Articles Posted in Business Entities

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Filing the initial and the biennial (every two years) Statement of Information recently became much easier for California limited liability companies (LLCs).  California LLCs can now file their Statements of Information online.  When filing a California limited liability company Statement of Information (SOI) on-line, filers can receive a free PDF copy of the filed SOI.

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The recent court case of Scafidi v. Hille No. 2014-CA-01261-SCT offers countless reminders for small business owners both experienced and novice about the importance of planning and documenting no matter what the relationship is between the parties involved. While there may be certain factors that may make it seem unnecessary to plan or develop managerial and operational strategies, this case highlights just how messy things can become no matter what the relationship is between the individuals. The overall message is to always plan ahead, document finances and other important information, and remember that when it comes to business, relationships should be set aside.

A Breakdown of the Case

Scafidi v. Hille centers on issues between a brother and sister who inherited a total of three family businesses. Due to the lack of proper planning, the funds were comingled, at one point one or both individuals were kept out of big decision-making processes, funds were not split properly and in the end this led to a huge upset between siblings and a lengthy court battle. The lack of formality in the operation of the business made the case complex and a battle that could have been completely avoided. In the end, each party was awarded a single business each and the third business was sold and funds were split. However, with some planning, not only could they both have been spared legal expenses and the stress associated with such a process, but they could have had three thriving businesses that each one could have benefited from. This case highlights the exact reasons why any business should hire a knowledgeable business attorney to assist with the process.

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Environmental consciousness is theory that has grown vastly over the years. From the rise in organic product use, to lobbying for full disclosure of products that contain GMOs, to the move of some states to mandate energy disclosures, environmental issues have come to forefront of many legislative sessions. It has been reported that the State of California emits greenhouse gas at an alarming rate every year. Due to the rapid growth in population in recent years, California is the second largest greenhouse gas emitting state in the US. Over 30% of that greenhouse gas release can be attributed to the production of electricity taking place in the state. In response to the harmful nature and after endless lobbying, Assembly Bill 802 was drafted. Assembly Bill 802 focuses on disclosure.

In an effort to closely monitor the problem and resolve the issue, mainly in commercial buildings, Assembly Bill 1103 was enacted in 2009. This bill requires those who own commercial properties to allow public utility companies to regularly collect energy consumption data. Additionally, the public utility companies disclose the data collected to potential purchasers, financial institutions providing loans, and even individuals looking to rent space in particular building. Although the bill was adopted in 2009, it did not go into effect until 2014 due to pushback. Response to the implementation of the new law was not positive, especially because there were no clear and concise guidelines or protocols regarding violations of the law.

Those who had been ordered to comply by disclosing information decided that the fine was worth disclosure. Disclosure of energy use could result in several adverse issues for the owner of the building. Due to the noncompliance of a majority of owners, Governor Brown introduced Assembly 802, a new piece of legislation that replaced AB 1103 and modified the process in which data was collected. Effective January 1, 2016, AB 802 provides that public utility companies will be tasked with maintaining energy consumption data for the last year for all buildings serviced by their company. The goal and purpose behind introduction of this new piece of legislation all lies with disclosure. Those who own buildings that produce energy at a high rate or fail to meet energy efficiency standards are given incentive to make the necessary repairs. By not doing so, they stand to lose potential buyers and tenants. With this new law their insufficiencies are public record and out there for anyone to assess.

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Two important bills passed recently by the California state legislature will become law on January 1, 2015. The first of these new business laws will affect what up to now has been called the Corporate Flexibility Act of 2011. The second bill standardizes the business entity filing process. If you may be affected by either of these new laws, it is important that you discuss them with an experienced California business law attorney.

Changes to What Was the Corporate Flexibility Act

Governor Brown signed the first of these bills into law on September 27, 2014. The bill is Senate Bill 1301. The first thing the new law does is change the name of the law. It will now be called the “Social Purpose Corporations Act.” It also changes the name of the type of corporation the Act authorizes to “social purpose corporation.” This type of corporation used to be called a “flexible purpose corporation.” A social purpose corporation is a corporation that has a designated purpose in its articles of incorporation.

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Starting your own business can be daunting. There can be a seemingly endless list of things you have to consider and decisions you have to make. One of those decisions is whether you are going to strike out with your own concept, or whether you are going to enter into a franchise agreement to become a part of a larger business that already has a proven track record. If you go the franchise route, you will have to sign a mostly binding franchise agreement–a sometimes long and sometimes quite complicated document that should be reviewed by an experienced lawyer. I say “mostly binding” because a California court held that one common part of these agreements is not enforceable in California.

Frango Grille USA Inc., v. Pepe’s Franchising Ltd.

The case in which the Court made this decision is Frango Grille USA Inc., v. Pepe’s Franchising Ltd. Pepe’s Franchising is a company from the United Kingdom that grants aspiring business people the right to operate and franchise Pepe’s restaurant. Last year, Pepe’s Franchising entered into such an agreement with Frango Grille which gave Frango Grille the right to operate Pepe’s restaurants in California. Then, this year Frango sent a letter to Pepe’s saying it wanted to end the agreement. Frango also sued Pepe’s in Los Angeles, making allegations that had to do with breaches of franchise law.

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In October, NetApp Inc. sued its rival, startup Nimble Storage Inc., in the U.S. District Court for the Northern District of California, alleging unfair competition, misappropriation of trade secrets, breach of contract, and five other counts related to the hiring by Nimble of former NetApp employees. NetApp accuses Nimble of recruiting its employees and encouraging them to steal confidential information, including sales materials, pricing models, and details about customers. According to the complaint, about 15 percent of Nimble’s employees — or 55 employees — and half of its executives are former NetApp employees. The suit was filed just weeks after Nimble filed to raise up to $150 million in an initial public offering. The company went public on December 13, and is led by former NetApp executive Suresh Vasudevan. Both Nimble and NetApp are in the business of providing data storage.

Startup Secrets

This lawsuit raises a very important issue for startups: Keeping secrets — particularly trade secrets — private. Startups should understand that there are four types of intellectual property that can and should be protected: (1) trademarks; (2) copyrights; (3) patents; and (4) trade secrets. A trademark is a word, phrase, symbol, and/or design that identifies and distinguishes the source of the goods of one party from those of others. Examples of trademarks include McDonald’s golden arches symbol. Figures or characters, such as Geico’s talking gecko, can also be a trademark. A copyright protects works of authorship, such as writings, music, and works of art that have been tangibly expressed. A patent is a limited duration property right relating to an invention, granted by the United States Patent and Trademark Office (PTO) in exchange for public disclosure of the invention (we have discussed patent trolls many times in previous articles). A trade secret is a formula, practice, process, design, instrument, pattern, or compilation of information which is not generally known or reasonably ascertainable, by which a business can obtain an economic advantage over competitors or customers. Examples of trade secrets include the recipe for Coca-Cola and KFC’s fried chicken. Both recipes are allegedly stored in secret safes and known only by a few select employees.

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Regardless of which political party you align yourself with, the Obama Administration’s October rollout of the Patient Protection and Affordable Care Act, commonly called the Affordable Care Act or Obamacare, was a disaster. The HealthCare.gov website was — and remains — overrun with traffic and technical glitches, and it appears that the number of Americans signing up for coverage is well below the number forecasted by the Administration. Six days ago, the Department of Health and Human Services Secretary Kathleen Sebelius announced an internal review of what happened and why, stating that the Inspector General for the Department would review what happened with the “flawed and simply unacceptable” launch of the website. The Department also released the latest enrollment figures, which shows a promising jump in sign ups during the month of November of 365,000, up from the 106,000 people who signed up in October.

The Affordable Care Act was signed into law by President Barack Obama on March 23, 2010. The goals of the Act are to (1) increase the quality and affordability of health insurance; (2) lower the uninsured rate by expanding public and private insurance coverage; and, (3) reduce the costs of healthcare for individuals and the government. Though there are many critics of the Act, including those who are opposed to specific provisions of the Act and the promised insurance reforms, and those who object to the way in which the Act was passed in 2010, it appears that one group of individuals may be applauding its implementation.

According to a report from the Robert Wood Johnson Foundation, the Urban Institute, and Georgetown University’s Health Policy Institute, the Affordable Care Act is expected to produce a significant increase in entrepreneurship. One of the major roadblocks to entrepreneurship in this country is difficulty obtaining health-insurance coverage on the open market. The report finds that because of the Affordable Care Act, the number of self-employed Americans will be 1.5 million higher in 2014 (an increase of 11 percent). Why? The Affordable Care Act means that access to quality, affordable health-insurance coverage is no longer tied to employment. The report finds strong evidence that without this barrier, the number of self-employed people in the United States will increase with “full implementation” of the Act and lead people to start their own businesses as self-employed entrepreneurs.

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Last month, we discussed why collaboration and sharing physical office space is particularly important to startups. See “The Essentials for Startups: High Speed Internet and a Collaborative Environment,” September 10, 2013. In that article, we noted that while many businesses have been started and run successfully from anywhere in the world, startups are more likely to succeed in an environment where employees and/or founders are able to meet and interact in person. Prime examples of this success include companies such as Google, Twitter, and Groupon. But, is it really necessary and feasible for startups to maintain all of their functions in-house? California-based oDesk, the world’s largest online workplace, is betting that startups will quickly see the financial advantages and growth possibilities of outsourcing many key business functions. On Monday, the company announced the launch of a startup accelerator partnership program called oDesk Upstarts. Startup or seed accelerators are for-profit startup incubators, that essentially take classes of startups made up of small teams and support them with funding, mentoring, and training for a specified period of time in exchange for equity in the startups. Accelerators are privately funded and tend to focus on mobile/internet startups. oDesk Upstarts is a “slate of partnerships with more than 20 global startup accelerators aimed at introducing even more high-growth, early stage companies to the prospect of on-demand labor.” The partners will offer free outsourced labor with the goal being training, coaching, and mentoring.

The idea is an interesting one, but will startups outsource their labor? While investors tend to shy away from startups that outsource core business functions, outsourcing labor may be the solution to two of the biggest problems facing startups: (1) shortage of talent, and (2) limited financial resources. oDesk contends that investors should not fear outsourcing, but rather embrace it. According to the company, outsourcing labor is an excellent bridge over the early growth phase of startups, and is not “a replacement for a company building its core team[, but] a solution for reaching scalability more quickly and doing so in a flexible manner.” oDesk hopes that startups will outsource more than just accounting and HR functions. The company hopes that startups will outsource development and content creation as well. We will have to wait and see if the idea takes hold.

Immigration Reform

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In California, a company can be suspended or forfeited by the Secretary of State (SOS) or the the Franchise Tax Board (FTB). The SOS usually suspends a corporation for improper filing. This usually occurs due to the failure to file the required Statement of Information and, when applicable, the required Statement by Common Interest Development Association. Under California law, a business is required to file a Statement of Information ever every year, or every other year. For your convenience, the business is usually sends a reminder post card about three month prior to the due date. You are also usually sent a delinquency letter if you miss the deadline, giving you and additional sixty days to get the statement filed, before your business is suspended. While the state does attempt to remind you of your filing date, it is still your responsibility as the business owner to submit your paperwork on time, and whether or not you have received the reminders has no bearing on this responsibility.

The FTB usually suspends a business either because the business failed to file one or more tax returns or the business failed to pay its balance. This balance can include the penalty incurred by not not filing your Statement of Information in a timely manner. This means a SOS suspension can also cause an FTB. Your business may be suspended by either the SOS, the FTB or both. It is your responsibility to check with both agencies when you try to revive your business.

If your business is suspended, it is important to revive it as soon as possible. You lose a lot of rights while suspended which can negatively effect your ability to both revive your business and run your business once revived. During suspension, the business loses its rights, powers, and privileges to conduct business in California. The business also loses the right to use its business name in California. This means that another business could register with the suspended or forfeited business’ name, and the name would then belong to the other business. This would require the original business owner to register a new business name before it can revive its business. The business cannot initiate lawsuits, defend itself against lawsuits, or enforce its legal contracts. But other parties can enforce their terms in these contracts. Also, if the business enters contracts while suspended or forfeited, it can never enforce those contracts unless it obtains relief of contract voidability.

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When starting a business, one thing that you need to think about is the type of business you would like to create. The most commonly known type of business is a called a corporations, but there are also other other types of businesses such as partnerships. And within each type of business, there are subsets, such general partnerships versus limited partnerships. Each title comes with a different set of responsibilities and liabilities. That is why it is important to look at each business options and figure out which options are best for your needs. Once you decide on a business type, you need to register it properly. An improper registration, can cause problems such as making you personally liable for your business transactions when that was not your intent or it can allow clients and vendors to cancel contracts. While there are some mistakes that are minor and fairly easy to fix, it will still be time consuming and often costly.

Take, for example, this California case where an improper registration almost cancelled the partial sale of a company. In this case, Howard and Jane Farnsworth bought John and Velma Dawson’s interests as limited partners in Nevada-Cal Management, Ltd. (“Nevada-Cal”). Nevada-Cal is a limited copartnership made up of bother limited and general partners. The Farnsworthes sued Nevada-Cal because after they purchased the Dawsons’ shares, they learned the limited partnership was not properly formed. Because the partnership was improperly formed, the Farnsworthes believed that the sale of the limited partnership interests were invalid, and therefore wanted their money back.

Under California law, at the time of this case, all companies were required to have a permit before they could sell security, which included partnership interests, without a permit. There were exceptions in place, but specifically for properly formed general and limited partnerships. In deciding this case, the judge not only looked to the relevant laws in place, but also to the intent of the writers of the law. The judge found that the purpose of the law was to protect the general public against scheming companies, not an individual in a private sale. In small sales, individuals have the ability to ask questions directly to the seller, or its representatives. When companies make securities available to the public, the public only has the public filings from the previous year and whatever the company divulges in the investment packet. If someone has a specific question, it is not guaranteed it will be answered. Requiring permits is one more way for the public to find out more information about a company on its own. Because of this, the judge decided in favor of the Dawsons, finding a permit unnecessary and making the sale valid.