5:50pm: the buzz of networking chatter fills the hall, with some starting to take to their seats. The seminar nears! This week’s session, number two, focuses on Corporate Structure. Tonight’s speakers are Steven Lukas, a lawyer from Fasken Martineau, and Sean Hodgins, a chartered accountant from Tandem Accounting. Stay tuned for live coverage…
6:05pm: Event begins. Sean opens up by explaining his background, calling himself an entrepreneur “first and foremost,” and how he learned many lessons “the hardy way,” before diving into the topics of his presentation: Structuring for Success, BC Tech Bootstrap Structuring, Financial Modelling, and a Case Study.
Sean says there is a difference between structuring for the NVBC competition and structuring for success in the real market. He notes that only 1 in 100 companies get VC financing, and only 2 out of 10 VC-financed companies make it – do the math! He says that Dragon’s Den is entertainment, not a real method of fostering successful startups, and to take criticism in such contexts with a grain of salt. Sean suggests that businesses focus on solving a real problem and generating real profits.
Sean’s “Top 10 words of wisdom”:
1. Incorporate, your business specifically using a simple reverse vesting common shares.
2. Raise your first $25,000 from friends and family. If you can’t, something is probably wrong with your business plan.
3. Get good at expense reporting. It will save a lot of time and trouble down the road and maximize internal returns.
4. Register immediately to get your HST back. This is a big benefit for businesses. As soon as you incorporate, register! Period.
5. Build real SR&ED and optimize Proxy rules. Aim for something that hasn’t been done before and push what you’re doing. Otherwise, you may lack eligibility.
6. Register as an EBC. This acts as a 30% incentive for BC angel investors through tax credits. (Requires $25,000 paid up, bringing us back to Number 2.)
7. Leverage the NRC-IRAP (the “pre-paid SR&ED”) and other government programs. These are almost always worth applying for.
8. Angel circuit-links to customers and maybe even money. Even if you don’t get financing, angels are often friendly and full of advice they’re willing to give you.
9. Find customers who will help build your product.
10. Build partnerships and networks as early as possible (and then put in the time and effort to maintain them).
6:40pm. Financial modelling. What do you include in your financial modelling? Your historical data, as well as 3 to 5 year projections. Include an income statement of profit and loss; a balance sheet of assets, liabilities, and equity; a cash flow, burn, and runaway statement; an opportunity analysis; a list of assumptions; and a capitalization table.
Keep it simple, Sean says. Focus on revenues. Numbers are instrumental in telling your story – talk is cheap. Be believable, get feedback from your network to confirm believability. Costs should focus on SR&ED and S&M.
6:50pm. Business modelling, the “Eyeballs Model.” Ask yourself the basic questions: Who’s gonna buy what you’re selling? What price are you gonna charge? How does this compare to competitors? When will the sales happen? What are customer acquisition costs? What are customer support costs? Understand the metrics of your market – these simple but critical questions will be asked by angels and VCs.
Business modelling, the “Technical Model.” What trend is hot right now? Who will acquire you and when? You need technical excellence. You need investors in your field with connections. One million dollars per engineer back in the tech bubble.
Opportunity Analysis: Calculate the size of your target market. Then you need a “Story to Market Take” ratio – how good is your story? Can is capture 5, 10 percent of the market? Then analyze your rate of growth using key metrics like customer acquisition costs (don’t guess!). Finally, analyze your value and support it using discounted cash flows.
7:00pm: Concluding remarks: Don’t be afraid to fail. Listen and learn. Focus on the customer and on revenue. Your financial model is a critical component to your early stage success.
7:05pm: Steven Lukas begins his half of the presentation. He plans to cover initial corporate structure issues, allocating founder shares, preparing a financial plan, sourcing seed capital, allocating stock options, and financing a new venture.
There are many options for association, including proprietorships, partnerships, joint ventures, and various types of companies, such as federal or provincial. Companies start with one (or more) persons, who incorporates a company. There are shareholders who own the companies. Within the company, there are Directors who manage Officers who manage Employees. Tiny businesses often start with one person being the only director, employee, president, and voting shareholder, with family or friends as “non voting, participating shareholders.” However big or complex a corporation is, it always has a basic simple foundation and concept structurally.
7:15pm Shareholders. Anyone can be one – individuals, companies, etc. No limit to how many shareholders can exist, though when you hit 50, rules change. Shareholders have no liability within a company, except their initial investment. There are many types of shareholders: voting, non-voting, participating, non-participating. There are a number of rights and restrictions too, including options, warrants, and rights. Shareholders have one distinguished right: to elect directors. Otherwise, they have no influence on what the company does. The relationship between shareholders and a corporation are governed by the Shareholders’ Agreement; it is contractual, and these contracts can be customized.
Directors. Must be elected by shareholders; there must be at least one; there are no residency requirements for directors in BC; there are no qualifications, except being 19 or a criminal (rouses some laughter). They have the power to manage the affairs of the company and determine the policies. They have personal liabilities in the company such as breaching duties, which are legal obligations to the company and the shareholders as a whole – this notion can make it hard to find directors. Directors appoint the company’s Officers. Directors have to be people, not companies or partnerships.
7:30pm. Officers. You can have as many Officers as you want and they can have any titles they want, such as Chief Envangelist. Officers manage the day-to-day affairs.
Employees. These guys do all the “real work.” Employees are not the same as contractors. Employees are compensated by cash, shares, and/or options. Things employees do by default, you own. However, with contractors, they may own it – understand the differences and try to own as much IP as possible that contractors create. Employees are largely not liable for their own acts unless on a criminal level, such as fraud.
Advisors. These guys make up Advisory Panels, who are “non-Director experts.” They advise the board but do not make decisions. They are separate of the company, unlike directors, officers, and employees. In corporations, majorities always rule.
7:40pm. Conflicts of interest, within the structure, within other companies, between investor and inventor, etc. Many possible issues can arise when it comes to corporate structure, typically a strain on a relationship between two different roles. When incorporating, choose Canada over U.S. or offshore, because investors prefer corporations in Canada, government grants are more readily available, and taxes and employment issues are simpler here at home. When choosing between B.C. and Federal structures, both work and both are investor-friendly. Create a structure that’s easy: unlimited common shares, unlimited number of “blank-cheque” preferred shares. Avoid issuing secured debt, using shareholders’ loans, using multiple share classes, and incorporating offshore.
What are Founders’ Shares? The first pile of stocks issued by your company. Large chunk of shares issued at low price to position the Founders and recognize their “sweat equity” contribution. These are common shares in most cases and should be issued at the price of $0.01 per share – as nominal as possible. These are issued to Founders and senior officers, not employees or outside investors. Common mistakes: not setting enough shares initially (create four to eight million); not setting aside shares for future addition of management team (set aside 15 to 25%); not vesting the shares; issuing them to the wrong people.
7:50pm. Preparing a financial plan. Non-equity financing can come from government grants, credits, and refunds, as well as quasi-governmental organizations. Equity financing (seed) can come from the founders, friends, and family. Following rounds from Angels, VCs, investment bankers, and underwriters. You can also get money from IPOs and strategic partners. Friends and families should fund to $50k to $150k, Angels from $250k to $500k, VCs or Underwriters from $1M to $3M. To distribute a security, file a prospectus or rely on the exemption from prospectus requirement. Exemptions (any amount of funding without disclosure) include friends and family, business associates, accredited investors, and others. You can use stock options to incent employees – create a right to purchase a number of shares at a predetermined price. Vest options over 2 to 4 years. Senior management should be allocated the highest percent, with lower ranks receiving a smaller allocation of the net stock options.
Everytime you dilute your shares, your percent of the company ownership decreases – but when you raise money through shares at several times the value of your initial owned shares, your net value increases exponentially. Your slice of the pie is smaller, but the overall pie is much, much bigger. Each tier should see higher stock prices; from family to angels to VCs to the IPO.
8:05pm. Seminar ends.