Tag Archives: incoporation

How Many Shares of Authorized Stock Should a Startup Company have at Incorporation?

An often overlooked aspect of filing a certificate of incorporation is determining how many shares of authorized stock should the new corporation authorize at incorporation. This decision doesn’t really matter to most businesses (I don’t have a clue how many shares I authorized when I incorporated my law firm), but startup companies aren’t like most businesses. Most businesses don’t grant stock options or seek venture capital. Thus, the organization and capitalization of your startup is important from the outset, and this all begins with how many shares of authorized stock your startup authorizes.

The short answer: 10,000,000 shares of Common Stock

The number of shares of authorized stock to authorize at incorporation is somewhat arbitrary, but my preference is to authorize 10,000,000 shares.  And this type of stock is usually ‘plain vanilla’ Common Stock and not something like dual class common stock for founders.

Are these 10,000,000 shares issued at incorporation?

Now, that doesn’t mean all 10,000,000 shares of authorized will be issued to the founders immediately upon incorporation. The startup must be careful and select an amount of authorized stock that will account for your startup’s short-term planned issuances and the reserved stock option pool — at least for the short term. Otherwise, your startup will have to incur additional filing and/or legal fees to increase the shares of authorized stock once you reach the maximum.  It’s not going to break the bank, but it can be discouraging to incur another $250 in just filing fees because your startup used up all its authorized stock so quickly.

For example, say you authorize 10,000,000 shares. You may want to keep a reserved option pool of 1,000,000 shares, thus you would only issue up to 9,000,000 shares to the founders. But we usually recommend that a startup issue about 60% of its authorized shares at incorporation.

Why 10,000,000 and not 100,000?  Or 1,000,000?

Of course, you could obtain the same result by authorizing 1,000,000 shares with an option pool of 100,000 and a 900,000 common stock issuance to the founders. But for some reason, people (and when I say people I mean the developers/consultants/directors getting the stock options) like to have a larger number of stock options even if the percentage of the company would be the same. I guess 50,000 stock options sounds better than 5,000 when you are up in the club.  And vanity does play a part…sometimes.

Note:  Delaware calculates franchise taxes in two ways, either by the total amount of authorized shares or by the assumed par value capital method.  Most startups (especially those that authorize 10,000,000 shares) should choose the later method — and should not freak out when Delaware sends the annual franchise tax notice.

Pro and $$$ Saving Tip:  Set your par value low.

Update: If you are looking for information about startup company incorporation, check out my “If I Launched a Startup” article.

Top 5 Reasons to Incorporate in Delaware

When you incorporate your startup company, two main decisions arise. First, what type of entity should your startup company be? Second, where should you incorporate? Of the two, entrepreneurs focus primarily on choice of entity–LLC, Corporation, etc.–and usually just incorporate in their home state. And home state incorporation may make sense for most. But for the startup companies looking to close venture capital rounds, ithe better decision would be to incorporate in Delaware.

Delaware’s division of corporations lists 4 reasons to incorporate in Delaware on its website:

Why Choose Delaware as Your Corporate Home?

More than half a million business entities have their legal home in Delaware including more than 50% of all U.S. publicly-traded companies and 60% of the Fortune 500. Businesses choose Delaware because we provide a complete package of incorporation services including modern and flexible corporate laws, our highly-respected Court of Chancery, a business-friendly State Government, and the customer service oriented Staff of the Delaware Division of Corporations.

Talk about selling your state short. I’ll see their four reasons and raise them one. Thus, the following are my top five reasons to incorporate in Delaware:

1. Flexible Laws. Delaware’s General Corporation Law is the most advanced and flexible business formation statute in the United States. It is designed to provide maximum flexibility in the structuring of business entities and the allocation of rights and duties among founders and shareholders.

2. No Wildcard Juries. If you do end up going to court to settle a dispute, Delaware’s Court of Chancery uses judges instead of juries. I don’t know about you, but I’d rather place my startup company’s legal fate in the hands of a well-trained expert than people whose legal experience consists of The People’s Court and Law and Order re-runs.

3. Precedence = Less Litigation. Since judges are used, decisions are issued as written opinions that your startup company can rely on. Thus, most Delaware corporations do not end up litigating disputes because their professional advisers examine these published opinions and construct deals to avoid lawsuits.

4. It’s Free! (Well, almost). Delaware charges $89 to incorporate. A little bit cheaper than California ($100..but they nail you for $800 every year in franchise fees), New York ($125), and a lot cheaper than Texas ($300). [note: Even if you incorporate in a foreign state like Delaware, your startup company may still be subject to registration as a “foreign entity” and compliance with the laws of states you transact business in.]

5. Privacy. In a world where personal privacy is constantly eroding (the Google 3D Mapping truck should be driving by my house anyday now), Delaware does not require director or officer names to be listed in the formation documents. Thus, Delaware provides a level of anonymity from snoopers.

Even though this post makes a big push for incorporating in Delaware, you shouldn’t assume Delaware is the default choice for your startup company. The fact so many large, public companies choose Delaware should demonstrate that large, public companies tend to benefit the most from incorporating in Delaware.

So think about it and discuss whether you should incorporate in Delaware with your co-founders and professional advisers. But note that if you are planning to work with an investment bank or venture capital fund, you will likely have no choice but to become a Delaware entity and thus incorporate in Delaware. And for the five reasons above, that may not be such a bad thing.

Update: If you are looking for information about startup company incorporation, check out my “If I Launched a Startup” article.