Legal Question - Board of Directors
January 04, 2024
by a searcher from Balamand University in Nova Scotia, Canada
I'm in Canada trying to build a board of directors for a venture to roll up the home care industry.
I am following Dan Pena's QLA model of building my board first, solidifying the strategy that I have as a team, warming up lenders and learning there parameters, and then sourcing deals and finding targets from an experienced position.
For the board I need:
- Chairman for M&A experience
- Industry Expert
- CFO for financial modeling and deal structuring and leverage with banks etc..
- Attorney for legal
QUESTION: The model says do not incorporate until you have a deal to close, then you have the lawyer form the company and distribute shares etc. Until that point, my team will be working with me on a handshake deal. Is there any legal responsibility/liability for me personally until the company is formed??
Telling someone ok you will be my chairman for 8% equity for example and then the CFO for 5% etc. What could go wrong if for any reason we don't move forward with the CFO for example and we decide to get a different CFO?
Thanks!
from Harvard University in Toronto, ON, Canada
from Ivey Business School at Western University in Toronto, ON, Canada
A few things to consider:
- Do they really need to be on your board of directors to start, or can they just be advisors (ie someone you can name when pitching to investors)? Advisors generally have no liability/no fiduciary obligations. Directors have both of those things. Easier to find 'advisors' than 'directors', and many people may prefer (at least to start) to be an advisor but not a director, since you won't have D&O insurance and you won't want to pay for that any time soon.
- It's pretty rare for your lawyer/attorney to want to be on the board. Lawyers generally hate risk (which is why lots of searchers hate working with the average lawyer), and being a director has risk. Being an advisor is a different story as noted above.
- My general suggestion is find advisors who fit the profiles you want, but dont call them board members or make them official directors. In your scenario above, you've already lost control of the board (which you dont want)!
- Different people have different thoughts on when to incorporate. In Canada, if you're doing a share deal, then you often want to amalgamate post-close with the target. To do that, your corp has to be in the same jurisdiction (eg Ontario, federal, BC, etc.) as the target. You wont know that jurisdiction until you have a deal, so you may have to 'continue' your company to another province to close, which is an admin pain/costs some money. Not the end of the world, but just an FYI.
You want to be very, very clear with people on what % of a company they are getting. 8% equity with no vesting? What if they do nothing? Does the 5% dilute the 8% (probably not, but...). If you later raise money from investors, presumably that's meant to dilute them, right? What if you want to fire them? What if they quit? And so on and so on.
Oral contracts can be contracts. And if vesting is never discussed, then they can later argue that they were entitled to 8% unvested and... that may not be ideal.
All that to say - it's one thing to get alignment on high-level concepts. But be very clear about not promising stuff to people that you arent 100% sure you mean (or arent 100% sure what conditions are truly meant to apply). You might say something like 'I'm thinking that if we end up closing a deal, you'd likely have X% of the company subject to some sort of vesting provisions. And you'd be required of course to sign our shareholders' agreement. But that's all still to be determined, and I want to make sure that you understand that this isn't a promise of equity or anything binding right now'.
Even if you incorporate a company now, I wouldnt formally give them any shares until you have the full terms figured out (and would strongly recommend you get legal advice to sort out those terms) and a shareholders' agreement ready for them to sign.
All that to say - you can get into trouble really quickly here, and the last thing you want is someone who ends up being terrible to have a claim to a good chunk of equity without adding any value or any money!