|
FREQUENTLY ASKED QUESTIONS IN OUR CORPORATE AND BUSINESS PRACTICE
I’m interested in starting a business. Should I conduct this business as a sole proprietorship or should I form an entity to conduct the business?
In most cases, it will make sense to form either a corporation, a limited liability company (LLC) or a limited partnership (LP) to afford yourself (and the other founders) the limited liability protection that these vehicles offer. This can prevent you from being held personally liable for debts, contractual liabilities and torts of the company.
What are some of the pros and cons of using a corporation as an entity to conduct my business?
A corporation offers the protection of limited liability. In New York, a corporation will usually be the most inexpensive entity to form. Of all the various entities, corporations are the most easily understood and the entity that investors may be most comfortable with. However, there may be tax disadvantages for a corporation (as compared to an LLC or LP) unless a subchapter “S” election is made (see below question about “S” corporations). Without such an election, the corporation will pay a double level of tax—once at the corporate level and once when the corporation distributes income in the form of a dividend to its shareholders. With a corporation, careful attention must be paid to maintaining corporate formalities (regularly holding meetings of the shareholders and board of directors, electing officers and directors, issuing stock certificates, etc.). Failure to do so could result in a plaintiff being able to “pierce the corporate veil” and hold you personally liable for the company’s actions. A significant drawback to forming a corporation in New York is Section 630 of the Business Corporation Law which requires that the 10 largest shareholders of a privately-held company are personally liable for all debts, wages or salaries due and owing to its employees for services performed by them for the corporation. In some cases, forming a corporation under the laws of Delaware or another jurisdiction may be appropriate.
What are some of the pros and cons of using an LLC as an entity to conduct my business?
An LLC offers the protection of limited liability. Also, the formalities of maintaining an LLC are not as burdensome as with corporations. For example, the LLC can be managed by its member or members and need not appoint officers and directors. Furthermore, LLCs offer greater flexibility in terms of allocations of income and distribution of profits, allocating rights and responsibilities among the members and conducting the business of the company, as compared to corporations and LPs. Finally, LLC’s are highly tax efficient as they are “pass-through” entities where all of the income (and losses) pass through to the members of the LLC and the LLC itself pays no federal tax (although New York imposes an unincorporated business tax on LLCs). However, LLC’s can be more expensive to form because of the requirement that notice of publication be effected once a week for six consecutive weeks in two approved newspapers. Also, New York requires that all LLCs, even single-member LLCs, adopt an Operating Agreement. Furthermore, the LLC is somewhat complex economically, with the need to maintain capital accounts (rather than shares of stock) to govern distributions. Also, if you believe that you will need investors to contribute capital to your company at some point in the future, or if you think you may desire to effect a public offering, the LLC form may not be the preferred vehicle.
What are some of the pros and cons of using a LP as an entity to conduct my business?
LPs generally have similar advantages and disadvantages to an LLC, however one of the partners must be a general partner who has personal liability for the debts and other obligations of the LP. An LP would usually be reserved for situations where there are multiple investors and in certain specialty situations, such as real estate, private equity and venture capital transactions.
What is an “S” corporation?
An “S” corporation is a regular “C” corporation that has been formed under state law but has made an election to be taxed under Subchapter S of the Internal Revenue Code. Unlike a regular “C” corporation, where income is taxed at the corporate level and then again when it is distributed to the shareholders, the income (and losses) of a subchapter S corporation “pass through” to the shareholders and are only taxed once, like a partnership or a limited liability company. This can provide significant savings in the right circumstances.
What are the requirements to qualify as an “S” corporation?
In the first instance, in order for an election to be effective for a particular year, the election must be made with the Internal Revenue Service either during the previous year or by the 15th day of the third month of the taxable year. Generally, as “S” corporation cannot have more than 100 shareholders, all of the shareholders must be natural persons or certain trusts, estates and charities (and not corporations or other entities) and none of such shareholders can be foreign persons. Also, there can only be one class of stock, so there cannot be common and preferred stock. These restrictions will often make an “S” corporation unusable in the case where a private equity or venture capital fund will be making an investment in the company. A separate “S” election must also be made in New York (or other applicable jurisdiction). New York City does not recognize the “S” election.
I’m contemplating selling my business. Should I structure this as a sale of the shares of capital stock of the company or a sale of all the company’s assets?
Many factors determine whether the sale of a business should be structured as a sale of stock or a sale of assets. From the seller’s perspective, a sale of stock is often preferable. The buyer will inherit all of the debts, liabilities and obligations of your business, unless otherwise provided in the sale agreement. Also, depending on the circumstances, the seller may be able to avoid double taxation issues. Additionally, the transaction will often be simpler as there may not be as many third party consents (from landlords, parties to contracts, governmental entities, etc.) that are required in an asset sale. Your buyer may have a different perspective, however. Buyers often prefer to purchase assets, so they are not saddled with all the debts, liabilities and obligations of the business. A purchase of assets may enable the buyer to select those particular assets it will purchase and those particular liabilities it desires to assume.
What is involved in the sale or purchase of a business?
As discussed above, determining the structure of the sale or purchase is paramount. Often a term sheet or letter of intent is prepared by counsel setting forth the structure and all of the material terms of the deal. In many instances, a buyer will want an “exclusivity” clause in the letter of intent that will preclude the seller from negotiating the sale of the business with third parties while the buyer and seller are conducting discussions. After a letter of intent is signed, both sellers and buyers will want to do extensive “due diligence” on the business to identify any issues that could make the transaction more difficult (such as necessary consents from third parties such as landlords, lenders or parties to contracts) or that could pose problems in the future. For example, a buyer will want to make sure that it understands all the potential liabilities of a business that it is purchasing. It is crucial to have competent, experienced counsel to guide the client through this process. During and after the due diligence phase, seller’s counsel will draft the necessary transaction documents incorporating all of the material terms set forth in the letter of intent and many other provisions. These typically include representations and warranties, pre-closing and post-closing covenants, closing conditions and indemnities. It is important to have counsel involved who are sufficiently familiar with the market to know what terms are customary in what situations so that the documentation can be effectively negotiated.
I’m looking to raise capital for my business. What does this entail?
Raising capital can be a complicated and time-consuming process. One of the first steps you may need to do is to get your business “in shape” to raise money. This will involve a review of your business by you and your counsel (“due diligence”) and cleaning up any issues that could pose problems for investors (such as prior failures to elect officers and directors). In the due diligence process, you will also need to determine whether any consents are needed from third parties (such as landlords or lenders) as a condition to your raising capital. You will need to establish a valuation for your business so you can determine how to price the sale of the stock being sold. It is also important to determine how much money you need to raise, what type of equity you desire to raise (such as common stock or preferred stock) and what management and economic rights you are willing to cede to investors. Obviously, your investors may have their own thoughts as to these matters, but you will want to first give your own needs and requirements careful consideration. In the fund raising process, it is important to consider the number and type of potential investors. Sales of stock and other equity interests are considered sales of securities under federal and state securities laws. Sales of securities that are made to the “wrong type” of investors or that are made in the wrong manner or without the correct documentation can violate these laws and subject you and your company to serious legal consequences and penalties. It is crucial to have competent legal counsel involved in any transaction that involves a sale of securities to avoid these risks. Once the above steps have been taken, you and your counsel will need to negotiate final documentation with your investors that sufficiently protects your rights. At Lieber & Lieber, LLP, we have experience representing not only companies seeking to raise capital, but professional investors, private equity funds and venture capital funds that are in the business of making investments in companies. Thus we are familiar with the relevant issues from all perspectives and better able to represent our clients.
I want to borrow money for my company. What is the role of legal counsel here?
Once a lender determines to make a loan to a company, it will furnish the company with loan documentation. This documentation is usually very one-sided in favor of the lender. You should have a qualified attorney experienced in these types of transaction review the documentation and attempt to negotiate more favorable terms with the lender. Often an experienced attorney can be successful in negotiating documents that have been presented by a lender as “non-negotiable”.
I own my company with another person(s) and while we’ve generally gotten along with each other, we don’t have any formal documentation or agreement as to our roles in the business, the distribution of profits, our rights with regard to a sale of the business or what would happen if one of us wanted to exit the business. What should I do?
I would suggest that you promptly formalize your arrangement with an iron-clad shareholders agreement or buy-sell agreement prepared by a qualified attorney to provide some much needed structure to your company and to the arrangement between you and the other owner(s). It is much easier to negotiate such an agreement while the owners are on good terms with each other. With such an agreement in place, you should be successfully able to navigate future obstacles that you and your company will no doubt encounter in the future. Without such an agreement in place, there will be no framework to resolve future problems and litigation will be a likely outcome. Litigation is extremely expensive, so the money expended on drafting and negotiating an effective shareholders agreement or buy-sell agreement now will likely save you money in the future.
I own my company with another person(s) and we don’t have any shareholders agreement or buy-sell agreement in place. We are now having disputes about the future of the business and our roles in the business. What should I do?
Although it is much better to have a formal agreement in place prior to a dispute arising (see the prior response), it is never too late to attempt to resolve the disputes you are facing. A competent attorney can counsel you on your rights vis-à-vis the other business owner(s). These rights may vary greatly depending on the state where your business in incorporated and on what percentage of the business you own. Once your rights are determined, an experienced attorney can negotiate on behalf of you to resolve the disputes in the most favorable manner. The result of such negotiation could be as varied as (i) executing a written agreement among the shareholders setting forth their rights and responsibilities going forward, (ii) arranging for a sale of the business to a third party, (iii) arranging for one of the shareholders to purchase the interests of the other shareholder(s), (iv) having the company redeem the interests of one of the shareholders or (v) dissolving the business. If none of the foregoing prove possible, litigation may be the only remaining option. Lieber & Lieber, LLP’s commercial litigation practice would be of assistance in this event.
My company is considering entering into a business contract with a third party. The third party says that we don’t need to get our attorneys involved as it will only cost us money and waste time. What should I do?
By all means, you should contact a competent, experienced attorney to review the contract. The cost of retaining an attorney will in almost all cases be made up by more favorable contract terms and the peace of mind that you will gain knowing that an attorney has reviewed your contract. Any contract that you receive has in all likelihood been drafted by an attorney for the other side and may contain tricks and trap doors that only an attorney can spot. Lieber & Lieber, LLP can review any such contracts for you and either negotiate the contract directly with the other side or give you our comments for you to transmit to the other side if you do not want them to know you retained an attorney.
I am a principal in a small or medium private equity or venture capital fund and am looking for a law firm to retain for the fund. I’ve been told that I should only use a large, “name-brand” law firm? Is this good advice?
While there are benefits to using a large law firm, you should also consider the advantages of using a smaller firm such as Lieber & Lieber, LLP which in many cases will outweigh the advantages of a larger firm. First, the attorneys at Lieber & Lieber, LLP worked at large, nationally recognized firms prior to forming Lieber & Lieber, LLP. Thus we have the same training as the attorneys that will handle your matter at a large firm. However, unlike the large firms which will often assign junior inexperienced associates to your transaction, at Lieber & Lieber, LLP you can be assured of having only partner-level attention. Furthermore, our billing structure ensures that this partner level attention will in most cases cost you far less than the associate level attention you would receive at a large firm. (At large firms, documents are often drafted by inexperienced junior associates, then reviewed and marked up by partners, and then returned to the junior associate for further revision. This is a very inefficient and expensive process.) Also, because of Lieber & Lieber, LLP’s size, your transaction will not get lost in the shuffle or put at the bottom of the pile as all too often happens at larger firms, when deals may be put aside for a larger deal that comes into the office.
|
