Governance, Fiduciary Duties & Board Hygiene
Best Practices Before an Acquisition: Don't Forget to CYA the File, Founders
There's a steep cliff between seed and Series A, and it produces more distressed sales than most founders expect.
During the 2021 boom, roughly 50% to 60% of seed-backed startups successfully graduated to a Series A. Today, the market has dramatically tightened, and anecdotally, we’re seeing 1/4 or 1/3 of seed-backed startups successfully make it to Series A if they’ve raised $3-4M in SAFE note financing only. Usually for companies that raised $3-4M in SAFEs, they’ve built something real and marketable — an IP portfolio, some customers, real founder expertise, but maybe for reasons out of their control, couldn't graduate to a priced round.
The most common exit at this stage is an asset sale plus an acquihire, which is fast and relatively simple to execute. The catch is that some of these companies did not purchase D&O insurance yet so founders have zero cushion if they're later accused of breaching their fiduciary duties in how they handled the sale.
For those who did purchase a baseline $1M D&O insurance policy (if mandated by their seed investors), those basic limits are easily drained by legal defense fees if founders are later accused by disgruntled common shareholders or wiped-out SAFE holders of breaching their fiduciary duties during the sale.
That makes process the whole game:
1. Engage a qualified financial professional (examples: CPA firms, business brokers, or bankers are common professionals our clients talk with) early to establish a real fair-market-value benchmarks.
2. Document every alternative you actually considered and discussed during Board meetings, whether that's a bridge round, another priced round financing attempt, or other buyers who fell through.
3. Where possible, get a fully informed, un-coerced disinterested stockholder vote approving the deal — that alone can shift legal review back to the deferential business judgment rule instead of the much tougher entire fairness standard.
4. Confirm your charter's exculpation provision is actually in place, and that indemnification agreements are individually signed with each director and officer — don't assume bylaws alone will cover you, especially if there was an amendment that removed the standard indemnification provision.
5. Keep Board minutes contemporaneous and thorough — the evidence of good-faith, informed decision-making is ideally in the minutes showing real-time deliberation during the meeting, not a tidy story reconstructed after a demand letter shows up.
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Transcript:
Lindsey Mignano:
Hi everyone, Lindsey Mignano here. I've got Nicola here again with me to talk today about distress sales — something that happens more often than you think at seed. And by seed, we really mean a SAFE note seed.
It happens often to our clients. Let's say they raise three to four million in SAFE notes. They're doing okay for a while, but they just can't graduate to that priced round. Whether that's a Series Seed or a Series A. There is a steep cliff when we are looking at seed to a transition, and so there's quite a bit of distressed sales at the seed stage as a result.
They've definitely got something there: they've got an IP portfolio, they've got trademarks, they've got a platform as a service or a software as a service that has some customers, and they've got founders with know-how and expertise in that one area. So they've got something, and usually the most common type of acquisition we see at that stage is an asset sale plus acquihire, and that's relatively easy to accomplish and quick to accomplish.
But there are, of course, certain rigamarole that any startup has to go through when they're considering this process, right? Unfortunately, they don't have a D&O insurance usually at this stage — something that usually comes in, because it's so expensive, at Series A or above — so there's no D&O insurance just in case they somehow breach their fiduciary duties. They really want to be as careful as possible as a result.
So, what we normally see them do is engage a business broker pretty early on to help them develop an idea about what fair market value could be for this distressed sort of sale. They may consider a bunch of alternatives, like maybe not even a sale, and then of course document all of those different alternatives.
It could be a bridge round. It could be another venture round. It could be a number of different potential sales that fall through, but they're definitely documenting the record. And they're having similar conversations with their peers or their I bankers or their CPAs about how other people are structuring things and how much they're selling for.
Ideally, it's an independent financial adviser. I really love a CPA or an I banker who's helping with the sale, or a business broker who's helping with the sale, who's giving them an idea of what the market can bear and documenting that. So, that's something that we see them do quite often. I think there are also some legal things they should be doing. And I've got Nicola here to talk a little bit more about what are those items that we can do from a corporate housekeeping perspective just to make sure that no one breaches their fiduciary duties as a director and officer of this company, and to make sure that they can all cleanly exit and sell this IP, give whatever they can back to their shareholders. Nichola, go ahead.
Nichola Xani:
Yeah, absolutely. So, I would say first on the list would be to get a fully informed stockholder vote where you can.
So a properly informed, uncoerced stockholder vote approving the transaction can itself be cleansing, pushing review back to the deferential business judgment rule rather than entire fairness, is kind of what you get when you get the informed stockholder vote.
And you want to make sure that the proxy and information statement to stockholders discloses the material facts, including any board conflicts, so the vote is actually informed for these purposes.
And then you want to confirm exculpation and indemnification are actually in place. These are most likely already in your bylaws. Some of the incorporation companies actually provide this both in the bylaws and in the charter. So you just want to make sure that your charter has the expulation provision that shields directors from personal monetary liability for breach of the duty of care, though not for a breach of the duty of loyalty, bad faith, or intentional misconduct.
And you also want to confirm that indemnification agreements are actually signed with each director and officer individually. So, we help draft indemnification agreements all the time. You want to ensure that those are actually in place for when something like this comes up, and you don't want to just rely on the bylaws provisions that could theoretically be amended later.
And then lastly, you want to keep the board minutes contemporaneous and thorough. And the single biggest determinant of whether a court finds good-faith informed decision-making is whether the minutes actually show the deliberation happening in real time, not a tidy narrative reconstructed after the demand letter arrives.
Lindsey S. Mignano:
Yeah, usually most of our clients, as they're exploring different alternatives, whether it's a bridge round of financing or selling to multiple other parties in the past, they do document these things in their board meeting minutes so that in case it ever came up in the future that the directors were either lazy or self-interested in entering into the instant sale, they have a record of all the other things that they tried, right?
And so this is really just a matter of making sure that you're documenting, where you can, as much as you can, to protect your own self as a director and officer of the company from being accused of not doing a very good job in selling what you can at the highest price possible on the market.
IP Spinouts: Transferring IP to Raise Venture Capital
Founders: If you're moving IP between two Delaware C-corps and a director or officer has a material financial interest on both sides, treat it as a conflicted transaction — and focus as much on the process as the price.
This comes up often in IP spinouts: a startup company, usually formed as a Delaware C-Corp, builds a platform or software product, and some (but not all) of the people involved want to move that IP into a new Delaware C-corp to pursue venture funding for the product, while others remain with the original business. Because the same people may have interests in both entities, the transaction needs to be handled carefully under Delaware's conflicted-transaction rules. If the transferor is an LLC rather than a corporation, the corporate-side analysis is still important, but the LLC's own governing documents and applicable fiduciary-duty rules also need to be considered.
Here's the process we walk clients through:
First, disclose the conflict. Put the material facts concerning the relationships, the proposed transaction, the IP being transferred, and the consideration in front of the board before it acts.
Second, have the interested director recuse. Delaware's DGCL § 144 does not automatically invalidate a transaction merely because an interested director participates, and the statute permits certain interested directors to count toward a quorum. But recusal from the discussion and vote is generally the cleaner governance practice and helps demonstrate that the remaining directors exercised independent judgment.
Third, use the disinterested-director path where available. Under § 144, approval by the required disinterested directors can provide a statutory safe harbor. Importantly, Delaware law permits approval by a majority of disinterested directors even if those directors constitute less than a quorum; if a majority of the board is interested, the statute also contemplates approval by a committee of at least two disinterested directors.
Fourth, consider disinterested stockholder approval. For transactions not involving a controlling stockholder, an informed, uncoerced affirmative vote of a majority of the votes cast by disinterested stockholders can provide another statutory path. If a controlling stockholder is involved, however, additional rules apply.
Fifth, build a real record. Document what the board knew, what was disclosed, who recused, what alternatives were considered, how the consideration was determined, and why the board concluded the transaction was in the company's best interests. If the transaction is challenged later, that contemporaneous record can be critical evidence that the board understood the conflict and exercised independent judgment.
Finally, focus on fair terms — not just procedural compliance. Consider obtaining an independent valuation or other qualified third-party analysis of the IP's fair value so the board has a defensible basis for determining the consideration. In our experience, formal IP valuations can cost roughly $10,000 to $60,000 depending on the scope, complexity, and commercialization of the technology. That's real money, but it can be worthwhile when a founder, director, or other insider is moving valuable IP into a company in which they have an economic interest.
Once the valuation work is complete, counsel can use it — together with the board materials and other supporting analysis — to establish the consideration reflected in the asset purchase agreement and related IP assignments. The valuation report itself does not necessarily need to become part of the transaction agreement.
The goal isn't to create paperwork for paperwork's sake. It's to make sure that when insiders are on both sides of an IP spinout, the company can later show what was disclosed, who made the decision, what information they relied on, and why the deal made sense for the company.
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Transcript:
Nichola Xani:
So first and foremost, step one, full disclosure. Put every material fact about the relationship and the deal terms in front of the board or the relevant committee. nothing half disclosed now helps you later.
second recusal. Have the interested director step out of the deliberation and abstain from the vote, even though the new statute under Delaware section 144 is more forgiving of mere presence participation if disclosure was complete. Our recommendation is just to recuse yourself. Third step, get a disinterested majority. So if a majority of your board is genuinely independent on the transaction, have them approve it.
If your board is small and mostly insiders, so like common pre-series A, you may not have enough disinterested directors to make this route available. and you're in your example, Lindsey, party A from number one would have to vote on party A's side for that transaction. and then the fourth step, you want to consider a stockholder vote instead or in addition to the board vote.
so for early stage companies where the board is thin, an informed, uncoerced, disinterested stockholder approval is often the more reliable cleanse as is and is independently sufficient.
step number five, you want to document all of this contemporaneously. So board minutes should recite what was disclosed, that the interested director recused himself, that the basis for the disinterested director's approval, you know, whatever that may be, you want to make sure that's all documented. And the process is still what wins if later.
If a later dispute or acquires diligence team challenges the transaction. And then lastly, you want to still aim for fair term. So even with a clean procedural cleanse, it's great practice and relevant if the safe harbor is ever challenged or doesn't fully apply to be able to show that the deal was actually on arm's length.
and on commercially reasonable terms. So what we advise most of our clients at MLG is that you really want to get an IP valuation by a CPA to set the market terms, you know, to set the price for the IP for that IP portfolio changing hands.
Lindsey S. Mignano:
Price can vary quite a bit, folks. at smaller firms versus bigger firms, that's one variable. also, depending on how and whether the IP portfolio has been monetized or commercialized, that's also another variable that can make a difference. Our clients have paid anywhere from $10,000 to $60,000 for that IP valuation. So it is no small cost, but it is a great CYA to have in your back pocket as opposed to relying on your own number. Anyway.
This is something that comes up often. It is something that we see quite
You know, debated as far as whether or not to even get that IP valuation in light of cost, but our general recommendation is to go ahead and call your CPA valuation expert, whoever he or she or they may be, and get that papered. It usually comes as an IP valuation report, and then we as the counsel will prepare a business asset purchase agreement and attach the report as an exhibit. So again, something to do, something to consider when you're going through this process.
Good Governance Is a Financing and M&A Asset
Founders often think of corporate governance as paperwork that matters after the company becomes large.
In reality, governance affects financing, hiring, executive compensation, acquisitions, related-party transactions, and the company's ability to defend major decisions later.
The objective is not to turn a seed-stage company into a public company. It is to create a reliable process for making important decisions and preserving evidence of that process.
Know Who Has Authority to Decide
Start with the company's charter, bylaws, board composition, stockholder agreements, investor rights, voting arrangements, and applicable Delaware law.
For each major action, identify whether approval belongs to the board, stockholders, a particular class or series, or some combination.
Do not assume that because the founders agree, the company has taken the legally required action. Board and stockholder approvals should be documented through properly authorized meetings or written consents.
Fiduciary Duties: Care and Loyalty
Delaware directors generally owe fiduciary duties of care and loyalty to the corporation and its stockholders, subject to the structure of Delaware law and the company's governing documents.
The business judgment rule can provide substantial protection for informed, disinterested decisions made in good faith. But conflicts of interest and controlling-stockholder transactions can change the analysis.
The correct response to a potential conflict is not to assume that the board has automatically lost the business judgment rule. Instead, identify the conflict, understand the applicable statutory and common-law framework, and use the appropriate process.
Delaware's 2025 Section 144 Changes
Delaware amended Section 144 of the General Corporation Law in 2025, creating a more detailed statutory framework for certain interested-director and controlling-stockholder transactions and addressing independence, disinterestedness, and available protections.
That means older descriptions of Delaware law that simply say “interested transaction equals entire fairness” can be incomplete.
The governing statute, the transaction structure, the nature of the conflict, and the applicable approval process all matter. For a material related-party or controller transaction, the board should obtain advice on the current Delaware framework before choosing the approval path.
Board Minutes Are Evidence, Not a Magic Shield
Good board minutes should show that directors received the material information necessary to make the decision, considered the relevant alternatives, disclosed or addressed conflicts, and approved the action.
Minutes should be accurate and contemporaneous. They should not be drafted as advocacy briefs designed to manufacture a record after the fact.
The goal is a reliable corporate record—not a document that says “business judgment rule” as many times as possible.
Caremark and Oversight
Directors also have oversight responsibilities. A company should have a reasonable process for receiving information about material legal, financial, operational, and compliance risks.
Caremark litigation is highly fact-specific and generally involves allegations concerning serious oversight failures. The absence of a particular phrase in board minutes does not itself establish liability.
For startups, practical governance means identifying the company's material risks and making sure the board receives appropriate information about them.
Conflicts and Related-Party Transactions
When a director, officer, founder, or controlling stockholder has a personal financial interest in a transaction, slow down.
Identify the conflict, determine who is independent and disinterested, review the applicable statutory safe harbors and governing documents, and consider whether an independent committee, disinterested stockholder approval, or another protective process is appropriate.
The right process depends on the transaction and the current Delaware statutory and common-law framework.
Down Rounds, Mergers and Exit Decisions
Boards may face difficult decisions when a company is under financial pressure, raising a down round, or considering a sale.
Directors should evaluate the company's circumstances, contractual obligations, available alternatives, and the interests of the corporation and its equity holders under applicable Delaware law.
Preferred stockholders' contractual liquidation preferences should not simply be ignored in an exit analysis, nor should directors assume that common stockholders automatically have priority over contractual preferred rights. The board's duties and the company's contracts need to be analyzed together.
A Practical Board-Hygiene Checklist
For important decisions, ask:
Is the board properly constituted?
Does the board have authority to act?
Are the required approvals clear?
Has every material conflict been identified?
Are directors receiving adequate information?
Are interested directors appropriately handled?
Are the minutes accurate and contemporaneous?
Are stockholder approvals required?
Do investor or charter rights create additional consent requirements?
Are the company's governing documents consistent with the proposed action?
Bottom Line
Startup governance does not have to be complicated. It has to be deliberate.
A board that knows who has authority, identifies conflicts, receives the right information, and creates a reliable record of major decisions is better positioned for financing, M&A, and the unexpected disputes that come with a growing company.