10 mistakes when founding

The establishment of your corporation usually has the background to protect you from damage (limitation of liability) and to assist in generating revenues. In most cases, start-ups therefore begin with a UG or GmbH. The foundation requires notarial form and is therefore associated with costs in addition to the capital expenditure. It is therefore understandable that many founders would like to save themselves the trouble of drawing up complex contracts and the associated advice. On the other hand, it is incomprehensible that they do so, since they have a duty to protect their business from damage.

This article is intended to point out the most important points that need to be taken into account when founding a company. The formation itself is simple and straightforward. You go to the notary, he reads out the contract - he offers a free sample - everyone signs, the whole thing is registered and the company is ready. Since you can do little wrong here, founders often go to the notary without legal advice, in addition, many lawyers advise the "foundation" because you can also do little wrong with the advice.

Little wrong, but much right, if you know what matters! 

The aim of this article is to sensitize and enlighten and to protect against an unenlightened solo attempt. As shown above, the GmbH should avert damage and increase liquidity or value. How does it look with this premise however then with view of cost saving and:

• Tax optimization
• Internal liability
• Internal disputes
• Cash outflow due to severance payments
• Cash outflow due to contract changes
• Limited financing opportunities
• High loss of shares in case of financing
• Etc.

Therefore, this article is intended to point out and clarify, as far as it is possible in a general way, what should be paid attention to in any case, and where it may be appropriate to consult one or the other expert in individual cases.

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ERROR 1 - NO OR INCOMPLETE CONSULTATION

Notaries do not advise, but clarify. They ensure that what is agreed is also legally possible and that none of the parties involved is unreasonably disadvantaged without their knowledge. Therefore, going to a notary is also correct and necessary, but it is no substitute for advice.

Few tax advisors are actively involved in shaping the company, and most lawyers do not understand the tax or financial significance and implications of many early decisions. Corporate law follows tax law, IP transactions and intellectual property protection follow corporate law and tax law, forms of investment follow tax law and corporate law, and everything follows venture capital with an eye to possible exits. The result is to always be well advised at all steps. 

As a shareholder and managing director, you also have a duty to prevent damage to the company, which is why it is imperative to have an advisor on hand. However, with a view to increasing the value of the start-up and the value of the shares, it makes sense to look for an advisor who is familiar with the entire process, i.e. who knows what the founders can expect both in financing rounds and in the exit, in order to set the course at an early stage.

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ERROR 2 - NO THOUGHTS ABOUT A HOLDING

It is not intended to give the impression that a holding company can always (!) be useful. But in most cases it is. However, since a holding structure can usually only be set up at a later date at great expense, you should at least think about it beforehand and inform yourself. As a rule, the holding company allows you to pay only 1.5% tax on the proceeds of your sale, instead of around 27%. You can find out more about the holding company here.

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ERROR 3 - FOUNDING WITH SAMPLE PROTOCOL

In order to save €500 on the notarization, founders often start with the sample protocol instead of a properly drafted charter, forgetting that important rules for cooperation are left out. This can lead to a standstill of the company in case of a lack of resolutions, to an outflow of liquidity when a shareholder leaves, or simply to the fact that your co-founder can easily sell his share to your ex-girlfriend or ex-boyfriend in case of a dispute and you then have to continue the business with this person. 

This can be avoided with an individually drafted charter that defines the rules of the game. It is important, however, to consult with your partner and to adapt the charter to your individual case. You can find more information about individual articles of association here.

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ERROR 4 - REGULATE SHARES LATER

It often works like this: Two of three founders establish the company and get started. The third co-founder stays out of the picture for the time being (for whatever reason), because: "We can still deal with the shares later". 

"Later" means that the company is successful and has achieved a certain increase in value. In order to get on board, you must either buy the shares at the market price or pay tax on them as a gift. But since you usually can't afford (or don't want) either purchase price or gift tax, you end up - with a few exceptions - in the employee pool together with all later employees. And that's why you should take a stake in the company right from the start or agree on corresponding option rights.

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ERROR 5 - JOINT HOLDING 

You should always have your own holding company: The founding shareholders establish a joint holding company and then the operating company. This leads to difficulties later with participation agreements, because investors want a so-called "vesting" of the individual founders. However, this is not easily possible in the case of a joint holding company. In addition, you want to build up your business with your risk-averse co-founder, but later enjoy the holding advantages alone. Above all, in the case of later investments, there should be no discussions about whether and how to invest from the holding. 

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ERROR 6 - TIMING

You should found your company in good time and take care of your setup early enough. Because usually the founders start, build their product or MVP and then legally founded later. Here too, "later" means that the product was developed outside the company and must now be incorporated into the company "somehow like". This can usually only be done with a transfer, which is usually taxable, and involves further problems such as copyright and IP transfer, which are usually associated with costs. Therefore, develop your product within the company, then you save these costs. Because let's be honest, that was actually what you wanted to achieve with the later foundation.

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FOUNDER - ERROR 7 - CONSULTANT

You should always choose your advisors and supporters carefully:

Since there is little money at the beginning, business consultants usually take shares for support with the business plan, financial plan or fundraising, which is absolutely fine, since valuable input is provided early on. However, this leads to the fact that they are permanently involved in the company, which in turn is not a problem if there is also regular cooperation. If, however, the input is more of an initiative nature, then you should make sure that you get them out of the company again with buy-out clauses - with appropriate compensation, of course. A passive shareholder with too many rights and an unorganized cap table regularly scares off investors.

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MISTAKE 8 - NO VESTING

Make sure you choose the right co-founder: 

In the absence of sufficient choice, you often take the first option without paying attention to whether the co-founder really has the necessary qualifications, motivation and commitment. At Founder's level, however, you would regularly have to make tough business decisions that do not suit everyone's pace or understanding. But that's exactly what vesting agreement is for, a kind of trial period to earn your shares little by little. That way, you can get a troublemaker out of the company before he can block the business.

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MISTAKE 9 - TRADEMARK REGISTRATION 

You should take care of your trademark application early:

Company name and product name are fixed in time and with focus on growth the trademark protection is rather lost. Or maybe the trademark was even registered in the beginning, but registered to one of the co-founders and not to the company. In the first case this leads to the fact that everybody - also your competitors - can use your trademark or have it protected. In the second case - as in mistake no. 6 - you have to bring the increase in value to the company. In both cases, we lawyers can solve this legally, but you pay our opportunity costs, which you could actually save.

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MISTAKE 10 - LEGAL FORM

You should start with the right legal form:

Since there is usually no advice at the beginning, founders somehow start without thinking about the right structure. Mostly with a GbR or UG. It is not important what is fast, what is cheap, what do the acquaintances and what sounds good, but what helps you as an entrepreneur to bring your products, your service to the market and to optimize issues of liability, financing and tax. Because you do the whole thing as an entrepreneur to make money and to save money. Then start right from the beginning to avoid costs and restructuring.

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