Brad Sugars of Action International has published an article titled “6 Biggest Mistakes in Raising Startup Capital.” In the article, Brad lists the following as the 6 biggest mistakes you can make when raising capital for your startup:

1. Half-baked business plans
2. Focusing too much on the idea and too little on the management
3. Not asking for enough money
4. Having too many lenders or investors
5. Failing to get the proper legal agreements
6. Poor cash flow management

So far on The Startup Lawyer, I’ve talked to you about the benefits of keeping the number of your investors low (#4 above). And for the most part, this blog is dedicated to ensuring you conduct your startup company in the proper legal way (#5 above).

Bang Ventures, an investment firm focused on early stage emerging tech companies, is holding a startup funding contest that will provide 3 winners with financing, program development, mentoring, office space, legal, accounting, and marketing support, as well as $15,000 to live and work in Cambridge for about 3 months.

You have until December 14 to apply and you can submit as many different ideas as you like. Of course, there’s a lot of fine print as to what they give the winners, what happens to your IP, their stake in your company, and the funding process. So once you get comfortable with the rules, send in your application.

As a former Securities and Exchange Commission legal clerk and a current Apple fanatic, the following story is of high interest:

Steve Jobs subpoenaed in backdating case

September 20 2007: 5:27 PM EDT

SAN JOSE, Calif. (AP) — Apple CEO Steve Jobs has been subpoenaed by the Securities and Exchange Commission to give a deposition in a stock-options backdating case against Apple’s former general counsel, a person familiar with the case told The Associated Press Thursday.

Jobs was subpoenaed as part of the discovery process in the SEC’s civil case against Nancy Heinen, according to the person, who spoke on the condition of anonymity because the case is ongoing.

Heinen is accused of fraudulent backdating and of altering company records to conceal the fraud.

The case, filed in April in the U.S. District Court of Northern California in San Jose, centers on two large options grants to Apple executives in 2001, including one to Jobs.

Jobs has not been charged by the SEC, and people familiar with the matter say the subpoenas do not indicate he is being targeted. He is being ordered to testify.

Heinen is fighting the SEC’s allegations that she modified documents to backdate the grant to Jobs to reflect that it had been approved during an October 2001 meeting that never occurred.

During the SEC investigation that led to the case against Heinen, Jobs was interviewed. Apple, which conducted a separate probe on the matter, cleared Jobs of any misconduct.

An Apple representative did not immediately return a call to comment.

The subpoena to Jobs was first reported by Bloomberg on Thursday.

Court records indicate the SEC issued a total of three subpoenas last month, and stated that one of them went to Heinen. The identity of the third recipient is unclear.

Marc Fagel, an assistant regional director of the SEC in San Francisco, confirmed that subpoenas were issued in the case but said he could not comment on who received them or why.

Additional subpoenas are expected, according to court records, but the two parties are still arguing over how many depositions should be allowed in the case.

In addition to Heinen, the SEC charged former Apple Chief Financial Officer Fred Anderson in connection with Apple’s backdating troubles. Anderson, however, immediately settled the case. Without acknowledging wrongdoing, he agreed to pay about $3.5 million in fines and penalties.

No trial date has been set. The SEC has proposed a trial date in September 2008. The defense proposes March 2009.

Shares of Apple (Charts, Fortune 500) closed down 0.3 percent in Thursday trade.

Link to Original Story Here

Even though Steve Jobs isn’t an official target, he must still comply with the subpoena and more importantly, tell the truth. I’m certain he is smart enough to figure that out and I’m even more sure his team of lawyers will get the message across.

But unfortunately, some entrepreneurs view deception as a business asset rather than a liability. Whether distorting or omitting facts when raising money from outside investors or lying to their own employees, these entrepreneurs only harm their startup companies in the long run. And not to mention risk their own personal freedom.

During my brief time at the SEC, I witnessed several depositions. Most went smoothly (i.e., the subpoenaed person told the truth) but I vividly remember one person that lied throughout his entire deposition. Even after being confronted with damning emails he sent to investors, he continued to tell more lies which also conflicted with documents we had yet to reveal. His lying only made the air thicker and his punishment greater.

Don’t be that guy. Even if you look great in orange.

1. Don’t form an LLC or incorporate. Make sure you and your partner have all the personal liability legally possible.

2. Don’t have any difficult conversations with your partner. Leave important global issues with your partner unaddressed so that you can fight over them later when you have less time and more stress.

3. Agree to decide everything 50/50. Ensure that basic disagreements will lead to virtual deadlocks and increased animosity between you and your partner.

4. Don’t write out your partner agreement. Leave your respective understandings of how the company is to be operated and managed to selective recollection and incomplete facts.

5. Don’t protect your intellectual property. Help ensure that another company can take your ideas and implement them successfully.

6. Don’t create formal employment contracts. Increase the chances your employee will despise you and your company when he or she disputes your vacation policy. Also helpful if you want to incur the transaction costs of hiring and training another employee.

The problem of motivating and retaining key employees without giving away your company’s equity can be solved by the use of a phantom stock plan. Many company owners are hesitant to provide key employees with an actual company ownership interest. Such an ownership interest would likely entitle key employees to notice, inspection, and voting rights. Additionally, these key employees would be able to hold the company responsible for a breach of fiduciary duties. Thus, phantom stock is a great way to share the economic value of your company without the hassle of giving up company stock.

Phantom stock plans are contracts between the company and key employees designed to parallel actual ownership of company stock. Under a phantom stock plan, the company grants a certain amount of stock units to key employees. Each unit equals the value of a current share of the company’s common stock. In the typical phantom stock agreement, the benefit provided to the key employee equals the appreciation in the value of the stock between the date the employee was credited with the phantom stock and the date the benefit is paid. Other phantom stock plans can be based on company sales or profits.

You can implement a vesting schedule for phantom stock so that your key employees receive their phantom stock over time instead of all at once. Payment of the phantom stock benefit usually occurs upon termination of employment as a result of retirement, death, or disability. The benefit can be paid out in installments and in either cash or actual common stock of the company. Generally, benefits are paid in cash because the company does not want to give away ownership of the company.

When implemented along with other incentive plans, phantom stock can be a useful tool to retain key employees without the hassle of making them shareholders.

You need to customize your articles of incorporation and corporate bylaws if you are serious about doing things the right way at your startup company. But be careful how you customize these important startup documents. Don’t fall into a common trap where you think you are customizing your startup documents, but in reality, you are only tinkering with things of nominal importance. To avoid this trap, customize your startup documents according to the relationships within your startup company rather than to your industry.

For example, imagine you and a friend are launching a startup that will develop dashboard widgets for OS X. Both of you plan to put equal time and capital into the startup. While searching for corporate bylaws to help guide your drafting, you come across the following 2 documents:

Bylaws “A”, from a startup company in Mountain View, California that develops similar widgets for Windows Vista with 2 co-founders, one the software developer and the other the pure “money” person, and

Bylaws “B”, from a lemonade stand in Nome, Alaska with 2 co-founders, who put in equal time and capital to run the lemonade operations.

Which set of bylaws will be the better guide for you to draft your dashboard widget startup’s documents? Bylaws “B” by a pretty good margin, even though the Alaskan lemonade entrepreneurs are a long, long way from Silicon Valley.

While the Mountain View startup’s bylaws might at first seem like a great match, the relationship between the 2 co-founders, with one person contributing sweat equity and the other pure capital, makes this company’s bylaws practically irrelevant to your startup company. Sure, you both deal with tech stuff but your respective co-founder relationships drastically differ. On the other hand, the lemonade stand co-founders put in both equal time and money–just like your startup company. Since the lemonade stand co-founders (hopefully) framed their relationship issues in their bylaws, their bylaws will be a much better drafting guide for you. And your startup company will reap the rewards when something goes wrong and your startup’s bylaws are needed to help resolve a dispute between you and your co-founder. They will be on point and address issues likely to come up in your particular situation.

Bylaws should be drafted according to the relationships between co-founders, shareholders, and officers. They should not be overly concerned with your product or service. Therefore, by customizing your startup documents according to relationships within your startup company rather than your industry, you will end up creating valuable documents for your startup company.

Before I get into nerdy blog statistics, I want to thank each and every one of you that has visited The Startup Lawyer. You are my “early adopters” and I’m not going to sell you out like Apple did its initial iPhone purchasers. If you can’t tell, I’m awaiting instructions on how to get my $100 Apple Store credit.

So here’s a few blog statistics for the month of August:

-1,017 unique visitors
-44 countries represented
-45 different states (U.S.)
-5 minute average on the site
-31% of visitors via search engine; 94% of those used Google
-53% of you use Internet Explorer

So once again thanks for visiting. I’ve had the pleasure of communicating with all of you via this blog, several via email, and a few via telephone. A couple of you have entrusted my law firm with your startup company.

So what’s on tap for this blog? I’m working on a few things. First, I’m wrapping up Part II of How to Avoid Being Ripped Off When You Lease Office Space. It’s becoming a monster post, but I don’t want to break it up into any more pieces. I’m also trying to arrange a couple of very interesting guests, pending approval from their respective companies & law firms.

And finally, if there is a topic you’d like me to address or one that you would like to see some further discussion, please let me know via email or comment. Just remember not to send me any specific information.

Have a great weekend.

Some startup company founders are determined to raise cash from day one. Of course, some startup companies will only experience day one if they raise capital and thus have no choice but to put their best foot forward with investors. Other startup founders rank raising cash somewhere between death and disability on their personal wish-list.

The question of whether or not to raise cash is going to depend on market forces and several factors exclusive to your startup company. But whether you choose to hold off seeking investors permanently or temporarily, there are benefits to not raising money. Wil Schroter of the GoBIGnetwork addresses such benefits in The Monetary Value of Not Taking Capital.

Wil lists avoiding dilution, forcing you to focus, maintaining control, and the ability to refine your company’s vision as benefits of not taking capital from investors.

Unless your startup company has assets to leverage with potential investors, being diluted and losing control will be serious consequences of raising capital. And since most startup companies lack leverage, there’s not much a startup company founder (or the startup company’s lawyer) can do to prevent a large dilution or loss of control.

If you can’t self-fund your startup company and must take on investors, keep the number of your investors as low as possible. A low number of investors will reduce your startup company’s transaction costs and headaches associated with raising funds.

I’d rather my client raise $90k from one investor than $100k collectively from ten based upon the transaction costs my client would suffer both during the fundraising process and in the future. My client might have to cut back on Aerons, but it’s much easier to keep one person happy than ten.

If you have no choice but to take on a large number of investors, request that your investors form their own LLC. Have the LLC be your startup company’s investor and therefore you only have to deal directly with one investor.

Here’s a short Labor Day Weekend themed post. Check out the following links regarding United States Labor Law:

United States Department of Labor Compliance Assistance Policy
Fair Labor Standards Act
Family and Medical Leave Act
Employee Retirement Income Security Act
Occupational Safety and Health (OSH) Act

The links provided cover federal labor law and most states have enacted their own additional protections.

Have a great holiday.