Complete 35-Step Guide for Entrepreneurs Starting a Business
Starting a business entails understanding and dealing with many issues—legal, financing, sales and marketing, intellectual property protection, liability protection, human resources, and more. But interest in entrepreneurship is at an all-time high. And there have been spectacular success stories of early stage startups growing to be multi-billion-dollar companies, such as Uber, Facebook, WhatsApp, Airbnb, and many others.
In this article, I give an overview of 35 key steps for entrepreneurs who are starting a business, with links to additional articles addressing some of the topics in more depth.
1. Understand the Commitment and Challenges Involved in Starting a Business
Starting a business is a huge commitment. Entrepreneurs often fail to appreciate the significant amount of time, resources, and energy needed to start and grow a business.
Here are some of the biggest challenges to starting and growing a business:
- Coming up with a great and unique product or service
- Having a strong plan and vision for the business
- Having sufficient capital and cash flow
- Finding great employees
- Firing bad employees quickly in a way that doesn’t result in legal liability
- Working more that you expected
- Not getting discouraged by rejections from customers
- Managing your time efficiently
- Maintaining a reasonable work/life balance
- Knowing when to pivot your strategy
- Maintaining the stamina to keep going even when it’s tough
2. Protect Your Personal Assets by Forming the Business as a Corporation or LLC
Never start a business as a “sole proprietorship,” which can result in your personal assets being at risk for the debts and liabilities of the business. You will almost always want to start the business as an S corporation (giving you favorable flow through tax treatment), a C corporation (which is what most venture capital investors expect to see), or a limited liability company (LLC). None of those are particularly expensive or difficult to set up. My personal preference is to start the business as an S corporation, which can then easily be converted to a C corporation as you bring in investors and issue multiple classes of stock.
Many business owners, however, are under the mistaken impression that they are completely protected from personal liability by filing a Certificate of Incorporation for a corporation. This is not true. The mere process of incorporating does not completely protect the business owners. To lessen the likelihood of such personal or shareholder liability, you should make sure to adhere to certain procedures:
- Always use the corporate name. The name of the corporation should be used in full, including “Inc.” or “Corp.” on all contracts, invoices, or documents used by the corporation. This clearly indicates the existence of the corporation as a separate entity.
- Always use proper signature. This means that you will sign on behalf of the corporation, using the name of the corporation and your title. You should typically use the following format when signing contracts on behalf of the corporation:
Your name – authorized signing officer and corporate title
- Follow all corporate formalities. This includes following bylaws, issuing stock properly, holding meetings of the Board of Directors, recording the meeting minutes, and following other corporate formalities.
- Make sure to keep funds separate. Corporate funds and the funds of individual shareholders should not be in the same accounts or combined for any reason.
- Make sure to keep taxation separate. The company taxes should be paid entirely from corporate accounts and separate tax returns filed for the corporation.
- All transactions made by the corporation should be clearly separate from any individual transactions. Essentially, by never blurring the line between individual shareholders, owners or the Board of Directors, and the company (which stands as a separate entity), you run less risk of any personal liabilities for the debts of the business.
3. Come Up With a Great Name for Your Business
Selecting the right name for your startup can have a significant impact on your business success. The wrong name could result in insurmountable legal and business hurdles. Here are some basic tips on how to name your startup:
- Avoid hard-to-spell names.
- Don’t pick a name that could be limiting as your business grows.
- Conduct a thorough Internet search on a proposed name.
- Get a “.com” domain name (as opposed to “.net” or another variant).
- Conduct a thorough trademark search.
- Make sure you and employees will be happy saying the name.
- Come up with five names you like and test market the name with prospective employees, partners, investors, and potential customers.
For more advice, see 12 Tips for Naming Your Startup Business.
4. Focus on Building a Great Product—But Don’t Take Forever to Launch
When starting out, your product or service has to be at least good if not great. It must be differentiated in some meaningful and important way from the offerings of your competition. Everything else follows from this key principle. Don’t drag your feet on getting your product out to market, since early customer feedback is one of the best ways to help improve your product. Of course, you want a “minimum viable product” (MVP) to begin with, but even that product should be good and differentiated from the competition. Having a “beta” test product works for many startups as they work the bugs out from user reactions. As Sheryl Sandberg, COO of Facebook has said, “Done is better than perfect.”
5. Build a Great Website for Your Company
You should devote time and effort to building a great website for your business. Prospective investors, customers, and partners are going to check out your site, and you want to impress them with a professional product. Here are some tips for building a great company website:
- Check out competitor sites.
- Start by sketching out a template for your site.
- Come up with five or six sites you can share with your web site developer to convey what you like.
- Be sure the site is search engine optimized (and thus more likely to show up early on Google search results).
- Produce high-quality original content.
- Make sure your site is optimized for mobile devices.
- Make sure the site loads quickly.
- Keep it clean and simple; visual clutter will drive visitors away.
- Make the navigation bars prominent.
- Obtain and use a memorable “.com” domain name.
- Make the site visually interesting.
- Make sure it’s easy for site visitors to contact you or buy your product.
6. Perfect Your Elevator Pitch
An “elevator” pitch is intended to be a concise, compelling introduction to your business. You should be able to slightly modify your elevator pitch depending on whether you are pitching to prospective investors, customers, employees, or partners. Here are a few tips for developing and delivering a great elevator pitch:
- Start out strong.
- Be positive and enthusiastic in your delivery.
- Remember that practice makes perfect.
- Keep it to 60 seconds in length.
- Avoid using industry jargon.
- Convey why your business is unique.
- Pitch the problem you are solving.
- Invite participation or interruption by the listener—this shows they are interested and engaged.
7. Make the Deal Clear With Co-Founders
If you start your company with co-founders, you should agree early on about the details of your business relationship. Not doing so can potentially cause significant legal problems down the road (a good example of this is the infamous Zuckerberg/Winklevoss Facebook litigation). In a way, think of the founder agreement as a form of “pre-nuptial agreement.” Here are the key deal terms your written founder agreement needs to address:
- How is the equity split among the founders?
- Is the percentage of ownership subject to vesting based on continued participation in the business?
- What are the roles and responsibilities of the founders?
- If one founder leaves, does the company or the other founder have the right to buy back that founder’s shares? At what price?
- How much time commitment to the business is expected of each founder?
- What salaries (if any) are the founders entitled to? How can that be changed?
- How are key decisions and day-to-day decisions of the business to be made? (by majority vote, unanimous vote, or are certain decisions solely in the hands of the CEO?)
- Under what circumstances can a founder be removed as an employee of the business? (usually, this would be a Board decision)
- What assets or cash does each founder contribute or invest into the business?
- How will a sale of the business be decided?
- What happens if one founder isn’t living up to expectations under the founder agreement? How will it be resolved?
- What is the overall goal and vision for the business?
- If one founder wants to leave the business, does the company have the right to buy back his or her shares? At what price?
8. Obtain a Tax ID
In most instances, you will need to get a tax ID from the IRS for your company. This is also known as an “Employer Identification Number” (EIN), and it’s similar to a Social Security number, but for businesses. Banks will ask for your EIN when you open a company bank account. You can get an EIN online through the IRS website.
In some states, a state tax ID may be necessary as well (for example, California, New York, and Texas require a state ID, which can be obtained online).
9. Set Up a Good Accounting and Bookkeeping System
You will need to set up a bookkeeping/accounting system to keep track of your finances—income, expenses, capital expenditures, EBITDA, profit and loss, etc. This is important in order to understand your business’s cash flow situation and also for tax-filing purposes.
10. Perform a Comprehensive Reference Check Before You Hire an Employee
Many employers conduct a limited and incomplete reference check when interviewing job candidates, which can result in hiring people who are unable to perform their required duties or who don’t work well with others. A comprehensive reference check includes:
- Verification of job titles and dates of employment
- Verification of educational degrees and dates of attendance at schools
- Verification of starting and ending salary
- Verification of prior job role and responsibilities
- Inquiry as to why the applicant left the prior employer
- Conversations with prior supervisors as to the applicant’s strengths and weaknesses
- Inquiry as to the applicant’s ability to get along well with other employees and customers
- Inquiry as to the applicant’s ability to take on the new role
- Inquiry as to punctuality or absenteeism issues
- Reference checks with other people not listed by the applicant as a reference
The purpose of these checks is to make sure that the applicant will fit into the company’s culture and to ensure that they have been truthful and accurate in their resume and employment application. However, the process is carefully regulated by the federal government (through the Fair Credit Reporting Act) and the laws of many states; failure to follow the highly technical process can lead to class action lawsuits. Consider consulting legal counsel and, for general information, see the EEOC’s Background Check: What Employers Need to Know.
It is also useful to require all prospective employees to complete an employment application.
11. Use a Good Form of Employee Offer Letter or Employment Agreement
Oral agreements often lead to misunderstandings. If you plan to hire a prospective employee, use a carefully drafted offer letter, which the employee should be encouraged to review carefully before signing. For senior executives, a more detailed employment agreement often makes sense. A good offer letter or employment agreement will address the following key items:
- The job title and role of the employee
- Whether the job is full time or part time
- When the job will commence
- The salary, benefits, and any potential bonuses
- Whether the position is “at will” employment, meaning either party is free to terminate the relationship at any time without penalty (although employers may not terminate employees for legally prohibited reasons, such as for age discrimination or retaliation from sexual harassment allegations, etc.)
- Confirmation that the “at will” agreement may not be changed unless signed by an authorized officer of the company
- Confirmation that the employee will need to sign a separate Confidentiality and Inventions Assignment Agreement (described below)
- If the company chooses, a statement that any disputes between the parties will be resolved solely and exclusively by confidential binding arbitration (also discussed below)
- Any stock options to be granted to the employee and the terms of any vesting (details usually laid out in a separate Stock Option Agreement)
- The supervisor to whom the employee will report
- Protective language stating that the offer letter constitutes the entire agreement and understanding of the parties with respect to the employment relationship, and that there are no other agreements or benefits expected (unless additional provisions are laid out in a handbook, which should be referenced if applicable)
Companies should ensure that the employee and the company sign the letter, the Confidentiality and Invention Assignment Agreement, any Stock Option Agreement, and any first-day paperwork (such as the IRS W-4 Form for withholding and the I-9 form mandated by law).
For a good sample employee offer letter, see 13 Key Employment Issues for Startup and Emerging Companies.
12. Make Sure All Employees Sign a Confidentiality and Invention Assignment Agreement
Companies pay employees to come up with ideas, work product, and inventions that may be useful to the business. Employees have access to a good deal of their company’s confidential information, which can be very valuable, especially in technology companies.
One basic way to protect proprietary company information is through the use of a Confidentiality and Invention Assignment Agreement. This type of agreement deals with confidentiality issues, but can also ensure that the ideas, work product, and inventions the employee creates that are related to company business belong to the company—not the employee.
A good Employee Confidentiality and Invention Assignment Agreement will cover the following key points:
- The employee may not use or disclose any of the company’s confidential information for their own benefit or use, or for the benefit of others, without authorization.
- The employee must promptly disclose to the company any inventions, ideas, discoveries, and work product related to the company’s business that they make during the period of employment.
- The company is the owner of such inventions, ideas, discoveries, and work product, which the employee must assign to the company.
- The employee’s employment with the company does not and will not breach any agreement or duty that the employee has with anyone else, nor may the employee disclose to the company or use on its behalf any confidential information belonging to others.
- Upon termination of employment, the employee must return any and all confidential information and company property.
- While employed, the employee will not compete with the company or perform any services for any competitor of the company.
- The employee’s confidentiality and invention assignment obligations under the agreement will continue after termination of employment.
- The agreement does not by itself represent any guarantee of continued employment.
Venture capitalists and other investors in startups expect to see that all employees of the company have signed these kinds of agreements. In an M&A transaction in which the company is sold, the buyer’s due diligence team will also be looking for these agreements signed by all employees.
A sample form of Employee Confidentiality and Invention Assignment Agreement can be found at the Forms & Agreements section of AllBusiness.com.
Similarly, it will be appropriate that all consultants of the company also sign a Confidentiality and Invention Assignment Agreement. See Key Issues with Confidentiality and Invention Assignment Agreements with Consultants.
13. Consider the Steps You Should Take to Protect Your Intellectual Property
It is important to protect your company’s intellectual property (IP). Ever wary of minimizing burn rate, startups may be tempted to defer investment in intellectual property protection. To those who have not tried to protect intellectual property, it feels complex and expensive. Too often, startups end up forfeiting intellectual property rights by neglecting to protect their ideas and inventions.
Some simple and cost-effective techniques can minimize the anxiety yet help protect core assets.
Companies sometimes think that patent protection is the only way to protect themselves. Technology startups frequently ignore the value of non-patent intellectual property. While patents can be incredibly valuable, it does not necessarily ensure that a company’s product is a good product or that it will sell well. Trade secrets, cybersecurity policies, trademarks, and copyrights can all be forms of IP that can be protected.
Here is a summary of the types of intellectual property protections available:
- Patents. Patents are the best protection you can get for a new product. A patent gives its inventor the right to prevent others from making, using, or selling the patented subject matter described in the patent’s claims. The key issues in determining whether you can get a patent are: (1) Only the concrete embodiment of an idea, formula, or product is patentable; (2) the invention must be new or novel; (3) the invention must not have been patented or described in a printed publication previously; and (4) the invention must have some useful purpose. In the United States you obtain a patent from the U.S. Patent and Trademark Office, but this process can take several years and be complicated. You typically need a patent lawyer to draw up the patent application for you. The downside of patents is that they can be expensive to obtain and take several years,
- Copyrights. Copyrights cover original works of authorship, such as art, advertising copy, books, articles, music, movies, software, etc. A copyright gives the owner the exclusive right to make copies of the work and to prepare derivative works (such as sequels or revisions) based on the work.
- Trademarks. A trademark right protects the symbolic value of a word, name, symbol, or device that the trademark owner uses to identify or distinguish its goods from those of others. Some well-known trademarks include the Coca-Cola trademark, American Express trademark, and IBM trademark. You obtain rights to a trademark by actually using the mark in commerce. You don’t need to register the mark to get rights to it, but federal registration does offer some advantages. You register a mark with the U.S. Patent and Trademark Office.
- Service Marks. Service marks resemble trademarks and are used to identify services.
- Trade Secrets. Trade secrets can be a great asset for startups. They are cost effective and last for as long as the trade secret maintains its confidential status and derives value through its secrecy. A trade secret right allows the owner of the right to take action against anyone who breaches an agreement or confidential relationship, or who steals or uses other improper means to obtain secret information. Trade secrets can range from computer programs to customer lists to the formula for Coca-Cola.
- Confidentiality Agreements. These are also referred to as Non-Disclosure Agreements or NDAs. The purpose of the agreement is to allow the holder of confidential information (such as a product or business idea) to share it with a third party. But then the third party is obligated to keep the information confidential and not use it whatsoever, unless allowed by the owner of the information. There are usually standard exceptions to the confidentiality obligations (such as if the information is already in the public domain). See The Key Elements of Non-Disclosure Agreements.
- Confidentiality Agreement for Employees and Consultants. Every employee and consultant should be required to sign such an agreement, as discussed above.
14. Become a Strong Salesperson
If the business is to become successful, you must become a great salesperson. You are going to have to learn how to “sell” your business—not only to customers but also to prospective investors and even to potential employees.
It’s important to be positive, trustworthy, and to learn how to listen. You must practice your sales pitch, get feedback from a variety of people, and then refine your pitch. Even if you are not naturally an extrovert, you need to show confidence, follow up, and ask for the sale.
15. Understand Financial Statements and Budgets
It’s important to keep on top of your expenses and learn how to thoroughly understand financial statements and budgeting. Many startups fail because the entrepreneur isn’t able to adjust their spending to avoid running out of cash. Establishing a detailed, month-by-month budget is crucial, and this budget must be reviewed regularly.
Understanding your financial statements will also help you answer questions from prospective investors. Here are some financial statement questions you can expect to get from investors:
- What are the company’s three-year projections?
- What are the key assumptions underlying your projections?
- How much equity and debt has the company raised, and what is the capitalization structure?
- What future equity or debt financing will be necessary?
- How much of a stock option pool is being set aside for employees?
- When will the company get to profitability?
- How much “burn” (losses) will occur until the company gets to profitability?
- What are your unit economics?
- What are the factors that limit faster growth?
- What are the key metrics that the management team focuses on?
16. Market Your Business Like Crazy
To succeed in business, you need to continually be attracting, building, and even educating your target market. Make sure your marketing strategy includes the following:
- Learn the fundamentals of SEO (search engine optimization) so that people searching for your products and services online might find you near the top of search results.
- Use social media to promote your business (LinkedIn, Facebook, Twitter, Pinterest, etc.).
- Engage in content marketing by writing guest articles for relevant websites.
- Issue press releases for any significant events.
- Network continually.
17. Use Consultants and Freelancers to Supplement Your Team
At the early stages of your startup, you will likely want to have a small employee team to minimize expenses. A good way to fill in for specialized expertise is to use freelancers or consultants. That way, you avoid taking on employee costs and benefits payments. And there are a variety of sites that can help you access freelancers, such as Freelancer.com, Guru.com, and Upwork.com.
18. Have a Great Investor Pitch Deck
Startups frequently prepare a “pitch deck” to present their company to prospective angel or venture capital investors. The pitch deck typically consists of 15-20 slides in a PowerPoint presentation and is intended to showcase the company’s products, technology, and team to the investors.
Raising capital from investors is difficult and time consuming. Therefore, it’s crucial that a startup absolutely nails its investor pitch deck and articulates a compelling and interesting story.
Too many startups make a number of avoidable mistakes when creating their investor pitch decks. Here is a list of general do’s and don’ts to keep in mind:
Pitch Deck Do’s
- Do include this wording at the bottom left of the pitch deck cover page: “Confidential and Proprietary. Copyright by [Name of Company]. [Year]. All Rights Reserved.”
- Do convince the viewer of why the market opportunity is large.
- Do include visually interesting graphics and images.
- Do send the pitch deck in a PDF format to prospective investors in advance of a meeting. Don’t force the investor to get it from Google Docs, Dropbox, or some other online service, as you are just putting up a barrier to the investor actually reading it.
- Do plan to have a demo of your product as part of the in-person presentation.
- Do tell a compelling, memorable, and interesting story that shows your passion for the business.
- Do show that you have more than just an idea, and that you have gotten early traction on developing the product, getting customers, or signing up partners.
- Do have a soundbite for investors to remember you by.
- Do use a consistent font size, color, and header title style throughout the slides.
Pitch Deck Don’ts
- Don’t make the pitch deck more than 15-20 slides long (investors have limited attention spans). If you feel you need to add more information, include it as an appendix.
- Don’t have too many wordy slides.
- Don’t provide excessive financial details, as that can be provided in a follow-up message.
- Don’t try to cover everything in the pitch deck slides. Your in-person presentation will give you an opportunity to add and highlight key information.
- Don’t use a lot of jargon or acronyms that the investor may not immediately understand.
- Don’t underestimate or belittle the competition (and never say “we don’t have any competition”).
- Don’t have your pitch deck look out of date. You don’t want a date on the cover page that is several months old (that is why I avoid putting a date on the cover page at all). And you don’t want information or metrics in the deck about your business that look stale or outdated.
- Don’t have a poor layout, bad graphics, or a low-quality “look and feel.” Think about hiring a graphic designer to give your pitch desk a more professional look.
For additional advice and a sample pitch deck, see How to Create a Great Investor Pitch Deck for Startups Seeking Financing.
19. Drive Traffic to Your Website
While entire books have been written on this topic, the key ways to drive traffic to your website are as follows:
- Pay Google, Bing, Yahoo, or other search engines to send you traffic (such as through the Google Adwords program).
- Build a great site with lots of high-quality, original content that is search engine optimized.
- Have a smart social media plan to drive traffic from Facebook, Twitter, LinkedIn, and other free social media sites.
- Get links to your site from high-quality sites.
20. Make Sure Someone Hasn’t Already Invented Your Great New Idea
Here are the key things to do if you have a great new invention idea:
- Do a Google search on the keywords associated with your invention.
- Do a search online of the U.S. Patent and Trademark Office at uspto.gov.
- If nothing comes up and you want to get a patent for your idea, hire a patent lawyer.
But keep refining the concept of the invention, as version 1 of your idea probably can be improved and enhanced through version 2 and version 3.
21. Don’t Go Overboard on a Business Plan
It’s useful to come up with a business plan to think through what you want to do for the development of the product or service, marketing, financial projections, and more. And you should then get input from trusted business and finance advisors. But don’t go overboard with a 50-page business plan. In reality, many startups have to deviate from their plan as the business develops.
22. Secure Capital to Finance Your Business
Here is a summary of the most effective sources of business capital:
- Personal funds
- Credit cards
- Friends and family
- Angel investors (see Angel Investing: 20 Things Entrepreneurs Should Know)
- Crowdsourcing sites such as Indiegogo.com and Kickstarter.com
- Bank loans/SBA financings/online lenders
- Venture capitalists
- Equipment loan financing
One of the biggest mistakes made by startups is not raising sufficient capital.
23. Determine Which Permits, Licenses, or Registrations You Will Need for Your Business
Depending on the nature of the business, you may need the following permits, licenses, or regulations:
- Permits need for regulated businesses (aviation, agriculture, alcohol, etc.)
- Sales tax license or permit
- Home-based business permits
- City and county business permits or licenses
- Zoning permit
- Seller’s permit
- Health department permits (such as for a restaurant)
- Federal and state tax/employer IDs
24. Set Up Appropriate Books and Records for Your Business
You will need to keep multiple books and records for your business, including:
- Financial statements (P&L, balance sheet, cash flow)
- Employee records
- Board and stockholder minutes and consents
- Stock and options ledger
- Tax filings and records (federal, state & local income, sales and property taxes)
- Secretary of State filings (Certificate of Incorporation, annual filings, etc.)
- Invoices & contracts
- Bank accounts
- Creditor records
25. Properly Insure Your Startup
If you are going to go through the time and effort to start a business, you need to protect it by purchasing appropriate insurance coverage.
Your first order of business should be to determine your specific insurance needs based on the nature of your business. Ask yourself what risks must be covered and how much coverage will be sufficient? Then find and evaluate insurance providers or insurance brokers to determine which companies handle the types of coverage that suits your needs.
While shopping for insurance, you will want answers to these types of key questions:
- What are the deductibles?
- Are the coverage limits high enough?
- What items or occurrences are excluded from coverage?
- Are there any gaps in the coverage?
Here is a list of the types of insurance that may be appropriate for your business:
- General liability insurance
- Product liability insurance
- Professional liability insurance
- Property insurance
- Worker’s compensation insurance
- D&O (directors & officers) insurance
- Health insurance for employees
- Business interruption insurance
- Commercial auto insurance
- Data breach/cybersecurity insurance
- Key man life insurance
26. Determine How to Divide Equity Among the Startup’s Co-Founders
There is no one right answer to the question of how equity should be divided among a co-company’s founders. But everyone involved should discuss this issue and come to an agreement up front to avoid misunderstandings later on. If you are the original founder and brains behind the idea, a good argument can be made for more than 50% ownership. The split should take into account the following:
- The relative value of the contributions of the co-founders
- Vesting dependent upon continued participation in the business (you don’t want to give away 25% of the company to someone who leaves after a few months)
- The amount of time to be committed to the business
- The cash compensation to be paid as an employee
- Whether the co-founders will be contributing cash as an investment in the business
- Whether one person wants to maintain control over decision-making
27. Understand These Key Points About Seeking Venture Capital Financing
Startups seeking financing often turn to venture capital (VC) firms, which can provide capital; strategic assistance; introductions to potential customers, partners, and employees; and much more.
Venture capital financings are not easy to obtain or close. Entrepreneurs will be better prepared to obtain VC financing if they understand the process, the anticipated deal terms, and the potential issues that will arise.
To understand the process of obtaining VC financing, it is important to know that venture capitalists typically focus their investment efforts using one or more of the following criteria:
- Specific industry sectors (software, digital media, semiconductor, mobile, SaaS, biotech, mobile devices, etc.)
- Stage of company (early-stage seed or Series A rounds, or later-stage rounds with companies that have achieved meaningful revenues and traction)
- Company location (e.g., San Francisco/Silicon Valley, New York, etc.)
Before approaching a venture capitalist, try to learn whether his or her focus aligns with your company and its stage of development.
The second key point to understand is that VCs get inundated with investment opportunities, many through unsolicited emails—almost all of those unsolicited emails are ignored. The best way to get the attention of a VC is to have a warm introduction through a trusted colleague, entrepreneur, or lawyer friendly to the VC.
A startup must have a good “elevator pitch” (as discussed in point #6) and a strong investor pitch deck (as discussed in point #18) to attract the interest of a VC.
Startups should also understand that the venture process can be very time consuming—just getting a meeting with a principal of a VC firm can take weeks; followed up with more meetings and conversations; followed by a presentation to all of the partners of the venture capital fund; followed by the issuance and negotiation of a term sheet, with continued due diligence; and finally the drafting and negotiation by lawyers on both sides of numerous legal documents to evidence the investment.
VCs usually want to see that your business has made some progress and gotten some traction in the market; they will typically not fund a very early stage company or just an idea. For that, you are better off seeking angel investors.
Most venture capitalists won’t agree to sign an NDA, so don’t bother asking.
For a comprehensive article on the venture capital financing process, see A Guide to Venture Capital Financings for Startups.
28. Pay Attention to Your Business Contracts
Business contracts are legally binding written agreements between two or more parties. They are an important part of business and such agreements need to be created and/or negotiated carefully.
While smaller businesses will often conduct business based on informal handshake agreements or unspoken understandings, the more that is at stake, the more essential it is to have a signed contract. A contract serves as the rules that must be followed by both parties. It presents each party with the opportunity to:
- Describe all obligations they are expected to fulfill.
- Describe all obligations they expect the other party (or parties) to fulfill.
- Limit any liabilities.
- Set parameters, such as a time frame, in which the terms of the contract will be met.
- Set terms of a sale, lease, or rental.
- Establish payment terms.
- Clearly establish all of the risks and responsibilities of the parties.
A contract is, in essence, a written meeting of the minds. While it is typically drawn up by one party and favors the needs and requirements of that party, protecting them from most (if not all) liabilities, it should initially be thought of as a work in progress that changes and grows as each party contributes prior to signing, after which it becomes an official document. “Consideration,” whether it is monetary or a promise to do work or provide a service by a specified date, is at the root of a contract.
The term “standard contract” is more myth than reality, and too often people simply sign on the dotted line without reading or negotiating the terms of a contract. A startup has to make sure it is comfortable with all of the terms of the contract, and depending on the deal dynamics, almost any term is negotiable.
Consideration, compensation, ownership rights, liability, and risk are all areas that need to be worded carefully. You should seek out help from a qualified attorney who is experienced in contracts to make sure you have covered each of these areas in a clear manner.
The contract itself should stipulate how it shall be enforced and what actions can be taken if one party fails to meet their obligations. It is often to the benefit of smaller businesses to have a confidential binding arbitration clause to resolve any disputes.
The key contracts that a startup should have as its own form of “standard contract” (drafted in the startup’s favor) include:
- Sales or service agreement
- License agreement
- Offer letter to employees
- Consulting agreement with any independent contractors (you want to make sure that you will own the intellectual property rights for anything they develop for your business)
- Confidentiality and Invention Assignment Agreement for employees and independent contractors
- Non-disclosure agreement
29. If You Plan to Lease Office Space for Your Business, Focus on These Key Issues
Leasing office space is one of the largest expenses a startup can incur. Negotiating the best lease possible can save your company enough cash to hire a few more employees or launch a new marketing campaign.
Keep in mind that your ability to negotiate an office lease is dependent on how much leverage you have. Do your homework. Are other companies vying for the same space? Has the space been vacant for a long time? Factors such as these may mean the difference between you calling the shots, or a landlord insisting on onerous terms throughout the lease process.
Because no lease is standard, here are some suggestions to help you become a little more lease-savvy and negotiate a favorable office lease for your startup:
- Length of lease term. Landlords are typically willing to make concessions for longer-term leases. However, your company’s needs may change and you could find yourself locked into a lease for an office space that is too small, too big, or with rent that is above-market if demand for space subsequently declines. Try to negotiate a shorter-term lease with renewal options—a two-year lease with a two-year renewal option, for instance, rather than a four-year lease.
- Tenant improvements. Your new space may need some improvements or alterations (a new paint job, new carpeting, a reconfiguration of the space) Which party will pay for these improvements depends on how tight the commercial office space market is in your city. Most form leases stipulate that the tenant can’t make any alterations or improvements without the landlord’s consent. Ask for a clause that says you can make alterations or improvements with the landlord’s consent, and that the consent won’t be unreasonably withheld, delayed, or conditioned. Often, you are able to negotiate a “tenant improvement allowance,” which is an agreed-upon sum of money that the landlord will provide for the improvements and alterations you would like to make.
- Rent and rent escalations. Some landlords will give free rent for the first month or two of a lease. Fixed rent over longer-term leases is relatively rare. Sometimes, landlords insist on annual increases based on the percentage increases in the Consumer Price Index (CPI). If your landlord insists on rent escalations, try to arrange for a CPI rent increase that does not kick in for at least the first two years of the term. Then, try to get a cap on the amount of each year’s increase. If you have to live with a rent escalation clause, try to negotiate a predetermined fixed increase; for example, a rent of $5,000 a month the first year that would only increase to $5,200 a month the second year and $5,400 a month the third year.
- Repairs, improvements, and replacements. Be aware of a clause that says that at the end of the lease you must restore the premises to their original condition. Try to negotiate a clause that states the following: “The premises will be returned to the Landlord at the end of the tenancy in the same condition as at the beginning of the tenancy, excluding (1) ordinary wear and tear, (2) damage by fire and unavoidable casualty not the fault of the Tenant and (3) alterations previously approved by the Landlord.”
- Assignment and subletting. Startup companies should negotiate enough flexibility in the assignment and subletting clause to allow for mergers, reorganizations, and share ownership changes. Watch out for a clause that says a change in more than 50% of the company’s stock ownership will be deemed an assignment that is prohibited without the landlord’s prior approval. As your company grows and new people invest in it, this clause can be inadvertently triggered.
- Try to avoid one-sided lease provisions. Landlords use form lease agreements that can be very one-sided. Be on the lookout and negotiate on these types of provisions that are heavily landlord-favorable:
- The landlord is given the right to pass on to the tenant, without limit, increased operating costs such as property taxes, building repairs, or insurance premiums.
- The landlord tries to lease the premises “as is” or tries to disclaim responsibility for compliance with environmental laws (e.g., asbestos issues) or the Americans with Disabilities Act.
- The landlord tries to require the tenant pay any tax increases resulting from a sale of the property.
- The landlord tries to reserve the right to terminate the lease at the landlord’s convenience.
- The landlord tries to prohibit the possibility of subletting or assignment.
- The landlord insists on personal guarantee of the key shareholders of the company.
- Consider using a tenant broker. A good tenant broker can be invaluable and will represent your company’s best interests. He or she will educate you on the current market; locate spaces that meet your stated parameters; arrange tours and accompany you to view these available spaces; and then prepare offer letters and negotiate with landlords for all spaces that work best for your company.
30. Thoroughly Research Your Competition
Make sure you are thoroughly researching competitive products or services, and keep on top of new developments and announcements from your competitors. One way to do this is to set up a Google alert to notify you when any new information about those companies shows up online.
Expect that prospective investors in your company will ask questions about your competitors. Any entrepreneurs who say that “we don’t have competitors” will have credibility problems. So anticipate these questions from investors:
- Who are the company’s principal competitors?
- What traction have those competitors obtained?
- What gives your company the competitive advantage?
- Compared to these other companies, how do you compete with respect to price, features, and performance?
- What are the barriers to entry in your market?
31. If You Are Seek Angel Investing Financing, Know These Important Points
In reviewing a prospective investment, angel investors especially care about:
- The quality, passion, commitment, and experience of the founders
- The market opportunity being addressed and the potential for the company to grow to become very big
- A clearly thought out business plan and early evidence of early business traction
- Interesting intellectual property or technology
- A reasonable valuation for the company
- The likelihood of the company being able to raise additional financing in the future if progress is made
Angel investors will want to initially see the following from a startup:
- A clearly articulated elevator pitch for the business
- An executive summary or investor pitch deck
- A prototype or working model of the company’s product or service
- Early adopters, customers, or partners
There are a variety of ways to find angel investors, including:
The best way to find an angel investor is through a warm introduction from a colleague or friend of an angel. Using LinkedIn to ascertain mutual connections can be helpful.
32. Consider Adopting a Stock Option Plan to Attract and Motivate Employees
Stock Option Plans are an extremely popular method of attracting, motivating, and retaining the best employees, especially when the company is unable to pay high salaries. A Stock Option Plan gives the company the flexibility to award stock options to employees, officers, directors, advisors, and consultants, allowing these people to buy stock in the company when they exercise the option.
Stock Option Plans permit employees to share in the company’s success without requiring a startup business to spend precious cash. In fact, Stock Option Plans can actually contribute capital to a company as employees pay the exercise price for their options.
The primary disadvantage of Stock Option Plans for the company is the possible dilution of other shareholders’ equity when employees exercise their stock options. For employees, the main disadvantage of stock options in a private company—compared to cash bonuses or greater compensation—is the lack of liquidity. Until the company creates a public market for its stock or is acquired, the options will not be the equivalent of cash benefits. And, if the company does not grow bigger and its stock does not become more valuable, the options may ultimately prove worthless.
Thousands of people have become millionaires through their stock options (Facebook being one famous example), making this form of benefit very appealing to prospective employees. The spectacular success of some Silicon Valley companies and the resulting economic riches of those employees who held stock options have made Stock Option Plans a powerful motivational tool for employees to work toward the company’s long-term success.
Here’s a general explanation of how stock options are granted and exercised:
- XYZ, Inc., hires employee John Smith.
- As part of his employment package, XYZ grants John the option to acquire 80,000 shares of XYZ’s common stock at 25 cents per share (the fair market value of a share of XYZ common stock at the time of grant).
- The options are subject to a four-year vesting period with one-year cliff vesting, which means that John has to stay employed with XYZ for one year before he gets the right to exercise 20,000 of the options. The remaining 60,000 options then vest at the rate of 1/36 a month over the next 36 months of his employment.
- If John leaves the company or is fired before the end of his first year, he doesn’t get any of the options.
- After his options are “vested” (become exercisable), he has the option to buy the stock at 25 cents per share, even if the share value has gone up dramatically.
- After four years of continued employment, all 80,000 of his option shares are vested.
- XYZ becomes successful and goes public, and its stock trades at $20 per share.
- John exercises his options and buys 80,000 shares for $20,000 (80,000 x 25 cents).
- John turns around and sells all 80,000 of his shares for $1.6 million (80,000 x the $20 per share publicly traded price), making a huge profit of $1,580,000.
For a comprehensive article on this topic, see How Employee Stock Options Work in Startup Companies.
33. Focus on Offering Exceptional Customer Service
Companies such as Zappos and Virgin America became hugely successful because they focused on providing excellent customer service and support. You want your early customers to give referrals and sing your praises to their friends and colleagues. Thank your customers personally by email. Go the extra mile to show your appreciation.
34. Hire an Experienced Startup Attorney
You need a savvy business lawyer for your company, one who has regularly formed and advised many other entrepreneurs and who specializes in startups. An experienced startup lawyer can help you:
- Draw up contracts with any co-founders
- Prepare key agreements for the business
- Set up a stock option plan for employees
- Guide you through potential HR landmines
- Prepare protective offer letters to prospective employees
- Help you negotiate terms with prospective investors
- Limit your potential legal liabilities
- Protect your ideas and inventions (through copyrights, patents, and non-disclosure agreements)
In a misguided effort to save on expenses, startup businesses often hire inexperienced legal counsel. Rather than spending the money necessary to hire competent legal counsel, founders will often hire lawyers who are friends, relatives, or others who offer large fee discounts. In doing so, the founders deny themselves the advice of experienced legal counsel who could potentially help them avoid many serious legal problems.
Get recommendations for lawyers from other entrepreneurs and venture capitalists. Make sure you have a good rapport with the attorney. Meet with several potential attorneys before you make a final decision (those first meetings should be free). And check out 10 Big Legal Mistakes Made by Startups.
35. Get Comfortable With Public Speaking
The ability to communicate effectively can be critical to landing customers, inspiring employees, and pitching to investors to raise capital. Most people are not very good at public speaking and many are even afraid of it. You must strive to overcome this fear. Consider working with a public speaking or business coach to improve your public speaking skills. Some of the most recognized entrepreneurs, such as Apple founder Steve Jobs, were known for being great public speakers.
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Copyright © by Richard D. Harroch. All Rights Reserved.
Richard D. Harroch is a Managing Director and Global Head of M&A at VantagePoint Capital Partners, a large venture capital fund in the San Francisco area. His focus is on Internet, digital media, and software companies, and he was the founder of several Internet companies. His articles have appeared online in Forbes, Fortune, MSN, Yahoo, FoxBusiness, and AllBusiness.com. Richard is the author of several books on startups and, co-author of Poker for Dummies co-author of Mergers and Acquisitions of Privately Held Companies (Bloomberg), and a Wall Street Journal-bestselling book on small business. He was also a corporate and M&A partner at the law firm of Orrick, Herrington & Sutcliffe, with experience in startups, mergers and acquisitions, and venture capital. He has been involved in over 200 M&A transactions and 250 startup financings. He can be reached through LinkedIn.