Delaware Flip!

The Nigerian venture capital space has seen a significant increase in check size and overall investment volume over the past few years, however, tech companies seeking venture capital investment and exit opportunities continue to incorporate in US states particularly Delaware. The Delaware flip has become a popular strategy among startups, particularly those seeking venture capital funding. It refers to the process in which a non-U.S. company restructures its corporate structure by forming a Delaware-incorporated parent company that holds the shares of the original foreign entity. In this article, we provided insights into Delaware flip and important things to note before you incorporate your startup in Delaware.

What is a Flip?

A flip is when a startup, already having a foreign holding company (HoldCo) in another jurisdiction decides to link the HoldCo to its operating company (OpCo) in its local jurisdiction by ensuring the foreign HoldCo owns majority or all of the shares in the local OpCo. Essentially, the shareholders of the OpCo transfer to the HoldCo or surrender their shares to the OpCo to reissue to the HoldCo. Thereby, creating a holding company and subsidiary structure.

Where no foreign entity or HoldCo already exists, a flip will involve incorporating a foreign Holdco (mostly in Delaware). In the same manner, shareholders in the OpCo will hold shares in the HoldCo, while the HoldCo will hold all or majority of the shares in the Operating company.

For example, if Founder A, Mrs Konk and Founder B own 35%,30% and 35% respectively in ‘BAC Tech’, a Nigerian company, their shares will be transferred to a newly incorporated Delaware entity called ‘BAC Inc’ while they will hold shares in the same proportion in the Delaware incorporated company. Founder A, Mrs Konk and Founder B will now own 35%, 30% and 35% shares in BAC Inc. while BAC Limited will be owned 100% by BAC Inc.

This indicates that all the shares in the local entity will be transferred to the newly incorporated foreign entity and create a wholly-owned subsidiary. Through this process, founders can raise funds with the parent company and operate services of the startup with the local entity. A Delaware Flip can be implemented through a Share swap, Business transfer, or merger of an existing foreign company with a wholly-owned subsidiary in Nigeria.

Why do startups Flip?

Delaware has the most comprehensive laws that ease the means of doing business, and it is the most popular jurisdiction to register/incorporate a company. It is the favorite among investors because the laws are predictable and certain even in complex situations. The rules of financing and governance of an incorporated startup, such as terms of preferred shares (a special class of shares with additional rights) and rules related to the voting rights of investors are predictable and very flexible.

Most startups flip to Delaware when they are approaching investors to raise fund, or when there is a possibility of hiring US employees and want to issue them equity as part of their compensation. Another instance is when a lead investor requires the startup to incorporate in Delaware before a funding commitment. Incorporating or flipping to Delaware is also very advantageous for companies looking to exit by going public or getting acquired by a US Company. Delaware offers both funding opportunities to founders and great exit opportunities than other jurisdictions.

Few things to note about Delaware Flip

• The financial reporting year in the US runs from January until December, so a flip is advisable to be done at the start of a new year. It will save the cost of financial statements and a few thousand dollars in accounting fees, filing fees and franchise tax payments.
• If the flip is needed for an operational expansion into the US, it is easier to set up a subsidiary entity. A US operating company can be created to expand into the US without a need for a parent company. It is advised to have a subsidiary, which is a company below the existing legal entity. This has different legal and tax risks from a Delaware flip

Disclaimer

Please note that this is for general information and should in no way be construed or relied on as legal advice. Do contact us (email or DM) should you require specific legal advice/assistance on this subject matter.

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