Understanding the Delaware Flip: A Guide for International Startups Looking to Enter the U.S. Market
If you’re an international startup founder eyeing expansion into the U.S., you may have come across the term “Delaware flip.” It sounds technical, but don’t worry it’s actually quite straightforward. A Delaware flip is a strategic move where a non U.S. incorporated company establishes a new U.S. holding company, typically a Delaware C corporation, and “flips” itself above its existing structure. This process involves swapping shares between the original company and the new Delaware entity, ultimately forming a U.S. company that’s more attractive to investors.
But why consider a Delaware flip? And is it the right move for your startup? Let’s break down what a Delaware flip is, why many startups opt for it, and the factors you should weigh before proceeding.
What Is a Delaware Flip?
In essence, a Delaware flip is a structural reorganization. If your company is incorporated outside the U.S. say in the U.K., Germany, or elsewhere you can create a new U.S. based Delaware corporation and exchange shares. Assets, employees, and operations stay the same, but the company’s legal form shifts flipping from a foreign entity into a Delaware C corporation.
Most often, a Delaware flip is undertaken upon the advice or requirement of U.S. investors. Many venture capitalists and early stage investors prefer or even insist on investing in Delaware corporations. This is because Delaware offers a well established legal framework with a specialized court system (the Court of Chancery), a business friendly tax environment, and a familiarity that reduces legal risks.
Why Do So Many Startups Incorporate in Delaware?
Despite its small size, Delaware is home to more than a million business entities. The state’s appeal lies in its favorable business laws, tax benefits, and extensive legal precedents. Here are some highlights:
· Tax advantages: Delaware doesn’t levy corporate income tax on companies that don’t operate within the state. It also offers flexible tax treatment on stock ownership if the owner resides outside Delaware.
· Simple corporate requirements: Only one person (a Delaware Registered Agent) is needed to maintain a company there, and only one director is required to run the corporation streamlining setup.
· Legal stability: The Delaware Court of Chancery handles corporate disputes swiftly, with decades of case law providing certainty and predictability.
· Investor familiarity: Many U.S. venture capitalists are comfortable with Delaware corporations, easing capital raises and exits.
Is a Delaware Flip Right for You?
A Delaware flip isn’t a decision to take lightly. It’s often costly, with legal and accounting fees that can reach into the five or six figures, depending on your company’s structure and investment stages. For early stage startups without substantial funding commitments or U.S. investor interest, setting up a U.S. subsidiary might be a simpler alternative.
Typically, a Delaware flip makes sense if:
· You already have a foreign company but need a U.S. holding company to attract venture capital.
· Your investors specifically require a Delaware entity before committing funding.
· You’re planning multiple funding rounds and want to simplify legal procedures for future investors.
However, it’s vital to weigh the costs and complexities a flip can also carry U.S. tax implications, and reversing it (a “backflip”) can be challenging.
Do You Need a Delaware Flip Before Incorporating?
Not necessarily. If your goal is to expand into the U.S., you might consider incorporating directly in Delaware from the start, bypassing the need for a flip later. Starting as a Delaware C corporation can streamline your expansion process, especially if you anticipate raising U.S. based capital down the line.
How to Execute a Delaware Flip
While the specifics can vary, the most common process involves:
1. Incorporating in Delaware: You form a new Delaware corporation (e.g. “Your Company, Inc.”).
2. Shareholder agreement: Existing shareholders agree to exchange their shares in your foreign company for shares in the new Delaware entity typically on a pro-rata basis.
3. Ownership transfer: The foreign company becomes a wholly owned subsidiary of the Delaware corporation.
4. Share transfer: Shareholders receive their new shares, maintaining their ownership percentage.
This process results in a U.S. based company that’s more familiar to U.S. investors, with all the advantages Delaware offers.
Alternatives to a Delaware Flip
A full flip is just one way to establish a U.S. presence. Alternatives might include:
· Forming a U.S. subsidiary: Especially if you only need to hire U.S. employees or sell to U.S. customers.
· Engaging with investors: Sometimes, simply explaining your structure and the advantages of your existing setup can help secure investment without the expense of a flip.
Final Thoughts
A Delaware flip can be a powerful tool, but it’s not right for every startup. It’s often best to consult with specialist in this field. At In2America we’ve done the hard work for you and can introduce you to lawyers focused purely in this space and will provide you with the answers to your questions in a language you can understand.