Corporate Governance Flashcards
Can my co-founder(s) fire me?
In short, yes. Any combination of stockholders that holds a majority of stock in the company can fire anyone. If a single stockholder owns a majority of the voting stock of a company, that stockholder has unilateral power over hiring & firing.
Technically the Board hires & fires the management, so if the person subject to termination has a block on a board majority (e.g., holds the sole Board seat, or one of two Board seats), then the stockholders would first remove that person from the Board, appoint a replacement if necessary, and then terminate that person.
What are the officer positions? Do they matter?
Delaware requires each C Corporation to have at least one officer. Typically companies appoint a President, Treasurer, and Secretary (another standard practice is just President and Secretary). Although not required, companies usually also appoint a Chief Executive Officer, so the officer positions are typically Chief Executive Officer, President, Treasurer, and Secretary. These roles can all be assigned to one person or can be split among the co-founding team.
The Delaware officer positions do not hold much significance except with regard to signing certain documents (for example, the Secretary will often sign the Bylaws of the Company). In most cases the Chief Executive Officer is the person responsible for leading strategic vision and investor communications, and will sign most agreements (e.g., fundraising, equity issuance, partnerships).
The President and Chief Executive Officer of the startup are usually the same person. The Company can also appoint any other people to officer positions (Chief Financial Officer, Chief Operating Officer, Chief Technology Officer, Chief Product Officer, etc.).
All officers can be hired/fired by the Board, which is elected by the shareholders. So, when it comes to actual control of the company, Board seats and, ultimately, shareholder votes, matter more than officer positions.
The key here is that the team can cooperate effectively, make group decisions, and delegate work.
Two business co-founders:
Business Co-Founder #1 is Chief Executive Officer, President, Treasurer, Secretary
Business Co-Founder #2 holds no officer positions
Two business co-founders, one technical co-founder:
Business Co-Founder #1 is Chief Executive Officer & President
Business Co-Founder #2 is Treasurer and Secretary
Technical Co-Founder is Chief Technology Officer
Who governs the company, the Board or the stockholders?
Ultimately the stockholders, as they elect the Board members. The Board is responsible for hiring and firing the managers (founders), and the managers run day-to-day operations. When the company is small, the board members and managers are the same people, but as the company grows, the roles and duties become increasingly differentiated.
How big should the Board of Directors be? Who should be the initial directors?
Board seats are precious, and should only be granted thoughtfully and with a long-term view (i.e., not as a sweetener for a deal or as a short-term solution).
Usually an early-stage Board is 1 - 3 members, often with the whole founding team sitting on the Board. An exception might be the case in which a subset of co-founders has a bigger say than the others, e.g., if a company has four co-founders with equity splits 30-30-30-10, it might make sense to have three Board seats, with the 10% holder left off.
Board size & composition will be a key negotiating point with future investors. Usually, after the first equity fundraise (“Series Seed”), the Board consists of three members (two founders & a Series Seed investor) and five after Series A (two founders, Series Seed Investor, Series A Investor, “independent” seat mutually chosen by all).
Should I enter into a founders’ agreement?
A founders’ agreement is a contract entered into by a company’s founders that governs their business relationship. The agreement defines each founder’s rights and obligations, and may include information such as the names of the founders (who is a “founder” is sometimes disputed), roles and responsibilities, the intended business structure and equity splits, and a commitment to assign intellectual property to the startup when it is incorporated, if the business is not yet incorporated.. In theory, a founders’ agreement helps set expectations and can protect each founder’s interests, which hopefully mitigates the risk of future disagreement (or litigation) thereby creating value for the startup.
However, founders’ agreements are almost never recommended by startup counsel for three key reasons: First, a founders’ agreement may restrict a startup from making necessary changes in the case that circumstances change (e.g., a pivot that obsolesces a previous co-founder’s skillset, requiring termination). Second, if signed before the business is incorporated, the enforceability of a founders’ agreement upon formation is difficult (e.g., under contract and intellectual property law it is difficult to create an enforceable promise to assign current intellectual property to a future entity). Third, if the business is already incorporated, then voting stock ownership and the board of directors should ultimately dictate corporate governance, not a contract.
For these reasons, most lawyers recommend forgoing a founders’ agreement, and simply incorporating the company (usually a Delaware C Corporation), granting the founders their stock, and assigning board seats, then relying on the standard Delaware corporate governance rules.
What’s the difference between plurality (statutory) voting and cumulative voting?
Plurality voting (also called statutory voting) is a shareholder voting procedure in which each shareholder has one vote per share, and the votes must be divided evenly among the candidates or issues being voted on. With plurality voting, it is less likely that a minority shareholder can influence the outcome.
Cumulative voting is the other, less common, shareholder voting procedure. Under cumulative voting, shareholders can divide their shares however they want across the candidates or issues being voted on, which is advantageous to minority shareholders since they can allocate their votes towards particular candidates or issues to more easily influence the outcome.
For example, suppose the stock of a corporation is held between two co-founders: Founder A holds 6 million shares and Founder B holds 4 million shares, and that they are voting to fill two open board seats, Seat 1 and Seat 2. Assume each co-founder has one vote per share.
Under plurality voting, each co-founder is entitled to cast one vote per share when voting on candidates for each board seat. This means that Founder A has 6 million shares to vote on their candidate(s) of choice for each seat and Founder B has 4 million shares to vote on their candidate(s) of choice for each seat. Thus, Founder A controls the election for both seats.
Under cumulative voting, the shares each co-founder is entitled to cast for each seat are pooled, such that Founder A has 12 million shares to vote total (6 million x 2) and Founder B has 8 million shares to vote total (4 million x 2). These shares can be allocated however each co-founder pleases. If Founder B wants to increase the odds that their candidate of choice is elected for Seat 1, then Founder B can vote all 8 million of their shares to their Seat 1 candidate and not vote any shares towards Seat 2. If Founder A chooses to allocate their shares evenly — 6 million shares for Seat 1 and 6 million shares for Seat 2 — and Founder B allocates all of their 8 million shares to Seat 1, Founder B controls the election for Seat 1. (Of course, Founder A can also choose to allocate all of their 12 million shares to their chosen candidate for Seat 1, again controlling the election, but this is unlikely if a company has a large number of shareholders and because of blind balloting.) This opportunity to control which candidate wins Seat 1 is unavailable to a minority shareholder under plurality voting.
