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Bylaws of Prophy Research Corporation

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Original Bylaws

 

(This is our original startup document. See Additions and changes to our bylaws (stockholders agreement) for updates.)

 

 

 

 

 

 

 

 

 

 

 

 

STOCKHOLDER'S AGREEMENT

&

BY-LAWS

 

 

PROPHY RESEARCH CORPORATION

 

 

June 10, 1991

 

 

 

 

 

 

 

 

Summary:

 

Your main right as a stockholder in this plan is to "vote with your pocketbook". You can sell your stock if you do not think it is a good deal, or buy more if you think it is. The Chief Executive Officer is going to run the company as he or she pleases. This includes setting the price of the stock. You may buy or sell at that price, with just a phone call in most cases.

 

 

 

 

 

Ray Grogan 1991


 

 

 

 

 

 

 

CONTENTS

 

 

Beginning stockholder's report

 

list of stockholders 1

balance sheet 2

 

 

 

Stockholder's Agreement

 

preamble 3-4

How the stock plan works 5-6

ownership

reports

stock market

price of stock

how I set price of stock

elections

 

company organization 7

temporary accounting 8-9

evolution of by-laws 10-11

changes in agreement 12

consent 12 (sign this page)

footnotes 3-20

 

 

 

 

 

 

 

(There is an extra page 12 for you to sign and return.)

 

 

 

 


Stockholders as of Feb 22, 1990


 

who $ value % of company

Goodwill[ ] shares:

Ray 136,000 27.2

 

Dr. F Glenn 20,000 4

 

Dr. D Glenn 20,000 4

 

Dr. Peebles 15,000 3

 

Mary Spreen 5,000 1

 

Jack Grogan, Sr. 2,000 .4


 

Mark and

Suzie Underwood 2,000 .4

Total goodwill 200,000 40

 

Hard assets:

 

Ray Grogan 10,000 (cash) 2

Total sold 210,000 42

 

Company owned 290,000 58

Totals $500,000 100%

(10,000 shares @ $50 ea)

 

 

 

The stock has zero par value, which makes the accounting more understandable:

 

Book value $ 10,000 (This is our only "real" money, Ray's 10K. This is also called paid in capital.)

Goodwill 200,000 (Our people are our real future and value!)

Total 210,000


BALANCE SHEET

Prophy Research Corporation

Jan 25, 1990

 

 

Company Assets:

1. All rights to the pending OptiDose dropper patent. ("Liquid Dispenser Calibrated by Body Weight", PCT application August 3, 1989, ID # 07435515.)

 

2. Cash and other assets exchanged for stock. (Right now this is the $10,000 Ray will use to open our company account.)

 

Company Liabilities:

 

1. None at start up.

 

 

 

 

Exclusions: These items are what the company does not own nor expect to own and are the private property of the company people (owners, managers, employees). Specifically not included in company assets are any claims on:

 

Any other inventions, past, current, or future, by company people. Even if an employee, on company time and in company facilities, has an invention, it will still be the sole private property of the inventor. (Our policy will be to encourage the inventor to take company stock in exchange for the rights to the invention, or to give us some goodwill shares in a new company formed to own the rights.)

 

Any contract for any services from any of the company people. All company people may resign at any time for any reason.

 

Any ownership or use agreements for the offices, libraries, or other facilities of the company people.

 

 

 

 

 

 

 

 

 

 

STOCKHOLDER'S AGREEMENT

 

(This agreement is in effect our by-laws, and we will all

agree to operate like this until changed by a majority of

shares. Read this and sign the last page.)

 

 

 

Preamble

 

Please keep the following in mind:

 

We are limited to 25 stockholders before we start getting into regulations that require expensive audits. We do not want to approach that limitation until we have been successful in our test marketing and are ready to go into whatever is the next major step in our financing.

 

The other limitations are common sense, that no one should risk anything unless they can well afford to lose it and all stockholders should have a good understanding of what we are doing.

 

 

 

All stockholders should understand the following three concepts:

 

1. The value of an R & D company is based almost solely on a successful product being developed. All the money raised will be spent trying to do that, and if none is found, there is no return to the stockholders. At any point, your stock is only worth as much as the future prospects of the company. There are no assets like real estate that will give your stock value in the event the company is dissolved.

 

 

2. If an R & D company does get lucky and finds a successful market niche, your share of that success will be very much diluted in order to raise the megabucks necessary to go full scale. You may own say 10% of the company while it is a research company, but end up with only 1 % of the company once it goes into production. Anytime more capital is brought into the company, your share of the total goes down. If you want to keep


your ownership proportion the same, you will have to come up with a proportionate share[1] of the new larger company.

3. The valuation of any company, any time, is a very inexact process. If you let it, it can also be a very time consuming and expensive process. Most stock systems have several layers of agents, regulators, and specialists between the stockholder and the company. The system I use has none of that, and none of the costs or benefits either.

 

 

 

 

 

 

Please understand the rules, and how they would affect you in good times and in bad times. In any R&D venture the chances of getting back absolutely nothing far overwhelm the chances of making a profit. In this particular venture, all we have is a pending patent that may never be granted, and may not have any value even if it is. There are many, many reasons why it will be very difficult to make money in the pharmaceutical business.

 

 

The essence of the stock plan is as follows:

 

Start-up. We all make contributions that start the company. These will be given a value by the CEO as they are put in. Then we add up all the contributions for the total value of our shared equity. All contributors own what ever share they put in, and, as we start, the value of those shares is the original value.

 

As we get going. What ever we do together as a company will change the value of our total, and therefore of the individual shares. The CEO will set a price for shares, and the rest of us may buy and sell shares at that price. For fairness, the CEO must offer to either buy or sell at the same price.

 

 

 

 

 

 

 


How the Stock Plan Works

 

 

Ownership.  All stockholders[2] must be approved by the CEO.  You may own as much or as little as you like.  Shares may be divided down to an even dollar's worth.  The CEO will keep track of who owns what, which will be published in the stockholders' reports along with all stock trades.

 

Reports.  All stockholders will receive all reports.  Access to company records will be allowed with a little notice.  If anything really big (good or bad) happens, no one will be allowed to buy or sell stock until everyone knows.

 

The Stock Market.  Shares of stock may be traded among approved owners for any price they agree on as long as the CEO is notified of the trade.  The usual way stock will be bought and sold will be through the CEO.  He/She will be responsible to keep personal liquid reserves for about 10% of the outstanding stock value[3] and be prepared to buy or place the remainder over approximately six months.  Having said this, no investors should place themselves in such a position that they would suffer if their stock was not as liquid as this seems.  Chances are, if something really bad happened to the company as a whole or to the CEO, you would be stuck. 

 

 

 

Price of the stock. Given normal conditions, the CEO will always quote a price per share at which he/she will personally[4] either buy or sell one share.  This is the most important feature of the plan. The easiest way to think of it is that it is like two kids splitting a candy bar: the first one splits the bar, the second one chooses. In this case, I am the one who splits the bar, and you choose. In other words, I set a price on the share, and you decide to buy it, sell it, or do nothing. (If you want, we may reverse the roles. You set a price and I will either buy one of your shares, sell you one of my shares, or do nothing. Either way, all three options must be open, and for only one share.) The advantages of this system are that it 1) forces fairness in the stock price, and 2) keeps the value current.  It also helps to keep your shares liquid, at least more so than any other small equity plan I have ever seen. The one share provision limits the CEO's exposure to a single transaction at any one time.  Then the CEO can move the price up or down for the next share.  Typically, when someone wants to buy or sell more than one share, a trade is made on a block basis, at an average price, and the trade goes like this: "I would like to buy 10 shares, how much?" I quote a price and the deal is done[5]. But, all I am committed to trade at a time is the one share and I will invoke that rule if I get boxed in. I will also close down the market if things get too tricky, and notify all the owners before resuming trading[6].

 

How I set the price of the stock. It is just my net opinion about the general future of the company.  If things are improving, and particularly if everyone seems to think so and is buying shares, I will be raising the price. Or if the opposite is true, and people are selling shares, then I will be lowering the price. Stockholders other than the CEO are welcome to "play the market" as this is good for us as long as it does not become a distraction.  The CEO does not profiteer in any way in the market, and in particular does not exploit the fact that he or she will obviously know more about what is happening than the average stockholder. Also, there are no fees or commissions on stock trades. (A small part of the CEO's salary is for running the market.) We all benefit from a healthy stock market, especially the CEO who owns plenty of stock.

 

Elections.  (This only concerns voting stock if we set up two classes.) The CEO will be elected more or less once a year, just for drill, and certainly any reasonable time a stockholder requests it. A simple majority of shares may replace the CEO on the spot.  The three biggest stockholders are automatically candidates for CEO[7].  Any other stockholder may run.  All candidates may put a reasonable amount of campaign notes, propaganda, etc. in the company reports[8].  Each share of stock gets a first choice and a second choice vote[9].  The majority of first choices wins.  The purpose of the second choice is to express confidence in other, perhaps future, leaders.  Up to 25% of our votes may be assigned by the CEO to outside interests, such as our largest customers, suppliers, and employees. These interests are critical to our company as a whole, and they should have a specific voice in our affairs[10].

 

 

 

 

 

 

 

 

 

 

 

 

 

 


COMPANY ORGANIZATION

 

The CEO (Chief Executive Officer) will be elected directly by the stockholders and will then manage the company as he or she decides. All other officers, directors, and managers will be appointed by the CEO and will serve at his or her pleasure. The CEO will be responsible for fulfilling all government obligations. In the event of incapacitation of the CEO, the vice president will assume immediate responsibility.

 

Our officers are:

 

Ray Grogan, 2464 Halelaau Pl

President (CEO), Treasurer, Honolulu, HI 96816

and Director

 

Dr. Darby Glenn

Vice President and Director 7741 S.W. 62nd Ave, 201

South Miami, FL 33143

 

Dr. Tom Peebles

Chairman of the Board One Brookline Place, 225

and Director Brookline, MA 02146

 

Mary Spreen

Secretary and Director 2464 Halelaau Pl

Honolulu, HI 96816

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 


TEMPORARY ACCOUNTING SYSTEM

 

 

A few notes about stock and taxes. The initial shares that are given to you for goodwill are not taxable[11] until you sell them. When you do sell them, they are taxable for the full sale price.

 

 

Work and taxes and stock. Once you start actually performing services for the company in exchange for stock, it is clearly income. Here is how we will be handling these issues now with our beginning system and low cash reserves.

 

(Eventually we will get a regular full accounting system and working capital in place. Until then, we will use a payroll service to process our paychecks. They will do all the withholding, etc.)

 

 

 

For now, all work will be for stock. Workers will also fund the working capital, about one third of the paycheck, for the withholding and fees.

 

So if you are due a paycheck of $1800, here is how it would work: You want to get credit for stock. You have to pay, with your own reserves, about $600 with your timecard to get your paycheck for about $1500. You get stock credit for contributing both your net paycheck (1500) and the 600 cash. (You may also later get some of your withholding back in your normal tax return.) So you put in a lot of work, plus $600 in cash, and get back stock that is (allegedly) worth $2100.

 

The companies total cost is the total, $2100. Our accounting would look something like this:

 

(assume we have a balance of at least 1500)

 

from you + 600

to payroll service - 2100

redeposit your paycheck + 1500

(which is now company

money in exchange for

your stock)

(the other transaction is a stock trade of 2100 from the company to you.)

 

 

 

(You can see how this little merry-go-round could quickly eat up our limited working capital even if we all worked for stock, but did not also provide the withholding. If we do take in some start up funds, we can drop this part, and maybe even be able to work for either cash or stock.)

We should always have a budget so that payrolls do not break us. For now let's say we can each work up a paycheck of $2,000 without any particular OK, but then turn it in before generating too much more.

 

There are some important balances to be made between the pay rates of each person, and also between the pay rates and other contributions, especially start up funds. I am setting my hourly rate (no salaries) at $30 per hour. If you are going to be doing company work, you are an employee. You should set your own rate, and have me agree to it, before you start working.

 

Once we start any accounting whatsoever, we will put out a stockholders report. Everything that is relevant to our internal balance is included, including pay rates.

 

Expenses. In the early phases it will be easier to use our paycheck to cover small expenses. I would rather make the pay a little higher and say that covers gas, postage, minor office expenses, etc. Bigger ticket items can be paid for and turned in for stock (or cash refund once we have any). For a budget let's use the $2,000 a person limit for now. I have never liked using a company to pay for personal entertaining, etc., even if it is really very clearly business. To me it is cheaper, easier, and better for all of us in many ways if we handle that area as a paycheck and a personal expense.

 

 

 

 

 

 

 

 

 

 

 


 

EVOLUTION OF BY-LAWS

 

 

As we grow and prosper many things will change, maybe very quickly. There may be a gradual shift to a traditional corporate structure. The major changes you should be ready for are:

 

The stockholders electing a board of directors (BOD), which in turn elects the CEO and corporate officers.

 

The BOD will in effect take over many of the current functions of the CEO, or at least supervise them, because the BOD can fire the CEO.

 

 

 

Generally, this change will occur as

 

1. We develop a team of directors. Please nominate candidates.

 

2. We develop ways to have "meetings" that do not cost a fortune in time on the part of the directors. Our directors live literally around the world, and most have active medical practices or other exacting careers. Even a co-ordinated conference call would be a serious commitment. For starters we might try a letter like this one, with room for comments on half the page. We can respond with either a new letter, or make written comments on the open side of the page. Then we need to figure out a way to get the comments around to everyone, and get some kind of give and take.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 


3. We develop a business size that justifies the management time and effort a more traditional structure requires. We should certainly re-evaluate our structure if we pass any of these milestones:

 

Sales of over $1 million per year.

 

Profits of over $100,000 per year.

 

Outside equity contributions of over $200,000. (People other than the CEO putting in equity other than goodwill.)

 

Company assets of over $500,000 (other than patent rights and goodwill).

 

Ownership becomes so dispersed that a meeting is necessary to include a majority of shares.

 

 

 

4. We are forced to in order to merge with a major corporation. They will probably not want to be bothered with having to learn a new set of rules. They are quite happy with the standard method, which is to give minority shareholders "statutory minimum" rights (that is what standard by-laws are), and, guess who gets to be the majority shareholder. A major challenge we will face will be to convince them that we will both be far better off with our system, but that may be impossible. We almost have to be allied with a major pharmaceutical. Indeed, that is our first order of business, and you may see this whole stock plan go poof right before your eyes. And you may have the pleasure of watching me eat my words and say being a minority stockholder under a standard format is not that bad!

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 


CHANGES IN THIS UNANIMOUS STOCKHOLDER'S AGREEMENT

 

This agreement may be changed at any time by a simple majority of shares. However, the "worst" the changes can be will be to the statutory minimum (standard bylaws).

 

 

CONSENT OF STOCKHOLDER

 

I agree to this stockholder's agreement until I no longer own stock or until the agreement is changed by a majority of shares. I fully realize that there are several provisions that give me less rights[12] than a standard stockholders agreement, and they are listed below. I specifically agree to these provisions, in consideration for the other benefits of our agreement.

 

1. To dispense with a required annual stockholder's meeting. We may or may not have a stockholder's meeting, but it is not required, nor is it required to get my permission each year not to have the meeting.

2. To dispense with a required annual stockholder's election, as above.

 

3. To empower the CEO to perform all duties normally performed by a board of directors, specifically

 

declaring dividends or other distributions,

making recommendations to stockholders,

nominating and appointing corporate officers,

amending by-laws,

approving a plan of merger,

selling the remainder of the company's start- up stock shares, and any other issues authorized by a majority of shares,

buying and selling the CEO's personal stock,

functioning as a stock market for our shares,

and in general having the power to set values on just about everything we each put into or take out of the company.

 

 

 

 

Signed by stockholder:

 

 

(J/T)

 

 

Date:


 

REFERENCES AND OTHER ENDNOTES

 

 



Justification for goodwill

 

 

 

Goodwill defined. Goodwill is used to describe a value that is real in an accounting sense, but cannot be described in normal accounting terms. If you look in accounting or financial textbooks, such as Brigham's "Financial Management"(1st ed.), page 752, you will see it used when someone buys a company for more than its book value: "Goodwill represents the excess paid for a firm over and above the appraised value of the physical assets purchased. Goodwill represents payment both for intangibles such as patents and also for organization value that might arise [for example] from having an effective sales force." We will be using it to describe the value of having a person in our organization. Bear in mind that we are starting from essentially nothing in a book value sense - just a still pending patent and a lot of dedication, which is why the values are as low as they are. I am not suggesting, for the first example, that my father's value to us will only be $2,000. Also, see the balance sheet to see what is included in goodwill. The company is only getting a small part of each of us, not everything we own.

 

 

Jack Grogan, Sr is my father. He is the most honest and fair man I have ever known, and is well liked and respected by all who know him. This was the key to his business success as city sales manager, McLean Trucking, Memphis TN. Here are two quick stories about how much his clients trusted him: They allowed him into their shipping books to have first dibs on their shipping business. The only condition was that it not cost the client more than what others would charge. This was back when trucking was regulated and all charged the same for straight through freight. The second sign of trust was his expense account. He had such a low expense account it caused him trouble. That is, he did not try to buy business, he just gave fair and honest service. When his company and department were taken over by others who used standard techniques, business left in droves.

 

 

Mark and Suzie Underwood have always been quick to recognize a good thing when they see it. They were my first fluoride "patients", and the start of my research phase. They were house mates when our daughter was born, and knew both of our kids were prenatal fluoride kids. They watched them eat gobs of candy over the years, and never have any dental caries. When they were expecting, they asked their OB about prenatal fluoride. They were told no, and asked for my help. I found two articles for their doctor, who then quickly changed her mind. As luck would have it, these two papers turned out to be the foundations of the science, and are discussed a little later. Suzie has a B ed in early childhood education and a real gift with kids. Mark has a PhD in geology and is a good teacher in computer work.

 

 

 

Mary Spreen is my wife. She brings an MBA and experience in both national sales (Xerox) and university administration (UH TIM, asst dean). We first read a small story about Dr. Glenn when she was expecting our first child. She joined me in our first prenatal fluoride experiment, our own kids.

 

 

Dr. Tom Peebles is the world's leading authority in our first area of business, infant doses of fluoride. His work was one of the first articles I read and is by far the most widely cited article in the literature on the balance between just right and too much infant fluoride. It was the basis of the most recent changes in doses by the American Academy of Pediatrics (AAP).

 

Drs. Frances and Darby Glenn are the world's leading authorities in prenatal fluoride. Their work was the first article I read and is the basis for all of the recent interest in this field. They are excellent and famous teachers in fluoride science. They have extensive clinical experience in prescribing infant fluoride in combination with both other primary sources, fluoridated water and their prenatal fluoride.

 

Ray Grogan (That's me.) I have the largest share of the goodwill because our first invention (device to use body weight as the basis for doses) was my invention. Another value that I bring to the group is a fair training in science and business (BS, MBA), and I have spent almost four years of intensive study specifically in our area of science and business. The thing that I have that is the hardest to value, but is what I think my true value is, is this: from the moment I first read about the doctors listed above I have wanted to use my skills and resources to bring their ideas into the mainstream. I am resolved to do this by creating an extremely profitable business.

 

 

 

(If you would like a copy of any of the many articles by the Drs. Glenn or Peebles, or about anything, just ask. As a stockholder you are also welcome to a little free medical advice about fluoride during pregnancy and infancy. Our company reports will mostly be about business, although you may find a few tips in them.)

 

 

 

 

 

 

 

 

 

 

 

 

[1]. Preemptive rights. You have the right to maintain your percentage, as long as you can afford it. When we authorize a new issue of stock, you have first rights on whatever percent of it that you now own. If the issue is not completely sold, like right now, everyone can just buy and sell as they please, and the relative percentages will change. Ditto when people buy or sell stock from the CEO.

[2]. Corporate owners. If our stock is owned by a company, the CEO will treat whoever it is we deal with as if they were the owner. We will assume this person is empowered by their own company to be buying and selling in behalf of their company. If our company owns stock of other companies, our CEO will act in our behalf.

 

[3]. Liquid reserves for stock market. By shares outstanding I mean shares that I do not own. In the present case, this would be:

 

Total shares sold now: $210,000

Less my shares -136,000

-10,000

Shares outstanding 74,000

10% of this is $7,400

 

So I am required to maintain $7,400 of my own instantly liquid reserves to buy back shares. This may be in cash, cash equivalents like CD's or securities, or in an unused line of credit such as a home equity account.

 

I may ask large, independently wealthy, stockholders to release me from this requirement for their shares.

[4]. Shares that are traded. By personally I mean my own shares, not company shares, and with my own money, not company money. The whole point of this rule is to force me to put my money where my mouth is. The exception to this is when we have a large block of company owned stock such as right now. In this case I will be selling company shares instead of my own. Indeed, I may be buying them myself for either personal investment or if the company needs the money. (My purchases will be at the same price as everyone else's; see the discussions below about insider trading.) However, the CEO can never sell his or her shares to the company, nor have the company buy shares from others. (Well, there might be some reason, so let's say never without the express permission of the majority of shares other than his or her own shares.)

[5]. Oral instructions. Note that we will buy and sell stock with nothing more than a conversation. I will write a note for my accounting. If you want a written receipt I will gladly give you one. We do not have printed stock certificates, etc. Your next stockholder's report will list what you bought or sold, and what you now own, and that is your record. If you see I made a mistake, I will correct it if I have some memory or record of it. Please help me by keeping your own records and by letting me know if the report is wrong.

[6]. Trading of stock when it is apparent something is brewing. Let's first use an example from my fantasies. Let's say Mead does want to license the patent, and does want to buy the stock that is set aside for them, 10% of the company for $50,000. (This is at our current price of $50 per share.) The closing of this deal is of course major news, and the market would be closed while everyone was notified. Let us presume many of us decide to purchase more shares ourselves because of this good news. I would take all of the "buy" orders and treat them equally and sell them all at the same price, let's say $60 a share, and then reopen the market at that price. If some people continued to want to buy shares, and our forecasts looked reasonable, I would keep raising the price per share, and keep the market open as long as the blocks were of reasonable size. These later stock trades would not be considered unusual, and would just be reported in the regular monthly stockholders report.

 

Now let's use an example of bad times. Things are not going great and we are all low on funds and confidence. Our stock price is actually still fairly high, because we are all sort of bravely hanging on. (The price usually doesn't change unless someone wants to buy or sell, and usually in this situation no one wants to make things worse by selling, and certainly no one wants to buy.) I am so low on funds I can barely cover the 10% liquidity rule. All of a sudden one of us has an emergency that requires him to sell a big chunk of stock, that would wipe out my reserves. I would have to close the market and do something. The guy that had to sell would get a very low price per share for his block, that was low enough to reflect how bad things were going already, and to some degree reflecting the fact that the rest of us would be stuck with stock that no longer had any liquidity. If the lack of liquidity spooked others into selling, the price per share could be as low as the reserves divided by all the shares for sale. If all shares outstanding were to be sold, that would be about ten cents on the dollar.

 

The point of these examples is that the rules are set up such that nobody gets special privileges to buy or sell large blocks unfairly.

 

[7]. Yikes, responsibility! If you are one of the three biggies, you can weasel out of this, and the next guy down gets on the hot seat. For example, Dr. Frances Glenn has convinced me that she really does not want to give up 25 years of "commercial virginity", even for us. So if we had an election today, the candidates would be myself, Dr. Darby Glenn, and Dr. Tom Peebles. (I can hear them screaming.) The point of this rule is not to terrorize everyone with a lot of responsibility they don't want, although it may seem that way. The idea is to make it painless to run against even a well entrenched CEO, and that has a multitude of advantages. First of all, it will tend to keep the CEO from making the salary and perks excessively lucrative. It also gives us, at least in this case, two very reasonable candidates who could do a splendid job of running our company.

[8]. Propaganda in reports. In our "free press" you can also just express dissident views. The reports will also note all requests for an election, even if there was not enough support for one.

[9]. The votes are reported. Hardly a secret ballot, which does have advantages, but here is why. We can all see who is voting for whom, which will tell us if anyone is dissatisfied with the CEO, which could be very important information. Also, if you are the dissatisfied voter, you really get to express yourself, and perhaps even find kindred spirits. You can also check for accuracy, cheaply, whereas secret ballots would require more elaborate measures to prevent rigging. This system may need a little more evolution, perhaps each vote could also have a rating, say 1 to 10, so you could still vote for the guy but express room for improvement. Comments?

[10]. Votes for outside interests. This may seem like a highly unusual provision, but it is similar to getting endorsements, etc, just more direct. It is also similar to many companies that are owned in part by employee groups. If you have business experience, I think you will see what I am driving at by giving these outside interests voting power. All three of these, employees, customers, and suppliers, are absolutely critical to the company. Every move the CEO makes affects the balance between all interests. If the CEO is not being reasonable to these groups, in the long run we will pay for that. We should see it, in the form of losing votes, if there is some imbalance festering. For example, if the employees are being shafted, then they can vote against the CEO. Since the votes are recorded, this will be as plain as day in the election report.

 

Here is how the mechanics go: We now have 10,000 shares, or votes. We could create say 3000 extra votes and still be within the 25% rule. (3000/13000 = 23%). So we do it something like this:

 

employees: 1000 votes (then this gets further divided, like to the three biggest employees according to number of hours, or paychecks or something)

 

customers: 1000 votes (same thing, say divided amongst the 3 biggest customers)

 

suppliers: 1000 votes (ditto)

 

 

[11]. Taxes. These are called section 351 shares, and essentially this is because nothing taxable has occurred. It is the same as if you incorporated yourself and declared your corporation to be worth a million dollars. However, once you sell or otherwise "realize" this income, it is reportable and taxable then. From the company's point of view, it is the same. If we turn around and sell the patent rights for a million, we will have to pay taxes on the full amount. If you (or your accountant) would like a more detailed explanation, see "Federal Taxation of Corporations", Kramer 1989, Prentice-Hall, chapter 2, esp pages 32 and 37.

 

 

[12]. STOCKHOLDER'S RIGHTS

 

To a large degree, by signing this unanimous agreement we are giving up the traditional rights of minority stockholders. I would like to make the case that in exchange we are getting a far better system, and, therefore, greater rights.

 

This should already be quite clear from everything you have seen so far. If you are not 100% sure that this system is the best for you and for all of us together, please tell me now. If you need outside advice, you might first try your library, or better, a university bookstore that has business courses. Another source is friends or relatives with business experience. It is OK to show others our business plans and other confidential items if there is good reason, although try to avoid people with major connections in the pharmaceutical business. If you have a good attorney or CPA who helps you with business, ask them. Another interesting source might be your local business arbitration council. They deal with after-the-fact horror stories daily.

 

 

 

 

 

 

Traditional rights. I do not think any of us would have to look far in our circle of friends or family to find someone who has been shafted as a traditional minority stockholder in a small business. The fundamental problem is that once your money is in, you can not get it back without expensive court proceedings. Given this, all of your other rights are meaningless. The only rights you had anyway were the right to elect directors, and to have an annual meeting. Since the majority of shares elects the majority of the directors who in turn rule the company, this right is pointless. Since the meeting may be either canceled or reduced to you sitting across the table from a bored CEO with a stack of proxies that outvote you, this is equally pointless. Not only do minority shares get shafted for the entire course of the company, but when a company with this system is sold, it is common to give one price for the majority shares and a lower price for the minority shares. This system is so bad I would have a real hard time asking you to take such a position. I have never known a soul who had a good outcome as a pure minority stockholder in a small business. (Of course I have seen it work out fine to be primarily an employee and also got a few shares as a benefit.)

 

The biggest disadvantage of the standard format is that it encourages brain drain. Many small companies never grow because their equity system is so inflexible and exploitative that potentially great partners are lost.

 

 

 

 

Your rights in my system. Let's face it, with one percent of my company you are not going to run the company in this system either. However, the primary difference is that if you do not like the way things are being run you can sell out, very easily, and with no penalty, and at a price that is as fair as possible. That one right, even though it is limited in many ways, is more meaningful than any other minority right.

 

I also like our election system far more than just electing a board or voting by proxy.

 

 

 

 

 

 

 

 

 

 

 

 

I think we would all enjoy a board meeting, and we would actually get a lot done. As soon as it is reasonable we will do so, and all of us will be welcome to attend, of course. My only problem is with requiring it, every year, with all the quorums, proxies, etc, just to keep on doing what we are doing. It can make simple corporate housekeeping a major trouble and expense, and we just do not need it.

 

The real question for us is this: Is this system the best to attract, develop, and keep good talent? If you have any improvements in the system from that point of view, please let me know.

 

 

 

(There have been some changes to bylaws. As of 12-17-04 they are in a file and web page called something like Additions and changes to our bylaws (stockholders agreement). By then I had added Stock clubs, Til death do us part, and Dissolution.)

 

 

On to next page (Additions and changes to our bylaws)