If you are a California resident considering starting a company, you’ve probably heard by now why investors traditionally prefer the Delaware Corporation over a California Corporation. These reasons include, but are not limited to, a well-established legal precedent that makes disputes easier to resolve, corporate attorneys’ familiarity with Delaware corporate law, and making VC deals easier to execute. While there are many viable reasons for selecting a Delaware Corporation, there are a couple of less frequently mentioned reasons to consider.
1. A Consistent and Reliable Secretary of State
In my experience, if the Delaware Secretary of State catches a typo, has trouble reading the last four digits on your credit card, or any other matter that may slow up the process, they will email or give you a call and work to fix the problem over the phone. Additionally, the Delaware secretary of state is open until 8 PM to ensure those operating from the West Coast do not lose out due to the time difference.
California is quite the opposite. Rather than call, email or take any extra steps to simplify the process, the California Secretary of State will simply mail back the requested modifications using standard mail, and after revising, you will then need to mail everything back and play the waiting game. With business moving at the speed of light, this uncertainty can make corporate filings much harder to execute.
2. Only One Director, Despite Multiple Shareholders
Nearly all entrepreneurs who start a venture envision they will remain in control of big decisions (at least for the foreseeable future). Under California law, a corporation may only have one director if in fact there is only one shareholder. Once the shareholders expand to two, there must be at least two directors, and once the shareholders expand to three or more, there must be at least three directors (CA Corporations Code 212).
Under Delaware law, there can be multiple shareholders while maintaining a single director board. This gives entrepreneurs maximum control as things get started. It also lowers the burden of finding qualified directors to serve on your board, and removes the risk of a deadlock with two directors, or even worse, the other board members out voting you.
3. Electing the Board of Directors on Paper
I hear it all the time – “I’ve got this great idea, but I’m bootstrapping the whole thing.” The reality is that even after you incorporate you’ll likely continue to feel “bootstrapped” for the first couple of years.
Corporate law requires the shareholders to elect who will serve on the board of directors for the coming year. California permits the company to elect by paper vote only if they receive unanimous written consent from all shareholders (CA Corporations Code 603(d)). There is a big difference in time commitment and cost between holding an in-person meeting for all shareholders and obtaining a majority vote with written approval. A shareholder may simply be unavailable (finally taking that three month trip to backpack across Europe!) and therefore, the company must shoulder the burden of holding an in person meeting because it cannot obtain unanimous written approval.
Delaware, on the other hand, does not require unanimous written approval (DE Corporations Code 228(a)). If less than unanimous consent is obtained, then Delaware must provide notice to those who did not provide their consent, but this notice requirement is much easier to meet than holding an in person meeting.
4. Open Source Documents to Facilitate Financing
As your product or service begins to take shape many startups can experience exponential growth with a small round of financing. The goal here is to use the money you’ve raised as judiciously as possible to ensure it goes towards what makes you great.
Open source material from Y Combinator and Series Seed Documents help facilitate raising money in a Delaware Corporation and have made the financing process much, much easier. This allows lawyers to focus on the necessary vetting of investors, securities exemptions and increases the likelihood of quick legal advice due to familiarity with the documents at hand.
Unfortunately, California has no such open source documents. Furthermore, because the California Secretary of State is much harder to deal with, actually filing the documents successfully the first time, and with any kind of speed, is hard to predict.
There is no one-size-fits-all when it comes to selecting the proper entity for your business, but when making the decision be sure to consider some of the convenience, flexibility and certainty a Delaware Corporation can provide.
Disclaimer: This article discusses general legal issues and developments. Such materials are for informational purposes only and may not reflect the most current law in your jurisdiction. These informational materials are not intended, and should not be taken, as legal advice on any particular set of facts or circumstances. No reader should act or refrain from acting on the basis of any information presented herein without seeking the advice of counsel in the relevant jurisdiction. Bend Law Group, PC expressly disclaims all liability in respect of any actions taken or not taken based on any contents of this article.