If you’re an existing founder, you might be exploring the concept of the “Delaware flip” to transition your non-US startup into a Delaware Corporation. This strategic move is gaining popularity among startups aiming to access the lucrative US venture startup ecosystem for substantial funding rounds. Let’s delve into the intricacies of this transition and understand the factors that make it a critical step for your startup’s growth.
Types of entities that can be registered in the state of Delaware
Before we delve into what a Delaware flip entails, it’s crucial to understand the various types of entities that can be registered in the state of Delaware and which one is the preferred option for startups considering this strategic maneuver.
Delaware offers several types of business entities, each with its own set of advantages and disadvantages. These include:
1. Corporation (C-Corp): A Delaware C-Corporation is a popular choice for startups due to its flexibility, strong legal framework, and access to Delaware’s Court of Chancery, known for its expertise in corporate law. C-Corps allow for various classes of stock and are favored by those seeking venture capital funding or planning an initial public offering (IPO).
2. Limited Liability Company (LLC): Delaware LLCs offer a combination of limited liability protection for members and flexibility in management. They are often chosen for smaller startups or businesses that don’t plan to go public, as they have fewer formalities than corporations.
3. Limited Partnership (LP) and Limited Liability Partnership (LLP): These entities are suitable for businesses with multiple owners where some may have limited liability. LPs have general and limited partners, while LLPs are typically used by professional service firms like law or accounting practices.
4. General Partnership (GP): This structure is used when two or more individuals or entities want to operate a business together. However, it does not provide limited liability protection to partners.
5. Public Benefit Corporation (PBC): Ideal for startups with a strong social or environmental mission, PBCs allow companies to pursue both profit and a positive impact on society. Delaware has progressive laws supporting this entity type.
The preferred entity for startups contemplating a Delaware flip typically depends on their specific goals and circumstances. Generally, Delaware LLCs are favored because of their well-established corporate law structure, flexibility, strong investor protection, and familiarity with investors and venture capitalists.
Why Register a Delaware Corporation?
Delaware corporations have garnered immense favor among investors due to several key advantages. The state’s favorable tax benefits create an investor-friendly environment. As a result, serious investors, both within the US and internationally, are more inclined to invest in startups registered as Delaware corporations.
When to Consider the Delaware Flip
As an established founder, it’s essential to pinpoint the junctures where the Delaware flip becomes relevant for your startup:
- Pre-Funding Phase: When you’re gearing up to seek investor funding, converting to a Delaware corporation can make your startup more appealing to a broader spectrum of investors.
- Lead Investor Requirement: If you’ve secured a lead investor who mandates Delaware incorporation as a condition for their investment, initiating the Delaware flip becomes imperative.
- Equity Distribution: Planning to hire US-based employees and offer equity as part of their compensation? A Delaware corporation is the standard structure for such arrangements, making it a necessity to attract top talent.
Strategizing the Timing of the Delaware Flip
Timing is crucial when orchestrating the Delaware flip. While expediting the process might seem appealing, it’s important to strike a balance between the urgency to become US-ready and the financial implications. The complexity of transferring shares and intellectual property underscores the importance of thorough planning. A common misconception is that a swift transition is always ideal, but for early-stage startups, the financial strain of a Delaware flip should be carefully weighed against its long-term benefits.
Navigating the Delaware Flip: A Comprehensive Overview
The Delaware flip involves a sequence of steps to transition your company from its original Nigerian or non-US registration to a Delaware Corporation. Here’s an overview of the process:
- Register yourDelaware Entity establishing a new stock corporation, named something like “XYZ Inc.”
- Shares Exchange: Extend an offer to existing shareholders of your original company in Nigeria i.e. XYZ Nigeria Limited to exchange their shares for equivalent shares in the new Delaware entity.
- Share Transfer: Upon acceptance, transfer all shares from the Nigerian company to the new Delaware corporation. With the Delaware entity having 100% ownership of the shares from the Nigerian company, the Nigerian company becomes a subsidiary of the new Delaware Entity.
- Equivalent Ownership: Shareholders’ ownership in the new Delaware corporation mirrors their previous ownership in the original company.
Crucial Factors to Consider
While the process may appear straightforward, certain nuanced aspects deserve attention:
- Regulatory Compliance: It is important to note that, with the Delaware entity becoming the parent company to the Nigerian Entity, it means that the Nigerian Entity is now foreign-owned, and as such must comply with the relevant guidelines on foreign participation in Nigeria, which include the Nigerian company having a minimum share capital of NGN 100,000,000 (One Hundred Million naira). The Nigerian company’s share capital must be increased accordingly in compliance with this requirement. Also, all necessary permit licenses and authorizations to do business must be obtained. These include registration with the Nigerian Investment Promotion Commission (NIPC), obtaining a business permit, and Expatriate Quota registration if the business will have foreigners living and working in Nigeria.
- Staff and Hiring: Existing staff typically remain employed under the original entity, while new US-based/Delaware hires become part of the Delaware corporation.
- Convertible Instruments: Complexities arise if you’ve issued convertible notes or similar instruments. Prepare for necessary adjustments or noteholder consent during the transition.
- Local Tax Implications: Be aware of potential tax consequences in Nigeria when converting to a US entity. It is important to consult both legal and tax experts.
- US Tax and Reporting Obligations: As a US corporation, you’ll need to adhere to annual tax filing with the IRS, make annual reports, and pay franchise taxes in Delaware.
For established founders seeking to tap into the US investment landscape, the Delaware flip presents an essential strategic move. Delaware’s investor-friendly environment, coupled with its legal and tax advantages, can significantly enhance your startup’s appeal to investors. While complexities exist, consulting experienced legal and financial professionals is indispensable to navigate the process smoothly. By understanding the nuances and benefits of the Delaware flip, you position your startup for substantial growth and investment opportunities in the dynamic US market.