Laura Bleyendaal, MBA, is an Entrepreneur Fellow at TREAT. Her background includes eight years of experience working in regulatory affairs for the DePuy Synthes companies of Johnson & Johnson where she focused on commercialization of spinal surgery medical devices. Laura received her MS in Regulatory Affairs from the Northeastern University College of Professional Studies and her MBA from Babson College.
If you are an entrepreneur working at commercializing a rehabilitative device or assistive technology, you may be thinking about forming your own business. There are a number of different structures a business can take, each of which carry different risks and benefits. At one end of the spectrum are some simpler low-cost structures, but these carry certain risks in the form of liability. At the other end of the spectrum the structures are more complex and expensive but they carry advantages in terms of ability to fundraise and limited liability. Also, keep in mind it is possible to convert from one structure to another over the life of a venture.
Figure 1. Spectrum of Business Structures
Starting at the left of Figure 1, the sole proprietorship is the simplest business structure form and maintain. The US Small Business Association describes this structure as a business owned and run by one individual with no distinction between the business and owner (i.e., no separate business entity is formed) [i]. The owner is entitled to all profits from the business (paying taxes as applicable including self-employment tax on the personal tax return). The owner is also responsible for all the business debts, losses, and liabilities which means they may be held personally liable for the debts and obligations of the business. If things go badly the owner will be required to pay off creditors.
If the business is owned by more than a single individual, the simplest business structure is a partnership. The partnership structure is similar to the sole proprietorship in that the profits and losses pass through to the partners and the partners may be held personally liable for the debts and obligations of the partnership. There are different forms of partnership including general and limited partnerships. In a general partnership (unless otherwise specified in the agreement) all partners can participate in management of the partnership and all are personally liable [ii]. In a limited partnership there are two distinct roles: the general partners who have control and personal liability, and the limited partners who have supplied capital to the partnership and whose liability is limited to their contribution [ii]. A disadvantage to the partnership structure is the potential for conflict between the partners. A good partnership agreement can help resolve conflicts and determine the circumstances under which the partnership can dissolve along with the division of remaining assets.
The limited liability company or LLC is the first of several structures that exist as a separate entity from their members. The advantage of an LLC is it has the tax benefits of a partnership (no corporate taxes) but all the members of an LLC have limited liability [iii]. The LLC can either be managed by its members or by managers [iii]. Drawbacks to the LLC structure include intricacies around new members joining or members leaving the LLC [iii]. If desired, it is possible to convert an LLC to a corporation [iii].
Next are the corporate structures; the S corporation, C corporation, and B corporation. Like the LLC, the corporations exist as a separate entity from their shareholders. The corporation carries out business under its name. The shareholders are not liable for the corporate debts and the officers and directors have no personal liability for their corporate actsii. In terms of drawbacks, the corporation structures carry more requirements around reporting and operational governance processes, for example, adopting written bylaws, electing a board of directors, and holding annual meetings[iii].
The key advantage of the S corporation in particular is it is not subject to corporate taxes. The shareholders report the business profits and losses on their personal tax returns [ii]. The S corporation is also unique in that it is limited to 100 shareholders who must all be US citizens [ii].
In contrast to the S corporation, the C corporation is subject to corporate taxes. The C corporation must pay tax on its profits and shareholders must pay tax on dividends received from the company on their personal tax returns [iii]. With a C corporation structure a key benefit is that it is possible to raise capital through the sale of stock and the shares are freely transferable [iii]. The C corporation structure is a good starting point for an entity with a goal of reaching an initial public offering.
The B or benefit corporation is a relatively new corporation structure established in some states [iv][v]. The B corporation is for profit and is subject to corporate tax like the C corporation. The difference is a B corporation is accountable for some general public benefit mission in addition to a financial profit [iv]. In some states a B corporation must designate a benefit director or officer that prepares and submits an annual benefit report to shareholders [iv].
What business structure is most common for new product ventures in the world of rehabilitative and assistive technology? The participants enrolled in TREAT’s current Spring 2020 Commercialization Advancement Cohort provide a data point. In the cohort thirteen individuals/teams are developing their product through a business with an LLC structure and sixteen are developing their product through a business with a corporation structure and one through a sole proprietorship. Additionally, a number of individuals/teams have not yet established a formal business entity.
Certain stages of the TREAT methodology (shown in Figure 2) align better with different business structures. For example, a very early stage assistive technology venture that is in the ideation phase or early in the technology and market assessment phase (performing customer discovery and drafting market requirements) may not even need a formal business structure yet. As the venture starts to think about business model development and fundraising, a formal business structure becomes key. In order to earn a grant, like a Small Business Innovation Research (SBIR) grant, the entrepreneur has to have a formal business structure. If the ability to fundraise by selling stock is key to the business plan, a corporate structure may be necessary. As the venture starts to engage in activities like signing contracts to engage services of 3rd party test houses or contract manufacturers (in the product design & validation phase) the liability offered by the LLC or corporation structures may be desirable.
Figure 2. TREAT Commercialization Methodology
Ultimately, different structures will make sense for different businesses at different stages. The entrepreneur must weigh the considerations of cost, simplicity, liability and ability to raise capital in deciding among the different structures. For further information on business formation your local small business administration office is a great resource (https://www.sba.gov/).
To learn more about personalized assistance in commercializing your rehabilitative or assistive technology, contact Simbex at firstname.lastname@example.org.
[ii] Burks J, Lehmann R. Financing Your Small Business: From SBA Loans and Credit Cards to Common Stock and Partnership Interests. Naperville, Illinois: Sourcebooks, Inc; 2006.
[iii] The Limited Liability Company Handbook. A Comprehensive Look at the LLC for Business Owners and Legal Professionals. CT Corporation; 2018. Accessed at: https://ct.wolterskluwer.com/sites/default/files/The_LLC_Handbook_2018.pdf.
[iv] Lincoln SC, Ellman AM. Benefit Corporations Have Arrived in Massachusetts. Business Transactions Newsletter. Boston Bar Association website https://bostonbar.org/sections-forums/sections/business-transactions/business-transactions-newsletter/2013/01/11/benefit-corporations-have-arrived-in-massachusetts. January 11, 2013. Accessed May 8, 2020.
[v] Note that as Lincoln and Ellman describe in their article [iv] , benefit corporations should not be confused with B corps which are for-profit companies of a variety of structures that have been certified as B (for Beneficial) corps by B Lab, an non-profit entity.