Post Category → Formation

More Tech Startups are LLCs

TL;DR: Years ago, it was an “obvious” decision for almost every tech startup founder that they would form their company as a “classic” C-Corp designed for venture capital investment. As entrepreneurs have become far more aware of the downsides of VC money with very high-growth expectations, and the diversity and number of tech investors comfortable with LLC investment grows, that is less the case today.

Background Reading:

If you have spent almost any time reading about the basics of startup legal issues, you know that Delaware C-corps are the default organizational structure for a “classic” tech startup (software, hardware) planning to raise angel/VC money and scale. I’m not going to repeat what you can read elsewhere, so I’ll summarize the core reasons in 2 sentences:

Delaware because DE is the “english language” of corporate law and all serious US-based corporate lawyers (and many foreign lawyers) know DE corporate law.  C-Corp largely because (i) VCs have historically favored C-Corps for nuanced tax and other reasons, and (ii) virtually all of the standardized legal infrastructure around startup finance and equity compensation assumes a C-Corp.

However, times are changing. Over the past few years, we’ve seen a noticeable increase in the number of emerging tech companies that, despite knowing all of the reasons why startups favor C-Corps, deliberately choose to organize their company, at least initially, as an LLC. To be clear, C-Corps are still the norm, by far. But the C-Corp / LLC mix has, for us at least, moved maybe from 95/5 percentage-wise to about 85/15. That’s an increase worth paying attention to.

The growth in interest around LLCs has very little, or really nothing, to do with legal issues, in the sense that nothing much has changed about LLCs or C-Corps to drive people in one direction or the other.  The main drivers, from our viewpoint, are:

  • Many tech entrepreneurs no longer view venture capital as an inevitability in their growth path, and have grown skeptical of the traditional “growth at all costs” mindset found in many startup circles; and
  • An increasing number of technology investors are growing comfortable with LLCs.

Profitability is now a serious consideration among tech entrepreneurs. 

C-Corps have 2 “layers” of tax: corporate-level tax, and then tax at the shareholder level. LLCs don’t have a corporate-level tax, and therefore have only 1 layer. Speaking in broad terms, this “disadvantage” of the C-Corp structure has not deterred tech startups for one simple reason: the corporate level tax is on profits, and many tech startups don’t intend to be truly profitably any time soon. Achieving very fast growth through reinvestment of any ‘profits’ has been the dominant growth path among tech entrepreneurs, which means no “profits,” which means being a C-Corp doesn’t really result in more tax.

However, the zeitgeist among startup ecosystems is shifting from “focus on growth, and raise VC” to “unless you’re absolutely positive you’ll raise VC, keep your options open.” Keeping your options open favors starting out as an LLC, because converting an LLC to a C-Corp is way easier than converting a C-Corp to an LLC. The reason for that is simple: the IRS welcomes you with open arms if you choose to move from 1 tax layer to 2. But going in the opposite direction costs you significantly.

As more tech entrepreneurs take seriously the possibility of building a profitable, self-sustaining business, their interest in starting their companies as LLCs is growing, because building a truly profitable business as a C-Corp is much more expensive (tax wise) than it is as an LLC. Many angel investors, and also strategic investors, are comfortable investing in LLCs, particularly under a convertible security structure that doesn’t immediately result in equity holdings.

So starting as an LLC allows you to build your company, and even raise some early capital, while letting things develop to see if you’re really building a business that needs conventional venture capital (and then convert to a C-Corp), or if you’re building one that may instead become profitable and distribute profits to investors (stay an LLC).

VCs are also growing more comfortable with LLCs.

The conventional line given for why VCs “must” invest in C-Corps is that the “pass through” treatment of LLCs can result in various negative consequences to their own investors (LPs), many of whom are tax exempt – so the C-Corp structure prevents the tax problems. However, more sophisticated VCs have realized that in most cases this problem is quite fixable. They can set up what’s often called a “blocker corp” that eliminates the possibility of pass-through income negatively impacting their tax-exempt LPs. Problem solved. It’s not that hard to do.

Truth be told, a lot of VCs still don’t want to mess with LLCs. But at this point it has more to do with inertia and a desire to minimize their own legal bills than any real legal issue. Also, most VCs are only looking for companies in a high-growth track where any net revenue will be reinvested for growth (no corporate profits, no corporate tax), so they are selecting for companies for whom an LLC structure isn’t really that appealing.

But not all VCs think that way. In fact, the types of investors putting money into tech startups has been diversifying significantly. Angel syndicates have grown in size, seed funds have multiplied and grown bigger, with larger checks. And strategic investors now invest very early. Many of these groups are far more comfortable with LLCs than “classic” VCs, because they aren’t as constrained in the types of companies they can invest in.

If you are an LLC tech startup, you need tax counsel.

If you are a tech startup that wants to be an LLC, realize that while LLCs may save you taxes, they will not save you legal fees. Equity compensation, particularly to employees, is much more complex under LLCs, and requires the oversight of true tax lawyers. It is not something to be handled solely by a “startup lawyer.” Any law firm working with LLCs should have access to tax specialists, and if they don’t, that is a red flag.

Also, as startups move from a uniform growth path to one that considers a wider variety of sources of capital (angel, non-traditional seed, strategic, private equity, debt, royalty-based, etc.), they need to accept that the standardization found in conventional Silicon Valley-style fundraising is simply not a possibility. The huge push to standardize investment documentation into templates that can be almost automated stems from the “billion or bust” mindset of classic VC-backed startups. In that world, everyone is a Delaware C-Corp. Everyone is trying to be a billion-dollar company that will eventually get acquired or go IPO. All the angels talk about the same things on twitter and are comfortable investing on the same docs. So just automate a template, plug in some numbers, and focus on growth.

But in a world where everyone isn’t a Delaware C-Corp; everyone isn’t on the same “billion or bust” growth path, and there is far more diversity among companies and investors, the conditions for heavy automation and standardization simply aren’t there, and likely never will be. It requires real financial, tax, legal, etc. advisors to handle real complexity, while right-sizing it for the stage and size of each particular business.

The truth is that outside of a few large startup ecosystems, there has always been much less uniformity among financing structures. Software engineers – frustrated with their inability to force everyone into uniform documentation that can be automated – have criticized this reality as backward and just needing to “catch up,” but to people on the ground it’s been pretty obvious they’re just hammers screaming at everyone to become a nail. More entrepreneurs are no longer comfortable being pigeon-holed into a one-size-fits-all growth path or legal structure, and long-term that’s a good thing for everyone.

Vesting Schedules – Beyond the Standard

TL;DR: The standard 4-year with a 1-year cliff vesting schedule is not the only option. Companies can use a number of alternatives to better align incentives, and even select for employees/founders with more loyalty and interest in long-term commitment.

This is not a post explaining what vesting schedules are – I make it a point to (try to) not duplicate content that others have already written about 10x on the web. See this post for a quick run-down.

Most people know that the “market standard” vesting schedule is 4-years with a 1-year cliff. That’s standard for employees, but also quite common for founders. I occasionally hear founders say that a founder team shouldn’t subject each other to a cliff, but generally I think that’s a bad idea. Some kind of cliff is a great way of ensuring that anyone there on Day 1 intends to be there for some meaningful amount of time. If they balk at a cliff, it says something; not entirely clear what it says, but it certainly says something of significance.

Advisors tend to have shorter schedules, like 1-2 years, because their grants are smaller and tenure tends to also be shorter. At least a 3-month cliff is always a good idea for advisors, in my opinion. If they balk, it, again, says something.  Making small, reasonable requests in any kind of relationship, and observing the response carefully, can be a great way to gauge a person’s personality, motivations, and perspective; even if you consider the request itself immaterial and easy to drop. 

However, for companies that feel like the standard approach doesn’t fit their context, or align incentives properly, there are a lot of smart alternatives that we’ve seen our client base adopt. Here are a few:

Milestone Vesting

Instead of vesting based on time, you set it to occur upon certain milestones. These can be any number of things: achieving a certain financing, a certain revenue level, hitting a sales quota, etc. Whenever we see milestone vesting, the milestones tend to be contextualized for the individual. And certainly it only makes sense to have milestones that the individual recipient of the stock actually plays a lead role in achieving.

The benefit of milestone vesting is it can, when it works, better align “earning” equity with actually delivering results, as opposed to simple tenure based on time. However, the challenges that arise are (i) in the drafting – getting people to agree on reasonable milestones, (ii) in deciding when they’ve been achieved – who ultimately decides? the Board? the CEO?, and (iii) when circumstances change and ambiguity arises as to whether the milestone has been met. And of course, it is just more of a hassle to have to track milestones for vesting purposes as opposed to just letting the clock tick.

My strong suggestion to clients whenever they go with milestone vesting is to stick to milestones with objective, unambiguous metrics. Stay away from anything that depends on someone’s opinion – like “doing X to the satisfaction of Y person.” You’re just asking for trouble if you go there. Something like “achieving $X in cumulative customer revenue” will result in far far fewer disputes. And remember to use milestones that the stock recipient plays a significant role in helping the Company achieve. That too will prevent arguments over unfairness or bad faith as to person Y being responsible for why person X didn’t get their vested equity.

Longer Schedules (5-6 years)

There is a lot of value in attracting employees who intend to be with your company for the long-haul, as opposed to those who hop between employers. The sense of long-term thinking and loyalty that a long-term employee can bring to key projects can be hugely important strategically. I’ve always found the “perk wars” of certain tech ecosystems to be somewhat counter-productive, as they tend (in my mind) to select for employees with more mercenary personalities, as opposed to people who want to be there for much more important reasons.

I’ve certainly applied that thinking to how I recruit for MEMN.  Honestly, if whether or not we offer free lunch or doggy sitting will influence your decision to work for us, I’d prefer you not.

Companies that deeply value long-term commitment will often consider having longer-than-standard vesting schedules; maybe 5 or 6 years. Of course, for this to work you generally need to provide an appropriately larger equity stake.  Someone might ask why not, instead of one grant with a longer schedule, simply committing to do another grant after the standard 4-years?

It’s true that you can do that, and the standard approach is to provide ‘fresh’ grants to employees, for retention purposes, once their original vesting schedules run their course. However, (i) a grant made years later will have a higher exercise/purchase price (for tax purposes), so it’s actually tax favorable to do an earlier grant with a larger schedule, and (ii) there’s something about a longer schedule that just signals a person’s long-term commitment better, particularly if coupled with back-weighted vesting (see below).

Back-Weighted Schedules

If you’re looking to use vesting schedules as a way to gauge long-term commitment, back-weighted vesting is definitely an option worth considering. The concept is quite simple. Instead of vesting in equal installments over a schedule, the back-end of the schedule provides more vesting than the front-end. So instead of 25% vesting per year, Year 1 may be only 10%, but Year 4 may be 40%. There is definitely some logic to this idea, because the value someone delivers to their employer tends to go up over time, as they’ve become integrated into the culture, moved up in rank, taken on more responsibility, etc.

A longer-than-standard schedule with back-weighted vesting is one of the strongest messages you can send as to how much significance the Company places on loyalty and long-term employment. And as I mentioned before, if someone really balks at the idea, pay attention to what that tells you, because it definitely tells you something.

For key hires, the standard doesn’t always fit. 

I hear it all the time: “just go with what’s standard.” I understand that approach, and it’s sometimes driven by an attitude that all of this legal mumbo jumbo doesn’t matter. Except for when it does.

For strategic hires, particularly in the very early days of a Company when your core team will totally make or break you, non-standard vesting schedules can be a valuable tool to align incentives, and “filter” for people who may not be as committed to the cause as you think they are. Remember: when someone says “no” to something you think is reasonable, it may not be fully clear why, but it tells you something. And that something can be very important. 

Promising Equity v. Issuing Equity

Background Reading:

An underlying theme of a number of SHL posts has been the common misunderstanding among young, first-time founders around what startup/vc lawyers in fact do. As I wrote in Legal Technical Debt, a mindset has emerged from certain startup circles suggesting that virtually anything legal that startups do at early-stage, from forming their company to raising seed financing, can be automated with software.

That confused mindset leads founders to (i) assume that all lawyers are just luddites over-charging startups for effectively filling in forms, and (ii) results in founders accruing an enormous amount of compounding ‘legal technical debt’ from badly drafted documents, mis-matched contracts, missed legal steps, etc. For companies that fail fast, the debt never comes due. And yes, there is a clear correlation, from my experience, between founders who arrogantly think lawyers are worthless and those that never build anything of significance.  Dumb people believe and do dumb things.

For those founders that do end up building a real business, however, the 10x cleanup cost of legal technical debt (relative to what it would’ve cost to do it correctly from the start) is often brutally painful. There are a lot of very interesting new tools out there being built to streamline and optimize how tech/vc lawyers work, and you should certainly look for lawyers who are using them. But if you think for a second that you’re going to build a real tech company without needing serious lawyers who can safely manage significant legal complexity, you are, without question, deluding yourself.  

A significant source of “automation confusion” arises from founders not understanding the difference between promising equity and actually issuing equity. I’ve noticed this from how many of our own (very early stage) clients will randomly e-mail us a set of contracts executed over a period of several months with a short message like: “we went ahead and *issued* some equity on our own.  just FYI.”  This blog post will save me from having to write the same e-mail 30 times in the future.

Promising Equity 

I can promise someone equity in 5 seconds, and 1 sentence.

“I promise to issue you 10,000 shares.”

See, it’s not hard. Promising equity is exactly as easy, and as automatable, as it sounds.  Anyone who automates a contract for promising equity, which usually means filling in numbers into a static template, doesn’t deserve the slightest bit of praise for innovation. It’s been do-able for decades.

Sure, people still make mistakes in promising equity all the time. They calculate the number of shares incorrectly, or they get the vesting schedule wrong (or don’t offer one at all), or they simply grabbed the wrong form to begin with.  But the point is that, perhaps with a little guidance from educational materials and a boilerplate form, promising someone equity is do-able as a DIY project.

Reality Check

The problem, of course, is that promising equity is 2% of the much more complicated process needed to actually issue equity. To correctly accomplish the issuance of equity from your company and into the hands of the intended recipient, a web of highly contextual legal analysis needs to occur. Just a short (non-exhaustive) example:

  • What kind of entity are you? That influences the type of equity you can issue.
  • Stock? Option?
    • If Stock, at what price?
    • If Option, at what price? To an employee, or a contractor?
  • Vesting schedule? 83(b)? Acceleration?
  • Was the price set correctly to avoid tax consequences?
  • Enough authorized shares?
  • Correct class of equity?
  • Is it being issued under an equity plan?
  • Was the plan adopted correctly?
  • Are there enough shares in the plan?
  • Is the recipient eligible to receive the equity under securities laws and tax rules?
  • Any state-specific rules/filings to comply with?
  • Any contractual approvals needed?
  • Any cap table adjustments needed, like anti-dilution?
  • Approved by Board?
  • Anyone else that needs to be notified about the Board action?
  • Any spouses we need to worry about for community property purposes?

I could go on, but you get the idea.

Want to try automating that? Good luck to you. Medical care will be fully automated before complex legal work is. Why? Because there’s far less variability in biology than there is between the legal structures of companies. You simply cannot automate (not in a commercially viable way, at least) in an environment where every use case has a totally different starting point, context, and history, in an infinite number of combinations. Even less so where high-stakes errors are cemented in ways (via contract execution and enforceability) that do not allow for quick and easy bug fixes. That is precisely the world in which serious VC lawyers operate.

Believe me, I empathize deeply with the disdain for lawyers held by many entrepreneurs, and share some of it myself. As someone who manages recruiting for our firm, I constantly find myself fighting a sense that the legal field is a magnet for people who think that perfecting their punctuation matters more than learning to actually advise clients on the what, why, and how of startup law.

But there are lawyers in the market who know how to get things done efficiently and correctly. I hire those lawyers. You can either (i) pay them now, (ii) pay them 10x later, or (iii) assume your company will fail before the debt comes due.

When LLCs Make Sense for Startups

TL;DR Nutshell: In the vast majority of instances, tech startups are best served by starting out as Corporations (C or S-corps, but usually C-Corps) on Day 1, and lawyers suggesting otherwise are usually generalists who lack tech/vc-specific domain expertise to understand why. However, there is a narrow set of circumstances in which LLCs make sense for a startup.

Background Reading:

This post is about the “almost” part of that tweet. But to get there, it’s important to address the “simpler” and “tax efficient” aspects, because those are the two core reasons that I often hear pushed onto founders for why they should be LLCs.

LLCs may be simpler generally, but Tech Startup LLCs with investor capital and equity compensation never are.

Here’s a hypothetical: Imagine you’re an athlete who’s signed up for a football camp held in Boston in the middle of February. Your general knowledge of Boston weather tells you that it is going to be a** cold. You ask a few other people with knowledge of Boston, including me (I went to law school there), and receive confirmation that Boston is a** cold in February. So you show up to the camp with only your winter gear… but it turns out the camp is entirely indoors in a heated facility. Whoops. Should’ve asked someone with true domain-specific knowledge of that camp, not just people with general knowledge. 

That, in a nutshell, is what happens when lawyers and other business people tell tech founders to use LLCs. LLCs are extremely common in the general legal world. For simple operations with one or a small number of owners, they are by far the dominant legal structure, because they usually are simpler. However, for tech startups, who very often (i) use equity as a significant part of their compensation for employees/service providers, and (ii) often raise capital with multiple equity classes, complex preferences/rights, etc., things get extremely complex under an LLC structure, much more so than with corporations. The amount of tax and legal analysis that has to be done to issue equity compensation and/or raise capital in an LLC is (without exaggerating) 10x that of a corporation.

So, if your plan is to raise capital and use equity as a form of compensation for employees and contractors (which is usually a hallmark of a tech startup), do not delude yourself for a second that an LLC will be simpler than a corporation. 

The “Double Tax” issue usually only matters if your startup is a “cash cow.”

Yes, in a general sense LLCs have one layer of tax and C-corps have two. That is another reason why (as stated above), LLCs have become a very dominant legal structure, not just for simple companies but also for many large businesses as well. Again, though, context is key. The “additional layer” of tax that corporations face is on net profits; after accounting for expenses, including salaries. No net profits, no corporate tax. So if a startup is going to be generating substantial profits (taxed once) with the end-goal of distributing those profits to shareholders (taxed again at individual level) as a dividend, the two layers are a problem.

But how many high-growth tech startups do you know that, instead of reinvesting profits for growth, pay profits out as dividends? Not many; certainly not in the first 5-10 years of the company’s life. Most high-growth tech startups deliberately operate at a net loss for a very long period of time, and therefore (i) aren’t worrying about taxes on net profits, and also (ii) are taking advantage of those losses at the corporate level in a way that may not be even use-able on the individual level. This, btw, is also why S-corps are usually not very helpful for tech startups either.

And to add an additional wrinkle: in an acquisition, corporations often have the ability to do tax-deferred stock swaps, whereas LLCs don’t. So, in short, the “LLCs save a lot of taxes” perspective, while generally correct, is usually misapplied to tech startups by people who simply don’t do enough startup/vc work to give sound advice. Yes, VCs often push companies to be C-Corps (read the background articles), but VCs are hardly the only reason why the C-Corp structure is used in tech. 

LLCs therefore make sense for tech startups that:
(i) expect substantial net profits very early on;
(ii) aren’t planning on raising institutional venture capital, and/or
(iii) aren’t planning on using equity to compensate a lot of people.

Lots of net profits early on (rare)? The single layer of tax may be worth it, and even institutional VCs sometimes are willing to accept the complexity of an LLC to take advantage of the tax savings.  Not planning on raising VC money any time soon? Other types of non-tech investors are usually more comfortable with LLCs than VCs are. Not planning on paying your employees with equity? Then you’ll avoid the tax nightmare of issuing LLC equity to dozens/hundreds of people.

Few tech startups fit the above scenario, and that’s why few are LLCs. The classic tech startups that operate (rationally) as LLCs are bootstrapped/self-funded software and app companies with no plans to scale very quickly with outside capital, and large “marketplace” startups for which the actual investment in the technology is minimal relative to the large amount of revenue/profit pushed through the marketplace. For almost everyone else, C-corps are king, and for good reason.

p.s. I am not your tax lawyer, and am not pretending to know the right answer for your specific company. The above is just general knowledge; not legal advice. If you rely exclusively on a blog post to determine your legal structure, without talking to a professional to understand your context, you’ve taken on the risk of screwing it up.

Legal Technical Debt

TL;DR: The entire point of contracts is that they are permanent, and can’t be fixed unilaterally. That makes legal mistakes far more costly to fix than coding mistakes. But similar to code, your early stage legal work sets the foundation upon which everything else gets built, and therefore the cost of fixing errors compounds over time; like technical debt. In short, legal work is the last area where any knowledgeable entrepreneur should cut corners, thinking they can just fix issues later.

“Siri, please amend my charter to authorize a Series AA round, prep me an offer letter for a CTO, issue options to 3 recent hires… oh and review/execute that stock purchase agreement with my accelerator. Keep the fees under $500.”  — Not too far off from how a (confused delusional) segment of the startup community thinks startup/vc law should work.

Imagine if advisors told startup founders that, in order to conserve cash, they should aim to spend as little as possible on developers. Find cheap ones. If the non-technical CEO can code something himself to get by, do so.  Just get it done. Don’t overpay.  In fact, if we can automate our development process, do it. Keep cash spend on ‘the business.’

Anyone with an ounce of experience in building successful tech companies would recognize this advice as absurd and dangerous, as if quality and accuracy are irrelevant. Yet every so often I hear about advisors giving this exact advice to founders, about legal spend. And while fewer may acknowledge it, such advice is equally as absurd.

Of course you’d say that, Jose. You’re a startup lawyer.

Well, maybe. But let’s process it a bit.

Why would minimizing your spend on software development (like legal services) be stupid and dangerous?

It can be explained in part with the term ‘technical debt.’ via Wikipedia:

“Technical debt… is a recent metaphor referring to the eventual consequences of any system design, software architecture or software development within a codebase. The debt can be thought of as work that needs to be done before a particular job can be considered complete or proper. If the debt is not repaid, then it will keep on accumulating interest, making it hard to implement changes later on. Unaddressed technical debt increases software entropy.”

While I’m not a developer, my general understanding of the term is that bad coding becomes more expensive to fix over time, in an almost compounding way. And there are even circumstances in which it is so bad that nothing short of a complete re-write will make it scalable and useable. In other words, going cheap on developers just means you are compounding your cleanup cost and headaches for the future, and even threatening a complete shut-down of the product.

Minimizing legal spend works exactly in this way, but magnified 10x.  I frequently write on SHL about the many parallels between complex contract drafting/VC law and top software developers. Both groups involve highly skilled people capable of analyzing, managing, and manipulating large amounts of complexity. Both implement changes for which the stakes on a company are very high. Both expect to be compensated well for their skill set.

Software developers produce the code base on which your product runs. Lawyers produce the code base on which your company, including its relationships with investors, board members, executives, and employees, runs. 

A crucial difference between software code and legal code is that bugs are far easier to find and fix in the former than in the latter. Software code is constantly being revised, with thousands or millions of users revealing bugs on a regular basis. Legal code (contracts) are executed and then put away, often to be reviewed only at high-stakes moments, when fixing them is extremely expensive or even impossible.

Unlike software code, you can’t unilaterally issue ‘updates’ to executed contracts. Any experienced lawyer has seen a deal cost 6-figures more than it should have, or even completely die, because of legal mistakes made earlier in the company’s history. So think of contract drafting for a scaled startup as high-stakes software development for which virtually any material bug is completely unacceptable once the code is shipped. Still want to ‘minimize’ legal spend?

Law is Code; Not Product.

In my experience dealing with many many sets of founders, a part of the startup community carries the very deep misconception that startup/vc law has been, or even can be, completely productized. Want to ‘just’ issue some stock, grant some options, close a seed round, etc? It’s been done hundreds of times before, so it must be all ‘standard’ by now. Just click a few buttons, fill in some names and numbers, and you’re done.

This is the attitude of someone using a product for which clean, standard, predictable, pre-defined features are already in place. “Just” issuing a service provider some stock should be like ‘just’ moving some files around on Dropbox, right? There’s a serious flaw in this thinking. The clean, standard, predictable company and contract history simply does not exist, and hence full automation is pure fiction. 

  • What state are you located in? Laws vary, even if you’re a standard DE corp.
  • Are you a C-corp? S-corp?
  • Are there protective provisions that need to be complied with?
  • Any anti-dilution protection?
  • Enough authorized shares in the charter?
  • Enough reserved equity in the equity plan?
  • A well-documented value of the equity?
  • Is there a written agreement explaining the consideration and complying with securities laws?
  • Is the recipient an individual or an entity?
  • Board approval?
    • Are we confident the composition of the Board is well-documented?
  • Is stockholder approval necessary?
    • Any specific thresholds?
  • Vesting?
    • 83b?
  • Acceleration? What kind?
  • Any other special provisions/requirements implemented by past investors?
  • etc. etc. etc.

Virtually every VC, angel group, accelerator, large company, etc. has its unique variances in the contracts it executes/negotiates. States have different requirements. Laws change. Reality: people are not standardized.  They have their idiosyncrasies, and people determine what does and doesn’t get signed; what gets added to the code base.

Even if companies share 90% of the same legal DNA, the 10% variance is a massive wrench that makes automation, or even any kind of significant simplification, impossible without taking on enormous legal technical debt. That statement is not coming from a luddite lawyer who hates technology, but from the CTO of a startup/vc law practice that I am 100% certain is on the cutting edge of legal technology (the kind that actually works) adoption.

Telling a VC lawyer that you ‘just’ want to issue some stock is not equivalent to ‘just’ using a pre-coded feature in a product. It is far more like telling a software developer that you ‘just’ want to add a feature to your existing, non-standard, unique code base.  Imagine telling that developer to do it as quickly and cheaply as possible. Imagine hiring the cheapest developer you can find to implement that feature.

The contract that actually issues the stock may be 99.8% standard, but it has to be implemented into the historical set of contracts/context without blowing anything up. Contracts and laws do not sit in little, isolated modules without any impact on the other. They’re all inter-connected, with a change in one potentially resulting in a cascade of effects in others. Hence the code base analogy.  The larger, more complex the code base (set of contracts, number of jurisdictions, people involved), the greater the skill and experience required to work with it safely. And having a well thought-out, well-designed architecture implemented from Day 1 dramatically impacts the scalability and resilience of that code base.

So when a client says they ‘just’ want to issue some stock, all they might think about is opening a word document, filling some names, and signing. Of course that can be automated.  What often isn’t considered is the lengthy, complicated list of steps and analysis needed to fit that template document within the Company’s existing legal history. That, not the template stock purchase agreement, is what lawyers do, and software cannot do.

De-Valuing Law, like De-velopers, is De-lusional.

Anyone who sells a product or service into a market learns that not every buyer is willing to pay the cost necessary to deliver that product or service in an efficient manner, within the bounds of physics/reality.  Some buyers simply can’t afford it. But many others just don’t value the product or service enough to pay even the lowest possible price. As a lawyer, I learned very early on in my career that this is the case with founders looking to engage lawyers.

If I’ve been sold the lie that startup/vc law is a completely commoditized, standard product, I am going to shop for lawyers, and assess cost, the way I would for any other commoditized, standard product. I “just” want to issue some stock. Like I “just” want some toilet paper. There are founders (a minority, but many) who understand very quickly why they need to pay good compensation for software developers, and yet will question every single invoice from lawyers.

While I’m always more than happy to walk through an invoice when it makes sense, E/N’s client intake process has been deliberately designed to filter out clients who, for whatever reason, de-value lawyers in this way.  Our website’s home page says “World Class Counsel, Brought Down to Earth.” Translation: top lawyers who are more efficient, responsive, and accessible than the large firms where they’ve historically been found. We compete with other firms who provide top-tier legal counsel to scaling tech companies; not with the unrealistic price expectations of people who, through inexperience or delusion, want Teslas at Kia prices.

The seed-stage period is the toughest time for startup legal budgeting. Things are starting to get more complex, but with only a few hundred thousand raised (let’s put aside California ‘seed’ rounds), every dollar paid hurts. Fixed fees, flexible payment arrangements, deferrals (but be careful), and good old-fashioned budgeting are the key to getting through that period with your lawyers. Any experienced set of startup/vc lawyers will know how to be flexible for seed-stage companies. Just always remember that flexibility (and efficiency) does not mean defying the laws of physics to get things as cheap as you’d like them to be. 

At the level of law that scaling companies require, technology will forever (or at least into the very distant future) remain a complement and not a replacement for lawyers. Yes, the legal industry as a whole is and will continue to undergo disruption as software eats up the more routine, commoditized parts of the profession. But VC-backed companies are not dealing with commoditized lawyers, and talented, creative VC lawyers are hardly, not even remotely, underemployed.  If anything, those of us who adopt new tools as they are developed have found our practices enhanced, not diminished, by technology.  It allows us to deliver more concentrated value with our time, which means a healthier attorney-client relationship overall.

If you engage your lawyers as the developers of an important foundation for your company – expecting effectiveness and efficiency, but staying realistic about the amount of complexity and value actually underlying their work, you’ll be surprised by the rewards.  For those who continue fantasizing about replacing lawyers entirely with apps, nothing will provide a better education than the moment the debt comes due.