Setting Up Common and Preferred Shares for Your Company: A Comprehensive Guide

Understanding the basics of common shares and preferred shares when setting up your company#39;s stock structure can be confusing. But it doesn#39;t have to be. This guide will delve into the common misconceptions and provide practical advice based on industry best practices and practical experience.

Does the Number of Shares Matter?

The short answer is no, the number of common and preferred shares typically does not matter in the early stages of a company. As Brett mentioned, the specific number of shares and their authorized quantity are ultimately up to the founders or current shareholders. This is especially true for smaller companies that do not plan to seek outside investment immediately.

For instance, consider a company that has issued 100 shares, all of which are owned by the founder. Even though the company is valued at several million dollars, there is no inherent necessity to issue more shares. The key factor is not the quantity of shares but the utility and value they generate for existing and potential shareholders.

Why is Par Value Not a Concern?

Par value is often a subject of confusion when setting up a company#39;s stock structure. In many cases, par value is set at one cent, which is a common standard. However, it is important to note that par value is irrelevant in most cases. In the absence of any legal or regulatory requirements, there is no need to assign a particular par value to your shares.

Practical Example:

Consider a hypothetical company. If par value is set at one cent and the company has authorized 1 million shares, but only 100 shares are issued, the implied valuation could be significantly higher. This is because the holders of these shares may be seen as owning a much larger equity stake in the company relative to the par value.

When to Involve External Stakeholders

As your company grows and seeks to secure funding from external sources, it is likely that your initial articles of incorporation will be amended. New investors and funding administrators will require changes in the classes of stock, the number of shares, and the par value according to their specific needs and valuation strategies.

At this stage, it is imperative to consult with a good accountant and a corporate lawyer. They can provide the necessary legal guidance and ensure compliance with all relevant regulations. These professionals will help navigate the complexities of stock authorization and structuring for your company.

Choosing the Right Incorporation Location

While the specific number of common and preferred shares and their authorized quantity may not matter in the early stages, another crucial decision is choosing the right location for incorporation. Delaware (DE) is often the preferred choice due to its investor-friendly environment and well-established legal framework.

Delaware#39;s laws and corporate regulations are designed to protect the interests of both shareholders and management. It also offers a robust infrastructure for handling corporate disputes and provides a favorable environment for attracting both domestic and international investments.

Conclusion: When setting up common and preferred shares, focus on what works best for your company’s current stage of growth. The number of shares, par value, and the initial structure are flexible and adaptable. As your company expands and seeks outside investment, ensure you have the right legal and financial guidance to navigate the complexities of stock authorization and structuring.

Frequently Asked Questions (FAQs)

What is the impact of a lower par value on a company’s share valuation?
Lower par values can be misleading without context. Companies with a low par value may appear to be undervalued, but this does not necessarily reflect the true worth of the company. It is the underlying business and assets that determine the company’s value. Is it necessary to issue preferred shares to secure funding?
Not necessarily. Preferred shares can be an effective tool for investors, but they are not a requirement. Companies often issue common shares first and then, based on future needs, decide whether to issue preferred shares. Will changing the stock structure impact an existing company’s valuation?
Amending the stock structure can impact valuations, but the effect is dependent on the specific circumstances. Consulting with professionals who understand the financial and legal implications is crucial during any restructuring.