The Shaky 'Handshake' Equity Split
One of the first things a lawyer looks at is the founder agreement, and they are often shocked to find it doesn't exist. Founders, high on optimism, might agree to a 50/50 split on a napkin, but this informal approach is a time bomb. Lawyers want to see
a formal agreement that includes vesting schedules, typically over four years with a one-year cliff. This ensures that if a founder leaves early, they don't walk away with a huge chunk of the company for minimal work. Without vesting, you create a 'dead equity' problem on your capitalization table that can spook investors who want to see that equity is being used to incentivize people who are actively building the business.
Intellectual Property Left Behind
A startup's most valuable asset is often its intellectual property (IP)—the code, the design, the secret sauce. A huge red flag is when that IP hasn't been formally transferred to the company. This happens when founders build a prototype before incorporating and never sign documents assigning that pre-existing work to the new entity. It also happens with freelancers and contractors. Without an IP assignment agreement, that developer who built your app might legally own the code they wrote. During due diligence for funding or an acquisition, investors will demand to see a clean 'chain of title' proving the company owns 100% of its assets. An IP gap can kill a deal.
A Messy, Confusing Cap Table
The capitalization table, or cap table, is the single source of truth for who owns what in your company. Lawyers often find that early-stage startups are managing this on a dusty Excel spreadsheet that's riddled with errors. Common mistakes include issuing shares without board approval, promising equity to advisors in an email but never documenting it, or failing to update the table after a founder leaves. A messy cap table signals disorganization to investors and can derail a funding round as lawyers waste expensive time trying to reconstruct reality. It needs to be accurate and updated with every single equity transaction.
Ignoring Basic Corporate Formalities
Choosing the right business structure, like a Delaware C-Corp, is a standard move for venture-backed startups. However, many founders think the work stops after they file for incorporation. Lawyers look for signs that the company is being run like a real business, not a hobby. This means having bylaws or an operating agreement, holding board meetings (even if it's just the founders), and keeping minutes of major decisions. Failing to observe these formalities can create disputes over authority and, in a worst-case scenario, could allow a court to 'pierce the corporate veil', making the founders personally liable for the company's debts.
Misclassifying Workers and Dodging HR
To save money, many early startups hire people as 'consultants' or 'independent contractors' when they are truly functioning as employees. This is one of the most common and costly mistakes. Lawyers know that state and federal agencies have strict tests for determining worker classification, and getting it wrong can lead to massive fines, back taxes, and penalties. Another issue is failing to pay interns, which also carries significant legal and financial risk. These may seem like small operational details, but they signal a disregard for compliance that worries lawyers and investors alike.
