Documentation During the Start-Up Phase of your Business
Starting a business can and should be as exciting as it is challenging! You and your partners have likely spent countless hours developing and fine-tuning the business idea, preparing to bring your potentially lucrative concept to market with great anticipation. Many times, the foundation of the partnership is based on lifelong friendships and/or trusted professional relationships so the need to formalize understandings and procedures with written agreements may seem very unnecessary or even uncomfortable. During this exhilarating time where all hands are focused on executing the business vision, who wants to spend time dealing with mundane documentation of company procedures, contracts, licensing, partnership agreements, etc., etc., etc.? Woe to the entrepreneur and business people that ignore this often unexciting yet truly critical matter!
Why is documentation important
Documentation is not an option. Documentation will (note: not “help” “hopefully” or “may”):
- Reduce liability;
- Mitigate risk from lawsuits and unforeseen events;
- Resolve disputes;
- Outline the details of wealth distribution;
- Clearly define the specific roles of the partners, employees, advisors, Board of Directors and other company stakeholders;
- Delineate the standard operating procedures and processes for the corporation for efficient and optimal business execution;
- Develop an actionable transition plan in the event of potentially difficult partnership dissolution or transformation;
- Raise capital; and
- Define the business objectives and execution strategy.
The aforementioned list is far from exhaustive but its importance should be apparent. If not, see our article, “Filling Out a Job Application.”
A good but far from comprehensive documentation list
The following is a minimum documentation check list that every entrepreneur and business should consider and implement:
- Standard Operating Procedures: A document that outlines the relevant corporate policies, decision making procedures, business processes, accountability controls, etc.
- Incorporation Documents: Once the appropriate corporate structure decision that is aligned with the strategic and financial objectives of the company and its stakeholders is made, the incorporation documents record the existence and purpose of the organization as a legitimate business concern with the appropriate legislative body. The incorporation documents should also serve to limit liability by serving as a shield to protect the personal assets of investors, managers, etc. I always include the organizational meeting minutes when I speak of Incorporation Documents, because I find that the organizational meeting, while critical, is often overlooked by those going it alone.
- Shareholder’s Agreement: This agreement may examine a host of issues, but is often utilized at the very least to pre-determine what happens when one of the owners leaves, either voluntarily or involuntarily. Upon one partner’s death, divorce, incapacity or termination, the last thing you want is to be stuck with unintended partners. A shareholder’s agreement will help facilitate a smooth transition for the remaining partners to enable the business to continue as an ongoing concern.
- Intellectual Property Rights Protection Agreements: Trademarks, copyrights and patents fall into this category. These agreements are intended to provide legal safeguards to protect the competitive advantage that is gained by the ideas and proprietary information, processes, products, logos, etc. of the company. If you have people developing IP for you, do you have assignment clauses in their employment agreements? Are your marketing plans and customer lists confidential? Do you want your employees competing against you when they eventually leave? A host of rights are often lost because of the failure of entrepreneurs to take just a few simple steps to protect what are often their most valuable assets.
- Insurance Agreements: Insurance is intended to mitigate the risk of unforeseen, unfortunate and potentially catastrophic events that could substantially cripple or kill the business if unprotected. Insurance is also used protect the employees of the business and their beneficiaries from possible temporary or permanent life-altering and/or financially paralyzing events, such as catastrophic injury or disability, substantial property damage or destruction, death, serious health concerns, etc.
- Licensing Agreements: Be sure that the company has obtained all of the appropriate licensing agreements that are required to operate the business from local, state, federal and international regulatory authorities. A lack of compliance by not obtaining the appropriate licenses can spell disaster and potentially shut down a business and/or cause substantial liability to be incurred by the partners.
- Business Plan: Just do it. And revise it as you go along. If you don’t have the time, hire someone to do it for you.
- Employment Agreements: Employment agreements are important to define the working relationship between employee and employer. In addition, through a non-compete clause, they will typically provide protection for a number of years to the company from the threat of employee departure by preventing direct competition by the (former) employee. The issue of noncompetition by a departing employee is driven by state law and some states, notably California, disallow noncompetition agreements right out of the gate. Other states, such as Oregon, dismiss noncompetition agreements on their face, but carve out exceptions to balance the legitimate interests of both employer and employee.
- Engagement Agreements/Consulting Agreements: These agreements should clearly outline and document the services, project scope, statement of work and payment arrangements of independent contractors and consultants. This is an area ripe for abuse, and the IRS knows it. See our article, “Know the Difference Between Independent Contractors and an Employees: It Matters!”
- Confidentiality Agreements: Confidentiality agreements are quasi “gag orders” that attempt to prevent parties from sharing information with outside parties that could have potentially damaging competitive, financial and/or business implications (e.g., violation of the confidentiality in a merger transaction). A popular misconception I run across almost weekly is that all non-disclosure agreements (NDA’s) are the same. They are decidedly not. I often advise my clients to have two NDAs in at the ready at all times. One, for when my guy is giving the information, and another for when he’s receiving it.
- Written Contracts: All business arrangements and agreements between parties should be documented. Though verbal agreements are enforceable, a written agreement limits the potential for misunderstanding and can provide protection in litigious situations.
- Other: Business templates and documentation including negotiation templates, phone call reports, letters or memos outlining the key points in a discussion, meeting minutes, etc. are important to document the history of transactions and can be important assets in strategic planning, litigation protection, negotiations, budgeting, etc. Some caution should be utilized, however, with all forms of documentation. Since many documents may be subpoenaed and virtually no document is truly virtual (e.g., there are firms, such as computer forensic experts, that function to recover even ‘erased’ electronic files and/or e-mails), individuals and corporations should use care with their documentation policies and procedures to avoid unwanted liabilities.
Documentation should not be an afterthought but should be a priority from the outset. In August 2003 I was asked to review the documentation of a company that incorporated seven months earlier. It was an interesting assignment, because the only documentation ever produced was a copy of the Delaware certificate of incorporation. Although one of the principals was an attorney, nothing had been put into place – no organizational minutes, no shareholder’s agreement, no bylaws – and my ultimate task was to secure a $1.5M private financing transaction! The point is, even with competent partners at the helm, early stage documentation is easy to put off until tomorrow. Don’t wait. Get your team assembled early, use them wisely, and sleep at night knowing your corporate foundation is solid, secure and defensible.