Incorporating The Network Marketer

by Jeffrey A. Babener
MLM Legal Attorney
©2011

Whether you are an MLM distributor or company, sound business, tax and liability reasons may have guided you to incorporate.

So you have decided to incorporate your business and you are headed down to your lawyer's office. Hold off for a minute, and take some time to get organized - save yourself some time and money. Here is a checklist for some things to consider for a first meeting with your corporate counsel.

FIRST, GET YOURSELF TO A CPA. Other than yourself, the most important person with whom your corporate attorney will work is your accountant. Your accountant will provide valuable input on corporate financial structure, funding, capitalization, allocation of stock, etc. Your lawyer will be looking to your accountant to provide an opening balance sheet for the corporation from the time that the business moves from sole proprietorship or partnership to corporate status.

CORPORATE NAME. Contact your attorney ahead of time with the proposed name of the corporation. A quick phone call to the Corporation Commissioner will discover whether the proposed corporate name is available. Will the corporation have a special mark or logo that needs federal trademark protection or state registration.

CORPORATE STRUCTURE. Who will be the officers of the corporation, i.e., president, vice president, secretary and treasurer? Will there be a chief executive officer or chief operating officer? It may be that the bylaws of the corporation should have a special description for specialized corporate officers.

SHAREHOLDERS. How many shares should your corporation be authorized to issue; how many shares should be issued at the commencement of a corporation and how many held in reserve for future issuance? Should there be separate classes of shareholders? Should some shareholders be preferred shareholders and thus receive first crack at dividends? How many shareholders are anticipated? Will the number of shareholders trigger any securities registration problems?

SHAREHOLDER AGREEMENTS. Is there a method for preventing shareholder voting deadlock? You may wish to discuss with your lawyer possible pre-incorporation shareholder agreements which govern employment status of key shareholders or commit shareholders to voting a certain way on specific corporate issues.

THE BUY-SELL AGREEMENT. The first meeting with your lawyer is a good time to discuss buy-sell agreements. What happens when one of the shareholders wishes to leave the business. Under what circumstances should he or she be able to dispose of stock to third parties? As a general matter, in closely held corporations, either the corporation or other shareholders are granted the right to buy the stock. What circumstance should trigger the buy-sell agreement: death, disability, retirement, termination, etc.? Should the buy-sell agreement be funded by key man insurance that would fund the purchase of stock in the event of death of a key shareholder? What will be the mechanism for valuing stock: annual appraisal, book value, multiple earnings, arbitration, etc.?

PLANNING FOR FUTURE SHAREHOLDERS. Are there plans to take on new investors or shareholders in the future? Are there plans for taking the company public some day? If so, the initial structure of the articles of incorporation and stock may be used as an important planning tool for the future. Should shareholders have preemptive rights, i.e., rights to buy additional stock in the event that more stock is issued so as to maintain their equity interest in the company? Are shareholders concerned about dilution of their interest in the company at the issuance of new stock such that agreements should be entered regarding anti-dilution?

CAPITALIZATION. At this point, the attorney works closely with your CPA. What will the initial capitalization or funding of the corporation total? Will shareholders make loans to the corporation and contribute the rest as equity capital? What is being contributed by respective shareholders in subscription to stock: money, past services, equipment, assets of an ongoing business, licensing agreements, etc.? What value will be placed on assets which are contributed to the corporation?

BOARD OF DIRECTORS. Who will be on the board of directors? How many initial directors will there be? Will respective shareholders have the right to elect proportionate numbers of members of the board of directors? Is there a mechanism built in for preventing voting deadlock by the members of the board of directors? Should the shareholders consider an independent director for breaking a deadlock or a mechanism for submitting decisions to arbitration?

CORPORATE HOUSEKEEPING. Your attorney will need to know a variety of corporate housekeeping information. For instance, information on the anticipated number of employees in the coming 12-month period will be necessary for application for federal tax employer i.d. number. Will the corporation have a fiscal year ending December 31 or at another point in the year? Will the corporation be on a cash basis or accrual basis? Will the corporation initially authorize salaries for officers of the corporation? What institution will be the corporate bank and who will be authorized to deal with the bank and on what terms? Will there be limitations on borrowing power of officers or directors? What will be the date for the annual meeting of the board of directors and shareholders? Who will be the registered agent? - As a general matter, your attorney will be registered agent.

KEY EMPLOYEES. The inception of the corporation is a good time to consider employment agreements with key employees. Also to be considered should be confidentiality agreements with key employees who have access to special technology, trade secrets, or customer financial or manufacturing information which is proprietary to the business. At the same time, noncompete agreements should be considered for key employees, as well as possibly for officers and directors.

EMPLOYEE PLANS. Be prepared to talk about future plans for employee benefit plans such as profit-sharing plans, pension plans, stock option programs, fringe benefit programs, medical reimbursement plans, etc. If not implemented in the beginning of the corporation, it is good to have in mind where such programs may fit in at a later date.

CHAPTER S OR C. Will the corporation be a Subchapter S corporation where income and losses flow through to shareholders and the corporation pays no income tax, or will it be a standard Section C corporation where it does in fact pay income tax and income is not placed on the shoulders of shareholders? If the corporation will sustain major losses and shareholders have other sources of income against which they wish to write-off losses, chances are Subchapter S may be appropriate. Historically, most businesses have been incorporated as a Section C corporation.

As can be seen, there is much to discuss at your first meeting with corporate counsel. A little time, effort and organization ahead of that meeting will pay off handsomely to the small business owner.

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About the Author:

Jeffrey A. Babener, the principal attorney in the Portland, Oregon law firm of Babener & Associates, represents many of the leading direct selling companies in the United States and abroad. His firm has focus on startup and emerging MLM companies. He has been adviser to such companies as Avon, Nikken, Discover Toys, NuSkin, Excel, Fuller Brush, Cell Tech, Kaire, Sunrider, Melaleuca, etc. He is editor of the industry resource internet site www.mlmlegal.com.  He is a frequent lecturer and has been interviewed on the industry, and published, in many publications. Babener & Associates, 121 SW Morrison, Suite 1020 Portland, OR 97204, www.mlmlegal.com.

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