contract that transfers an individual’s rights to an intellectual property (for example, patent, trademark, copyright, etc.) to another legal entity, such as a company. You and your colleagues may want to ask: why do you need to transfer your intellectual property rights to your company?

 

What are the consequences for not having an IP assignment agreement?

If individual inventors do not assign the IP rights to the company, it will be very difficult for the company to seek investment in the future, because an investor will not fund a company that does not have the complete ownership of its intellectual property assets. Therefore, the IP assignment agreement will be a key document that the investor will look for before deciding whether she will fund the company.

Imagine two inventors jointly own a patent. An obvious concern for potential investors is whether this patent can be effectively protected against infringement. However, if the patent is involved in patent infringement litigation, both co-owners must join the lawsuit so that the suit can be filed. Either owner’s lack of interest in joining the litigation will make the patent meaningless because the patent can be easily infringed. In contrast, if a sole owner, the company, owns the patent, the company itself can bring this suit. This is easier for protecting the patent because the company does not need to get every owner’s consent to bring the suit.

Additionally, the value of the patent will be diluted if it is jointly owned by several owners. Each co-owner of the patent can independently exploit, without consent of, and without accounting to, the other co-owners. Because a license is available from more than one party, its value is inevitably diluted. Otherwise, if a potential licensee wants to get an exclusive right to the patent, it must negotiate with all owners, and the holdout problem (where one party’s withholding of support prevents a deal) is likely to occur.

 

What provisions need to be included in an IP assignment agreement?

Because the IP assignment agreement is critical to a company, the agreement should be drafted by a lawyer. Both the Assignor (e.g., the individual developer) and the Assignee (e.g., the company) must carefully review the provisions in this agreement. The most important sections of an IP assignment agreement are:

Assignment of Intellectual Property. This section describes the assignment and acceptance of the intellectual property. If the Assignor agrees to assign the intellectual property in exchange for a consideration, either in the form of cash, equity or royalty, the consideration needs to be clearly identified in the agreement.

Description of the Assigned Intellectual Property. The agreement usually includes a full description of the intellectual property or refers to an exhibit that describes the intellectual property. Notably, the to-be-assigned intellectual property sometimes includes goodwill, which is the intangible value of the intellectual property. The assignment of trademark’s goodwill is particularly important because it includes the brand’s reputation and recognizability.

Warranty. It is especially important to have the Assignor warrant that she has the capacity to assign the intellectual property. Otherwise, the assignment may not be effective.

An IP assignment agreement is crucial for showing your startup’s future investors that the company possesses valuable intellectual properties. Therefore, soon after your company is formed, remember to ask everyone who may have a right in the intellectual property, including inventors, employees, independent contractors and so on, to sign the IP assignment agreement.