Automated Incorporation in Delaware – Revolutionary or Troublesome?

The Truth About Automated Incorporation in Delaware

Many rejoice, while some despair, but nobody can deny that costly services are constantly being replaced by automated technology-driven processes, cutting both funds and time required to carry out essential business operations. This trend is also gradually covering certain legal services as legal advice is one of the inevitable steps any new business venture must take that is not only relatively costly, but also time consuming and, in certain cases, quite complicated. As a result, multiple new platforms have emerged over the last few years offering cost-cutting solutions for entrepreneurs seeking to incorporate in the U.S. – reducing not only cost, but also time required to incorporate a new company. Taking into account the fairly simple incorporation process and the advantages mentioned above, using such service seems like a no-brainer. But is automated incorporation really at a stage advanced enough to be the solution to every startup’s initial headaches and budgetary strain?

In this article we discuss the main issues that should be taken into account when considering an automated incorporation service. Before we start, please mind that this article is neither legal advice nor should be treated as an exhaustive description of all applicable laws. Furthermore, we mainly focus on incorporation in Delaware as it is the state most U.S. startups choose to incorporate in. However, it is safe to say that most of the issues covered in this article apply to other U.S. states as well as automated incorporation is a service available nationwide. Finally, we concentrate on corporations as it is the most common type of legal entity we nowadays encounter and recommend to our clients.

Incorporation process – simple or complicated?

If you are an entrepreneur planning to incorporate a company in the U.S., you probably have done a basic google search and came across multiple ads for platforms offering incorporation services at a very low cost. Some of the more known companies that might have come up in your search could have been Stripe Atlas offering “everything you need to start an internet business”, including incorporation of a Delaware C Corporation and opening of a business account with Silicon Valley Bank, Incorporate.com, Legalzoom and other online platforms offering similar and other types of services in their supposedly all-inclusive deals.

After conducting such search, you might have formed an impression that incorporating in the U.S. is a simple and seamless process that will not require much effort. To some extent this is true – to formally incorporate a new company, especially in the state of Delaware, all you need to do is follow a few mandatory steps. This is exactly what makes the automated incorporation possible, as the aforementioned companies operate by using the same template documents in the course of providing services to all their customers.

It is important to make it clear – automated incorporations are usually technically correct, i.e. they do result in formation of a company. However, utilization of the same template documents combined with lack of understanding of (and usually interest in) client’s business, industry and dynamics between stakeholders, often results in leaving the client stranded with a structure which does not meet their needs, and which they do not understand.

It is not a secret – law firms use document templates all the time as well and it is true that some of such documents can remain virtually unchanged while filling them out during the incorporation process. However, repetitive use of the same cookie-cutter documents for each incorporation is – to say the least – undesirable. Each document produced in order to incorporate a new company and set up its structure for future operations, apart from its basic function, can also be tweaked to customize and improve corporate governance, effectively indemnify the founders against possible future claims, bolster future fundraising efforts, regulate intra-founder dynamics, or lay foundations for the future business development. Looking into the incorporation process from this perspective really does not make it seem as a process easily standardized and automated, and, in our opinion, it should not be considered as such.

Automated incorporation and foreign entrepreneurs

Automated online incorporation is particularly attractive to foreign entrepreneurs who are often confused by the legalities of incorporating in the U.S. and legal institutions which do not resemble the domestic ones. Furthermore, a foreign entrepreneur might find it difficult to find a trustworthy and credible legal services provider, especially as engagement with U.S. attorneys often differs from the European or South-American standard – for example, in the U.S. it is a standard practice to ask for a retainer before providing a service.

In their search for an all-in-one solution, foreign entrepreneurs quickly stumble upon the automated incorporation service providers which – to their credit – are usually doing a great job with their SEO and ads. The automated services seem like a convenient solution as they also assist with seemingly daunting activities such as finding and dealing with registered agents or applying for the tax ID (EIN). As a result, foreign entrepreneurs often fail to understand that a cookie-cutter solution which could work perfectly for an American counterpart, may not be appropriate in their case as presence of foreign operations, intellectual property, subsidiaries or stakeholders usually increases complexity of the incorporation and gives rise to additional compliance issues.

When is the automated incorporation completed?

As already mentioned above, the mandatory steps to bring a company to its corporate existence are fairly minimal, yet one would be hard pressed to consider them a complete incorporation given the number of other formalities that need to be taken care of to ensure that the company is off to a good start, such as issuance of stock, authorization in other jurisdictions where the company is planning to do business, founders’ agreement and others. In other words, a company successfully incorporated from the formalistic standpoint may not be properly incorporated from the business one.

Unfortunately, the automated incorporation service providers often do not specify what constitutes a complete incorporation. From our experience, founders using automated services often end up not finalizing or skipping some of the necessary steps, such as stock issuance or applying for a seller’s permit. Sometimes it is caused by founders not being aware of the importance of adopting certain documents, others – it is simply the service provider’s policy to bring the incorporation process to a certain point and hand it over to the entrepreneur or start charging extra for each additional step.

Therefore, if determined to use an automated incorporation service, it is important to analyze what is actually included in the package. However, still, in cases when more customization is required in the incorporation documents or the corporate structure of a company is planned to be somewhat more intricate than the template one, an automated incorporation service will likely not be able to meet such need.

The role of a (good) lawyer in the incorporation process

It is a common misconception that templates are the main value law firms bring to the table in the incorporation process. The times of documents being held secretly in a vault – if ever existed – are long gone, and it would indeed be a terrible reason to hire an attorney. Lawyers do provide the documents, but their most important role in the context of incorporations is to make sure that entrepreneurs and other people involved understand the content and purpose of the incorporation documents and acts. Lawyers also make sure that the entrepreneurs are aware of the next steps and possibilities opened as a result of the incorporation, as well as certain responsibilities, both for the company and the founders, such as reporting requirements to state and federal authorities, payment of corporate taxes and similar. It is achieved by having a thorough conversation about the client’s business, discussing various possibilities and assessing risks – based on the attorney’s experience.

Therefore, using an automated incorporation service when incorporating in the U.S. for the first time or overall being new to the corporate legal world might not be the best option – even though cutting the cost and, occasionally, time required for incorporation, founders may receive a set of documents that they do not entirely understand, with no clear guidance as to the company’s future.

Recommendations

In summary, despite the fact that automated incorporation provides many advantages, especially in case of entrepreneurs who are already familiar with the process and documents involved, our experience shows that the current automation solutions are not yet sophisticated enough to guarantee thorough analysis and addressing of the needs and concerns of each client. Thus, even though automated incorporation services definitely help cut cost in the very early stage of a business venture, it may be much more time consuming, costly and complicated to come back to the foundation of the company – the incorporation documents – and change them in case the corporation grows, attracts investment and it turns out that the process of incorporation was not done appropriately.