Company Wind Down

Startups are risky ventures. There is no guarantee of success. It is possible that an OCV company is unable to raise a successful Seed round and therefore needs to wind down (or otherwise needs to wind down the business).
In planning a company wind down, keep in mind that corporate officers have a fiduciary duty to the business and investors.

Company wind down

A company wind down refers to the process of closing down a business entity. This process typically involves the selling off of assets and the distribution of proceeds to creditors and shareholders. The reasons for a company wind down can vary and may include bankruptcy, insolvency, or simply a strategic decision to exit a market or industry. In the case of an early stage startup, the inability to demonstrate product-market-fit is likely the primary reason.
The process of winding down a company can be complex, involving legal and financial considerations. It is important to follow the proper procedures to avoid legal issues and ensure that all parties are treated fairly.

Taking care of employees

One of the first steps in the wind down process is to notify employees of the company's closure. This should be done as soon as practical to allow employees time to find new employment opportunities. Termination agreements and payments may be offered to employees as part of the wind down process (also see below).

Taking care of customers

It is important for companies to communicate openly and honestly with their customers during a wind down process. Customers should be notified as soon as possible and provided with information on how their existing contracts or agreements will be impacted. It is advisable to work with customers to find alternative solutions or providers if possible. If refunds are owed to customers, they should be processed promptly and fairly. Open communication and transparency can help to minimize any negative impact on customers and maintain positive relationships for the future.
In general, it is advised to follow the termination notice provision of any contracts and, if possible, get confirmation from the counterparty of any amounts owed. If any amount involved were large, consider getting a release signed.

Creditors (debt and safe notes)

Creditors must also be notified of the company's closure and given the opportunity to file claims for any outstanding debts. The company's assets will be sold off in order to pay off these debts.
In a company wind down, holders of Simple Agreement for Future Equity (Safe) notes are typically treated as creditors. This means that they are entitled to receive any proceeds from the sale of the company's assets after all outstanding debts have been paid. However, because safes are not equity, they do not confer ownership in the company and do not entitle holders to any control or decision-making power. As such, being a holder of a safe alone may not alone confer a say in the decision to wind down the company or the terms of the wind down process. The company’s board which will have a direct input into decision making.
If the company has preferred shares, liquidation preferences for preferred shareholders are also treated as debt. Depending on the specific rights and preferences of the preferred shares, preferred shareholders may be entitled to a pro-rata of the residual proceeds in addition to their liquidation preference.

Shareholders (residuals, if any)

Once all debts have been paid, any remaining funds will be distributed to shareholders. If there are no remaining funds, the company will be officially dissolved and removed from any relevant registries.
In the context of an OCV startup wind down prior to Seed round, the likelihood of any residual available for common shareholder distribution is low.

Wind Down Process Checklist

Responsible individuals for wind down execution

  • Company CEO (or CTO)
Company will need to determine a reasonable coverage period for the CEO to carry out wind down activities.

Specific steps

  1. Internal announcement - employee notification
    1. Work with the company’s PEO and finance team to figure out termination-related statutory obligations such as:
      1. Contractors: termination notice-period (or payments in lieu of notice) + any other potential required payments
      2. Employees: termination notice-period (or payments in lieu of notice) + other required payments + healthcare obligations (if any)
      3. Notice periods may legally not be considered to have started until the preparation of legal documents has been completed and presented. There are limitations on the timing for PEO preparation of these documents but speed is also an important factor in how much the company may need to pay employees.
      4. The company’s PEO considers terminations of greater than 3 people to be “mass terminations” and will charge a consulting fee for helping facilitate the process.
    2. ⚠️ At a minimum, companies must satisfy all of the minimally required employee-related obligations at wind down. Otherwise, company officers will be personally liable.
    3. Additional consideration:
      1. If remaining cash balance (after statutory requirement above) allows for additional supplemental considerations such as a severance package, work with the finance team to create a proposal for reasonable additional supplemental considerations for board approval which is balanced with fiduciary duties to investors.
      2. Work with the PEO (and legal team where needed) to prepare termination agreements with a company release waiver or release of claims.
        1. A release of claims is a requirement for employees and contractors to receive any additional consideration beyond the company’s contractual obligations.
          1. Specific terms in the release may require additional legal review. For example, in the U.S., employees who are 40+, must be provided 21 days to consider the agreement (but do not need to be employed during that time), and then once signed, they have 7 days to revoke it before it becomes effective (in any group termination of 2+ employees as part of the same employment action, employees who are 40+ must be given 45 days to consider the agreement, instead of 21). Employees under age 40, only need to be given 5 business days to consider the agreement, and the agreement is effective immediately upon signature.
        2. The company’s PEO will prepare termination agreements (and release forms if applicable).
        3. In the event that the PEO does not have its own release of claim forms for U.S. contractors, use this template form. Additional consideration to contractors should be called “termination payment”, not “severance”.
        4. Severance is generally paid out within 10 days of the effective date, but it can also be structured as salary continuation and paid over-time. Work with the company’s PEO to determine a reasonable payment method.
      3. Consider having employees purchase their company laptop for a nominal amount for a nominal deduction from the total payments ($1) or returning their company laptop.
        1. Work with the PEO to ensure termination agreements reflect this.
        2. Ensure the removal of confidential information by overseeing a factory reset.
      4. Where the PEO also facilitates an employer of record (EoR) relationship, it is possible they will recommend an amount for additional consideration to ensure mutual termination (and prepare Mutual Termination Agreements or MTAs) for both themselves and for employees and avoid potential litigation in countries where risks associated with terminations are higher.
        1. Balancing fiduciary responsibilities with such requests should leverage appeals to employees' sense of fairness if total payments are high and not aligned with payments to others owing to their geographic location.
        2. The priority for the EoR is ensuring employees are comfortable with mutual termination terms and not any specific amount of consideration.
    4. On announcement day, host a company-wide session first, then schedule 1:1 conversations and deliver separation packages with MTAs (along with release forms if applicable).
      1. Recommended practice is to announce wind down after all the termination paperwork has been prepared so employees can review their separation agreements during 1:1 sessions.
      2. Consultation with local legal entities and legal teams partnered with the PEO platform may take some time to prepare legal documentation around separation. It may be necessary to have conversations with individual team members about their specific separation agreements as they become finalized which may lag relative to a wind down announcement.
      3. See additional details at Communication plan.
    5. Save termination paperwork and release of claims with the PEO and a designated company archive drive. There is a 6-year employee record retention requirement.
  1. External announcement - customer & vendor notification
    1. Timing on customer announcement should proceed when employees have been notified of the wind down and a plan is in place for ceasing operations. This is not necessarily when employees have signed termination agreements.
    2. Customer communication
      1. Basic criteria to include
        1. The date your business will close
        2. The manner in which you'll handle clients' orders until the close date
        3. Options for transferring clients' records to their offices or your competitors
        4. Competitors you recommend
      2. Draft announcement message to include customers:
        1. To [customer name], After [number of months] in business, [Company name] has decided to wind down operations and close the company. We can’t fully express our deep gratitude for your business and support. Our last effective day of operation with be [date of closure]. Until that date, your account will continue to operate as normal. Until then, we will be available to help you save or transfer any projects, assets, and data from the system. We’ve gathered a list of recommended [Company name] alternatives to help your transition: 1. Company A 2. Company B 3. Company C We kindly ask that any outstanding invoices are paid in full by [payment date]. Please get in touch with us at [contact] with any questions or comments. We’re committed to making this transition as smooth as possible for you. Sincerely, [Your name] [Title], [Company name]
    3. Vendor communication
      1. Basic criteria to include:
        1. Last date of service
        2. Quote any relevant sections of the contract termination clause
        3. If service was great, offer to write a recommendation
      2. Draft announcement for vendors
        1. To [vendor name] I’m writing this letter to formally inform you that [Company name] is shutting down effective [closure date], and we will no longer require services provided by [vendor name]. [Reference contract terms - these will either have the option to cancel before the expiration of the contract or be time-bound. If time bound, ask to end the contract at the end of the month of the company closure.] I want to express gratitude on behalf of [Company name] for the service [Vendor name] provided. I would be happy to give a positive testimonial as thanks for your great service. If you have questions, please contact me at [contact info]. Sincerely, [Your name] [Title], [Company name]
  1. Systems:
    1. On internal (employee) announcement day, have a process in place to turn off employee access to company systems and corporate cards.
      1. If employees opt to purchase their work laptops, reset the hard drive to remove all company data.
    2. Cancel all subscriptions and ongoing vendor contracts.
      1. Save files to the company shared drive for archive before shutting down third-party systems.
      2. Examples:
        1. Carta
    3. Essential systems should not be canceled until after legal dissolution has completed.
      1. Bank accounts
      2. Registered Agent
      3. Tax accounts
      4. Bill processing software
      5. Credit Cards
      6. Email Service Provider
  1. Operations wind down - TODO
  1. Legal: Dissolution Filing
    1. Work with the legal team to file dissolution paperwork in DE and CA (and any other registered states / jurisdictions). The process of preparing dissolution paperwork takes around 2-3 weeks in general. Cost ranges between $10,000 and $25,000.
      1. We generally opt for “short form” dissolution, which requires the company to pay or reserve for all current creditors and others whose claims will arise over the next 10 years. A thoughtful exercise should be conducted in assessing the likelihood any other claims arising, but the company is not required to keep a bank account open for 10 years. The assessment process is designed to ensure all creditors are identified and paid or reserves are established to cover them prior to distributions to shareholders.
      2. The alternative, “long form” option, involves the company sending written notices of the dissolution and running a formal claims process, with the potential for taking any disputes over claims or security for contingent claims to the Delaware Chancery Court.
    2. Delaware General Corporation Law, Code Section 278 Once the company files its Certificate of Dissolution, it is allowed to continue only for the purpose of “gradually to settle and close their business, to dispose of and convey their property, to discharge their liabilities and to distribute to their stockholders any remaining assets, but not for the purpose of continuing the business for which the corporation was organized”.
    3. See dissolution due diligence checklist here.
    4. Paperwork for signatures and procedures will be prepared by the legal team including:
      1. Board Consent: e-signature
        1. The board consent relating to the dissolution of a company will transfer titles over to the company’s sole Director. The title of President will be transferred to enable backup signing authority.
        2. The board consent can also outline the plan for dissolution of the company.
      2. Stockholder Consent: e-signature
        1. The stockholder consent will usually outline the plan for dissolution of the company.
        2. Part of the plan in dissolving the company will involve appointing a liquidation manager. This position will procedurally implement the plan for liquidation associated with the dissolution that has been outlined. The position of liquidation manager will usually be transferred to the company’s sole Director in order to ensure dissolution paperwork which can take a significant amount of time to fully wrap up can proceed without delay.
          1. There are some instances where the liquidation manager will need to exercise discretion around ambiguous items. In the rare scenarios where discretion in the decision making of a liquidation manager has a potential conflict of interest in assuming the role, this can be minimized through outlining the plan more explicitly in the consent to minimize ambiguity but in situations (though there can be practical complexity in implementing a consent to outline this in some instances).
      3. Consents for dissolution should take place after company business operations have ceased and the the company exists only to facilitate remaining steps for winding down.
      4. Delaware Certificate of Dissolution: e-signature; legal team will handle filing along with the Delaware Annual Tax Report via a Delaware filing agent.
        1. For companies which are based in DE, lingering cancellation (not dissolution) of registrations in any other states should be resolved prior to filing any DE dissolution as those cancellations may be contingent upon the persistence of the DE entity.
      5. (Current Year) Delaware Annual Tax Report: e-signature; include gross asset value; legal team will file this along with the Certificate of Dissolution via a Delaware filing agent. Legal team’s filing agent will advance the tax payment at the time of filing and include that amount in their invoice.
        1. By default, Delaware will calculate the franchise tax amount owed by using the authorized shares method which will result in a high tax burden for companies with a large number of shares.
          1. The default amount owed listed on the tax report is not necessarily what the company will owe via this method given that as the report is filed there is the option to choose between the two methods of tax payment.
          2. Calculating the DE franchise tax by the authorized shares method has a tax of:
            1. $175 for companies with a number of authorized shares of 5,000 or less
            2. $250 for companies with a number of authorized shares between 5,000 and 10,000
            3. $250 and $85 per additional 10,000 authorized shares for companies with a number of authorized shares above 10,000
        2. An estimate of gross assets will be used for determination of franchise tax amount via the assumed par value method.
          1. This method will usually be preferred to the authorized shares method as it is usually a couple of hundred dollars as opposed to usually thousands for the other method for early stage startups.
            1. Minimizing the gross assets of the company prior to filing this report is usually unnecessary.
      6. IRS 966 Form (also see Taxes section below) - once the Stockholder Consent is executed, work with the tax team to prepare and submit this form along with a signed copy of the Stockholder Consent. Form 966 is due within 30 days after the Stockholder Consent is fully executed. This form is informational to the IRS about the company’s intent to dissolve.
        1. The mailing of Form 966 is due within 30 days and filing to the IRS should be mailed via certified mail for proof of mailing date (receipt to be shared with the tax team). The form should be filed to the IRS office where the company pays its taxes.
          1. For OCV companies, the appropriate office for filing Form 966 will be
            1. Department of Treasury
              Internal Revenue Service
              Ogden, UT 84201-0002
      7. California Certificate of Surrender - manual ink signature required; send PDF copy to legal team and they will handle filing via filing agent after final tax returns have been filed with the IRS and California (as applicable).
        1. The filing of the Certificate of Surrender occurs at the end of the legal and tax dissolution process, when there are no remaining activities to conduct in California and the company has filed federal and state final tax returns (masked as “final”).
        2. Legal team will execute filing this when appropriate. It takes a couple of weeks to receive a file stamped copy back from CA SOS.
  1. Sale of other assets:
    1. An unlikely scenario prior to Seed round for OCV companies.
  1. Taxes:
    1. Work with tax team to ensure any tax filings for the prior tax year are wrapped up
    2. File Form 966 (Corporate Dissolution or Liquidation) within 30 days of filing dissolution paperwork (see above).
    3. Work with tax team to prepare and file final corporate income tax return (Form 1120) and payment(s)
      1. Final tax return fees would be around the same as a standard annual return
    4. Work with the tax team to prepare and file final state returns and payments.
    5. See IRS checklist here:
  1. Purchase “tail policy” business insurance (if applicable)
    1. A “run-off” or “tail policy” is an endorsement that goes onto the current D&O insurance policy. It protects directors and offers from personal financial exposure
    2. Premium tends to be ~1.5x annual insurance premium
    3. Additional information:
      1. https://www.thehortongroup.com/resources/tail-policies-101/
      2. https://woodruffsawyer.com/do-notebook/corporate-dissolutions-do-protection-considerations/
  1. Records retention:
    1. Follow guidance and requirements provided at: https://www.irs.gov/businesses/small-businesses-self-employed/closing-a-business
      1. As of November 2023, default retention period for OCV company files is 7 years.
      2. OCV will create an “Archive” drive for the company and move company files here for the required retention period.
    2. Required files checklist:
      1. Corporate legal documents (formation, dissolution, board consent, key contracts, etc.)
      2. Bank statements
      3. Employment tax records (from Company Payroll System)
      4. Equity documents (from CapTable Management System)
      5. Corporate expenses for IRS audit support (from Corporate Credit Card System and Bill Pay Process System).
      6. Back up of records and attachments from the Accounting System
  1. After all legal and tax items have been completed, ensure all remaining core systems are closed down and that all outstanding invoices representing credits to the company have been paid.
    1. It may be necessary to have certain filings or systems be fully paid off and finalized at a later date (e.g. 1099s for legal and tax teams) which are minimal and otherwise not processable quickly. These can be processed by the company’s controller at a later date with the necessary funds to cover this distributed via the company’s bank account (with a memo indicating the purpose) to the appropriate parties preemptively.
      1. Reminders will help ensure finalization of these closures
  1. After all credits have been satisfied the company will distribute remaining funds to shareholders via the company’s bank account (with a memo indicating the purpose).
  1. After funds have been distributed back to shareholders, the company can close down its bank account.