Startup Founders Business Registration Questions Part 2

founders vesting share holders agreementShould startup founders sign a shareholders agreement (SHA)?

Yes, startup founders should sign a shareholders agreement which should include most of the following items. The shareholders agreement should be written in clear language, definitions of words should be included to avoid ambiguities and disagreements among the founders, during the life of the company.

 

  1. Capital – this section states the authorized, subscribed and paid-in capital, par-value and founder share allocations.
  2. Non-compete – during and for a period of time following termination of employment in the company, the resigned/terminated founder will not engage in any way with any business that provides services or products similar/competitive being produced or under development by the company.
  3. Vesting – Shares in startups are usually allocated upfront to founders at incorporation for a nominal value. Vesting prevents a co-founder who decides to leave or did not contribute what was expected of him from leaving a startup at an early stage with a large block of shares. When a co-founder leaves the startup for whatever reason, the startup buys back the unvested shares for a nominal value as agreed upon in the SHA.

Most founder’s shares vest over a 4 year period with a one year cliff. The SHA may also include milestones where shares may also vest.

Single or double triggers clauses may also be included for accelerated vesting of part or all of unvested shares.  A single trigger could be the acquisition or a change of control of the company.

A one year cliff means, no shares vest until the founder has been with the startup for a year after which shares vest monthly.

  1. Intellectual Property – assignment of IP (existing IP) & Invention Assignment Agreement (for IP developed while working for the company), can be in a separate agreement.
  2. Funding by founders – how will the funds be treated, loan, capital etc….
  3. Founder Roles – description of each founders main tasks and responsibilities in the company.
  4. Dispute Resolution – how will disputes be resolved, arbitration, governing law.
  5. Company Management – management of the business and affairs of the company.
  6. Limitations of Transferability Rights of Shares

a. Pre-emptive: when a corporation issues new shares of stock, every shareholder has the right to purchase a portion of the issue, in proportion to their respective shareholdings in the corporation, unless the articles of incorporation provide otherwise.

b. Tag-along: when the majority shareholders sell their holdings to a third party Tag-along rights allow the minority shareholders to sell if they so desire their shares at the same price, terms, and conditions as the majority shareholders to the third party.

c. Drag-along: this is a clause that forces the minority shareholders to sell their shares to a third party should the majority shareholders sell their holdings at the same price, terms and conditions.

d. First-refusal: gives the other shareholders or the company the right but not the obligation to purchase shares that an existing shareholder proposes to sell to a third party at the same terms and conditions.

Drag-along and Tag-along rights generally terminate on public offering.

Some of the clauses of the SHA must also be included in the articles of incorporation and by-laws.

Corporation Code of the Philippines:

Section 98. Validity of restrictions on transfer of shares. – Restrictions on the right to transfer shares must appear in the articles of incorporation and in the by-laws as well as in the certificate of stock; otherwise, the same shall not be binding on any purchaser thereof in good faith. Said restrictions shall not be more onerous than granting the existing stockholders or the corporation the option to purchase the shares of the transferring stockholder with such reasonable terms, conditions or period stated therein. If upon the expiration of said period, the existing stockholders or the corporation fails to exercise the option to purchase, the transferring stockholder may sell his shares to any third person.

Section 100. Agreements by stockholders.

  1. Agreements by and among stockholders executed before the formation and organization of a close corporation, signed by all stockholders, shall survive the incorporation of such corporation and shall continue to be valid and binding between and among such stockholders, if such be their intent, to the extent that such agreements are not inconsistent with the articles of incorporation, irrespective of where the provisions of such agreements are contained, except those required by this Title to be embodied in said articles of incorporation. (extract)

This is an overview of shareholder agreements between startup founders before business registration with the Philippines SEC, many other items may be included in a SHA that will allow a startup to grow while minimizing disputes between founders.

Dayanan Philippines Business Consultants answers startup founders business registration questions. Contact us now for a consultation.

Startup Founders Business Registration Questions Part 1

Philippines Startup Corporation Share Certificate
Startup Corporation Share Certificate

The most common questions from startup founders before business registration with the Philippines SEC are:

  1. How do I keep control of my company, while still issuing shares to investors?
  2. How many shares should my company have?

Example Incorporation

A corporation was registered with an authorized capital of PHP One Hundred Thousand (100,000) divided into Ten Million (10,000,000) shares with a par value of One Centavo (PHP0.01) each.

For those of you, who think that the above is written in a foreign language, at the bottom of this article are the definitions of some financial terms that a startup CEO must know.

Philippine law (The Corporation Code of the Philippines) requires at incorporation that at least twenty five percent (25%) of the authorized capital stock of the corporation has been subscribed and at least twenty five (25%) of the subscribed has been paid.

Stockholders who only paid-in the 25% of 25% of their subscription will owe the corporation the remaining 75%. Best to have the all subscribed shares fully paid before selling unissued shares to investors.

How many shares to Founders?

Founders may allocate to themselves from 50% to 70% of the authorized capital leaving the remaining capital stock for investors and employee stock options.

E.g. Founders will subscribe to 5,000,000 shares with par value of PHP0.01 each or PHP50,000.00. This equals 50% of the authorized capital and 100% of the outstanding capital stock.

The Startup takes an Investor

Now what happens, when the company sells shares to an investor?

Let’s say an angel investor wants to invest PHP5,000,000 for 5% of the company.

We find ourselves with:

  1. Founders owning 95% of the company with 5,000,000 shares who invested PHP50,000
  2. Angel Investor owning 5 % of the company with 263,157 shares who invested PHP5,000,000.

The Pre-Money Valuation was PHP50,000 and  we now  have a Post-Money Valuation of PHP5,050,000 with 5,263,157 outstanding shares.

The shares issued to the angel investor are from the unissued capital stock, the investment will form part of the corporation’s capital.

The corporation now has a valuation of PHP5,050,000 or PHP0.96 per share, quite an increase from the PHP0.01.

Did the par-value increase?

No, the par-value per share has not changed. The par-value only changes if amended in the corporation’s Articles of Incorporation.

The corporation now has a paid-up capital of PHP5,050,000 composed of 5,263,157 shares with a par-value of PHP0.01 each. The increase in the valuation represents additional paid-up capital.

The startup still has 4,736,843 shares to offer future investors.

Documentary Stamp Tax (DST) must be paid to the BIR on all shares of stock issued by the corporation. The DST is calculated on the par-value of the shares and not on the price paid by the investors.

Definitions of terms to understand a corporation’s articles of incorporation:

  1. Par Value
    The par value of a share of stock is the minimum value that a corporation may sell a share of its stock.
  2. Authorized Capital
    The authorized capital is the maximum number of shares of stock that a company can issue with a specified par value. The authorized capital may be increased with the approval of at least two thirds of the shareholders.
  3. Subscribed Capital

The subscribed capital are the shares of stock that people or legal entities have promised to purchase from a corporation.

  1. Paid-in Capital

The paid-in capital (paid-up capital) is the actual amount of money stockholders have paid on the shares of capital stock for which they have subscribed.

  1. Outstanding Capital
    The outstanding capital means the total shares of stock issued under binding subscription agreements to subscribers or stockholders, whether or not fully or partially paid, except treasury shares.

Other terms:

Pre-Money: The pre-money valuation refers to the company’s valuation before the investment.

Post-Money: Post-money valuation is the value of a company after an investment has been made. This value is equal to the sum of the pre-money valuation and the amount of new equity.

Do you have questions about Startup Founders Business Registration? Post them on our face book page and we will answer them in part 2 of this article. Dayanan Business Consultancy Facebook