A common question asked by start-ups or even just average average businesses is what information they can ask or use in vetting their potential employees. Some common forms used may be background checks, drug screening, and reference checks. Due to the economy creating many credit problems for average citizens (even more so with entrepreneurs who often use their own personal credit to bootstrap their company), I will take a look at the use of credit reports in making employment related decisions.
Existing federal law provides that, subject to certain exceptions, an employer may not get a credit report without prior disclosure of that the employer wants to obtain one and the employee consents. Existing federal law further requires, subject to certain exceptions, an employer, before taking any adverse action based on the report, to provide the consumer with a copy of the report and a written description of certain rights of the consumer.
California enacted AB 22 which amended California Civil Code Section 1785.20.5 to provide additional protections in this state to protect the potential employee when dealing with similar uses of credit reports. This law went into effect January 1, 2012. In addition the California Labor Code added Chapter 3.6 to include additional requirements. The law provides that the employer needs to follow the same federal requirements of disclosure that they want to obtain a credit report, but also requires the employer to state why they want it. The law goes on to further indicate that credit reports can only be requested for the following certain categories of types of positions (except by certain financial institutions): Learn more
Many small business owners or other entrepreneurs start out with a great idea for a new product or service. They start a business and focus on doing whatever it takes to make the company successful. Many don’t take the steps necessary to properly protect the business from creditors or don’t really pay much attention to what they sign when they are making deals. The ones who do read the fine print may just have the attitude that they are so confident in the business’ success, who cares if they use their own personal credit to get some working capital. With the economic downturn over the last few years, many business owners have had to close their doors because they couldn’t get the funds they needed to even cover the simple things like payroll or rent.
Use of Personal Credit
Many entrepreneurs feel that they should put some ‘skin in the game’ by contributing some of their own money into the business. In fact, the Small Business Administration backed loans often require the founders to contribute at least a certain percent of their own assets or some other major contribution in order to qualify for a business loan. When the owner doesn’t have available cash, they look to other sources to get the money to contribute. That can lead to things like taking out a home equity line of credit or using personal credit cards to help fund the business. Obviously that is pretty risky, but often necessary to get early access to this seed money to start and grow. The banks that issued the credit did so based upon the owner’s personal credit rating. Just because the credit card may have the business’ name on it doesn’t mean the bank hasn’t covered their bases by making sure they can sue the owner personally if the business defaults in payment.
So a major issue faced by many startup founders, especially when they are bootstrapping, self-funded, or just watching their cash, is how they can get legal or other services with little to no cash. The fall back position is to give the advisor or service provider a “piece of the action.” The founder often wants to use stock in the company they formed or stock options to avoid using cash, but still obtain needed advice and guidance. Here are the main problems you will run into:
1) Valuation– You will have a difficult time agreeing on a valuation of the company’s stock (see Section on Valuation). The founder often feels that they have the next greatest invention or idea of all time and the company is already worth billions despite having no business model or revenue (just watch an episode of Shark Tank on ABC). The valuation is what you use to determine the value of the stock in comparison to what the services are worth. (e.g. 1,000 shares of stock valued at $1 per share in exchange for $1,000 worth of services) The service provider or advisor may have a different idea of what your company or idea is really worth. If you can’t come to some agreement on the value of the stock, you won’t get them to sign on.
On April18, 2012, the SEC, jointly with the Commodities Futures Trading Commission (CFTC), implemented part of the Dodd-Frank Act by adding definitions for use in interpreting what are swaps-related transactions.
The new Rule 3a71-1 under the Securities Exchange Act defines the term “security-based swap dealer” consistent with the criteria set forth in the Dodd-Frank Act as someone who:
- Holds themselves out as a dealer in security-based swaps.
- Makes a market in security-based swaps.
- Regularly enters into security-based swaps with counterparties as an ordinary course of business for their own account.
- Engages in activity causing them to be commonly known in the trade as a dealer or market maker in security-based swaps.
There is an exception for those who are only involved in a de minimis quantity of these transactions to not be held to this rule. The rule will go into effect 60 days after the rule is published in the Federal Register.
You can read the entire release and rule through the SEC’s website at:
One of the biggest questions small business owners or founders have when it comes to early stage business issues is when do they need to hire an attorney and how do they pick one. I will explain what I think are important qualities and how an attorney can be invaluable, even before the company is formed.
A good startup (some people spell start-up, some use startup) or business attorney needs to be able to see a wide variety of potential issues the company may face and be able to address those with the company or founders. If they simply form a corporation and provide some initial shareholder agreements, bylaws, resolutions, or other initial documentation, that is a valuable service, but there is much more to be examined and addressed in an early stage business. There are many legal or business issues, such as what intellectual property protection is or needs to be in place (e.g. patents, trademarks, non-disclosure agreements), advise the founders about securities laws relating to issuing stock or raising money, preparing for human resources and hiring (e.g. explaining that you can’t just call someone an independent contractor or 1099 and avoid payroll tax withholding obligations), and when to get someone involved in drafting or reviewing contracts. While it is true that “startup law” is really mostly about basic formation and protection of business entities and possibly help with closing initial rounds of funding, the attorney should have a wide general knowledge of many aspects of business and law.
I have noticed quite a bit of confusion in blogs when discussing crowdfunding, the JOBS Act, and other recent legislation regarding small business, startups, and emerging growth companies. Even respected news organizations don’t get the specifics exactly right about what this legislation actually says, so I thought I would set the record straight.
President Obama is set to sign H.R. 3606 this week. The best way to know exactly what this bill says is to read it, despite the somewhat dense language and references to other parts of U.S. law. Here is a link to the actual PDF format of H.R. 3606. This is an easier to read version I put together on my site with hyperlinks to each section. For an overview and summary of this bill and its history you can read here. These are links directly to the information provided by Congress. Some of the confusion has been that the legislative process involves a very confusing system where bills are introduced, amended, and sometimes added to existing bills. That was the case with the JOBS Act and the crowdfunding provisions. H.R. 2930 was the original crowdfunding bill that passed the U.S. House and went to the Senate, but did not actually pass the Senate. After adding and deleting portions from various amended versions similar to H.R. 2930, the crowdfunding and other provisions were all put into one bill called H.R. 3606. This passed the Senate and then went back to the U.S. House after amendments to be passed. It has passed and was forwarded to the President for signature on March 27, 2012. He is expected to sign it this week.
With H.R. 3606, or most commonly referred to as the “JOBS” Act (Bill Summary | Bill Text PDF), likely to be signed into law this week by President Obama, there are some new changes that may be of help to startup and small companies. In addition to the so-called crowdfunding exemption from securities registration which allows pooling of small amounts from investors to fund a company, the JOBS Act puts in place regulations that carve out a category called “emerging growth companies” which have an intermediate level of reporting obligations with the SEC. It is between the level of disclosures required for a fully reporting large company and a private, non-reporting company. This could be a very good help for these small to middle market companies to ease the burden of time and expense in being a fully reporting company.
In this day of a new app being developed every day, how does the company owner or management know who owns the code developed and when they could lose control over it?
Most issues of ownership for software code fall into areas of copyright (a form of intellectual property or IP), since they are usually “written works of authorship” and primarily covered by US copyright law. Copyright protection provides the author with protection from reproduction by others. There are times when works can be reproduced without violating a copyright under things such as the “fair-use doctrine,” such as when sample pages from a book are reprinted in a blog with commentary by the blog author about their thoughts or criticisms about what is being said in the book. The rights for copyright protection are generally given to the original author of the work for long periods of time (anywhere from 70 years to over 120 years depending upon all the facts). After that amount of time has passed, the work is considered in the public domain and others can copy it without worrying about infringement.
One question faced by companies from startup through Fortune 500 status is whether they should stagger or classify their board of directors. Staggering or classifying occurs when the corporation sets up voting for election of only a minority of members of the board every year, so it often takes several years to replace an entire board. This is viewed as a good takeover defense and also argued to be good for the corporation because frequent changes of directors can result in corporate policy and corporate governance changing more often or more dramatically. Those against it feel that it doesn’t give shareholders the ability to make major changes when problems arise with the current board’s decisions and it entrenches existing corporate policy and management to not as easily allow for necessary change. Although some would downplay trying to make this about shareholder rights versus management or existing structure, that is a major factor of the argument.
H.R. 2930, one part of the multi-bill JOBS Act being pushed through Congress, was to allow more eased securities regulation of so-called crowdfunding. Some have argued that sites like Kickstarter or others could change their business model (currently only accepts gifts or donations, called pledges, to raise money) to help companies raise money for companies in exchange for stock in that company. Currently, that model would be prohibited under securities laws as general advertising and public sales of stock are not allowed, especially through an intermediary, with certain exceptions like using a registered broker-dealer or registering the stock with the SEC.