Starting a Startup: Where to Start - Part 3: Division of Labor

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This series was written for you: the entrepreneur with a dream. We want to help you turn your dream into a thriving reality by sharing our expertise with you.

What follows is a series of articles outlining the basics you need in order to start a startup in Israel; it contains terms you need to know, steps you will have to take, and considerations to ponder when making choices about how to run and grow your company. We'll add a new chapter each week – so keep coming back for more! As always, we welcome your comments below.

If you missed Part 1 (Making it Official: Incorporation) or 2 (Who's Who and Who to Hire): - be sure to check it out here and here.
Otherwise, let's dive into Part 3 of this series: Division of Labor.

The Companies Law provides the basic rules regarding the division of labor in a company. Much like a government has a system of checks and balances in order to make sure no one branch takes too much power, a company has a hierarchical system that also serves to keep the company running smoothly.

The main purpose of your company is to benefit its stakeholders, and that essentially means: to make money for its shareholders. The people entrusted with that job are the board of directors and the CEO. Each of these "organs" has a different role, and these are clearly set out so no one steps on anyone else's toes.

It is important to note that each of the organs of the company owes certain duties of loyalty and/or fidelity to the company, whereby they are expected to act in the company's best interests. Assuming they adhere to their duties, companies many times procure directors and officers insurance (commonly known as "D&O Insurance") in order to protect the directors and CEO in case they get sued for something that happened while doing their jobs.

Shareholders. The shareholders' main job in the company is related to – you guessed it – shares (and specifically, their shares). Ownership of shares is identical to ownership of the company. Each share represents a piece of the company. And each share typically comes with one vote. So the higher percentage of the overall share capital a shareholder holds in a company, the more power he, she, or it has to direct the company. The power typically comes in the form of the right to appoint a director to the board of directors, veto rights regarding certain topics, and the right to protect your holdings in the company. The power to choose the company's external financial auditor also rests with the shareholders. Additionally, each share typically comes with the right to payment if the company has an exit, or if it distributes dividends. If the company shuts down, a shareholder's holdings determine its right to receive any pieces of the company available for distribution. These rights, together, grant the shareholders the ability to determine the fate of the company.

One more role the shareholders play is to keep the board of directors in check. For example, the board can't vote to pay themselves money and grant themselves options without the shareholders' approval as well. Whenever there is a potential conflict of interest between a director and a transaction, the shareholders are called upon to cast their votes as well.

The shareholders typically vote at a meeting or in a written resolution, circulated among the shareholders for signature. Since a written resolution without a meeting requires unanimous consent, the more shareholders a company has, the more likely it is to vote by meeting (which normally requires only a majority of votes of those shareholders attending the meeting, provided it was a legitimate meeting with at least a minimum number of attendees, otherwise known as a "quorum").

Board of Directors. The board of directors is composed of individuals appointed by the shareholders. Most often, at least one founder sits on the board, as well as investors (or their representatives). Occasionally, an industry expert will be appointed to the board as well. There are normally between one and seven directors on the board. Most often, the directors are not paid for their services (although they may be paid for other roles they play in the company, like CEO).

The board's function is to direct the company. It meets frequently to discuss and decide regarding the company's plans, budgets, signature rights, potential large transactions, investments, and equity allocations. Every year, the board must approve the company's audited financial statements, and then present them to the shareholders.

The board typically either votes at a meeting or in a written resolution, circulated among its members for signature. As with the shareholders, a written resolution without a meeting requires unanimous consent, so the more directors a company has, the more likely it is to vote by meeting (which normally requires only a majority of votes of those directors attending the meeting, provided it was a legitimate meeting with a proper quorum). As mentioned above, occasionally the board must refer its decisions to the shareholders, when a board member has a personal interest in the matter that is up for discussion.

CEO. The CEO, as discussed in a previous installment of the series, is the person in charge of running the company on a day-to-day basis. The board typically appoints the CEO, and authorizes the CEO to carry out its decisions on its behalf. For example, if the board decides ("resolves", in legalese) that the company should raise money by the selling shares (an "issuance", in legalese) to a certain investor, it will authorize the CEO to sign the documents related to that transaction.

The CEO is typically the link between the company and the board, and the CEO is often the face of the company to the outside world. Many times, the CEO is the person entrusted to negotiate contracts on behalf of the company, hire employees, and sign checks.

The content of this article does not constitute legal advice.

Shira Teger is an associate in Yigal Arnon & Co.’s high-tech practice. In her previous incarnation (before choosing a life of law), Shira was a journalist.