Starting up your own venture brings whole lot of excitement, thrill and also, challenges. Amongst the several challenges that startups face, getting stuck in legal issues is a big one. In this story, we interact with a legal expert, Advocate Nitish Banka from Lexspeak.in and find out what are the common legal mistakes that startups do and how they can avoid such situations. As lawyers and venture capitalists involved with startups, we’ve seen lots of valid mistakes made by entrepreneurs and startup companies. The following are a few of the very common and problematic startup legal mistakes we’ve seen.
Not Making the Deal Clear with Co-Founders – Startup Legal Mistakes
Often, amidst the passion of starting up, people leave uncertainty among co-founders and You absolutely must concur with your co-founders early on just what the deal is for each of you. Not doing this can cause tremendous problems afterwards (see, as an example, the Zuckerberg/Winklevoss Facebook litigation). In ways, think about this founder agreement for a sort of “pre-nuptial agreement.” Here are the key deal terms you Will Need to Deal with in written creator agreement to avoid startup legal mistakes:
Who gets what percent of the organization?
Is the percent ownership subject to vesting based on continued participation in the business?
What will be the functions and responsibilities of those founders?
If one creator leaves, does the company or another creator possess the right to buy back that creator’s shares?
How much time commitment to the business is expected of each founder?
What salaries (if any), are the creators entitled to? How can that be changed?
How are key decisions and day-to-day decisions of this business to be created? (majority vote, unanimous vote, or certain decisions solely in the hands of the CEO?)
Under what circumstances can a creator be removed as a employee of the business? (usually, this could be a Board decision)
What assets or money into the business does every founder contribute or invest?
How will a sale of the business be decided?
What happens if one founder isn’t living up to expectations beneath the creator arrangement? How is it resolved?
What is the general purpose and vision for the business?
Not Starting The Business As a Corporation or LLP
One of the very first decisions that founders have to make is in exactly what legal form to run the business, but founders often start a business without consulting with a lawyer and, consequently, often incur higher taxation and become subject to significant liabilities that might have been avoided if the business was launched as a corporation or as a limited liability company (“LLP”).
The otions which are available to startup businesses are as follows:
Generally speaking, a sole proprietorship requires no legal documentation, fees, or filings other than local and state business permits. On the other hand, there are disadvantages to operating in the shape of a sole proprietorship:
(1) it only has one owner and if additional capital is required from another investor, the sort is not available and also a partnership or other entity kind is required and
(2) a sole proprietorship provides no protection for your founder against creditors of their business (in other words, creditors can directly sue the creator), in contrast to corporations and LLPs where, broadly speaking, the creditors of the business cannot successfully sue the founders along with other investors. We don’t recommend sole proprietorships
Corporations, LLPs, a are formed by filing documents with appropriate state authorities. The prices for forming and operating these entities tend to be greater than for partnerships and sole proprietorships due to tax, legal, and accounting issues. But, each of the entities generally provide significant benefits for founders (and following investors) including, significant liability protection against business creditors, tax savings through deductions and other therapy only available to corporations and LLPs, and ease in raising capital in contrast to sole proprietorships and partnerships.
Not Coming up with a Standard Form Contract in Favor of Your Company
Nearly every business should have a standard form contract when dealing with customers or clients. However, there really isn’t a “standard form contract,” as every contract could be tailored to be more beneficial to one side or the other. The trick is to start with your form of contract, and hope the other side will not negotiate it much. Here are some key items to develop with your form of contract:
Get sample contracts of what other people do in the industry. There is absolutely no need to re-invent a contract.
Be sure to have an experienced business attorney doing the drafting, one that already has good forms to start with.
Also, Be sure to make it look like a normal form pre-printed contract with typeface and font size.
Most important, don’t make it so ridiculously long that another side will throw up their hands when they see it.
Be sure to have clearly spelled out pricing, when payment is due, and what penalties or interest is owed if payment isn’t made.
Attempt to minimize or negate any representations and warranties about the item or service.
Include limitations on your liability if the item or service doesn’t meet expectations.
Include a “force majeure” clause relieving you by breach if unexpected events occur.
Furthermore, Include a clause on how disputes will be solved. Our preference is for confidential binding arbitration in front of one arbitrator.
Lack of employment documentation – Startup Legal Mistakes
Startup Businesses often experience problems when they don’t maintain adequate employment documentation. Consequently, startups should have ready a core group of job documents to be signed by many, if not all, employees. A starting list of employment documents for a new firm would typically include the following:
Stock Option documents (if a corporation has been formed), including a Stock Incentive Plan, Notice of Stock Option Grant, and Option Agreement
“At-Will” employment offer letters (signed from the company and the employee, acknowledging that the worker or employer could terminate labour “at-will”)
Confidential Information and Inventions Assignment Agreement (discussed below)
Employee Handbook (setting forth company policies on vacation, conf
Benefit types, for benefits available to employees and family members (e.g., health insurance, dental insurance, EPF, PPF, etc.
Not carefully considering intellectual property protection
If you have developed a unique item, technology, or service, you need to consider the appropriate measures to safeguard the intellectual property you’ve developed. Both the provider’s founders and its investors have a stake in ensuring that the company protects its intellectual property and avoids infringing the intellectual property rights of third parties. Here are some of the common protective measures undertaken by start-ups:
Patents are the best protection you can get for a new item. A patent gives its inventor the right to prevent others from making, using, or selling the patented vulnerable thing described in words in the patent’s claims. Most important, the critical issues in determining whether you can find a patent would be: (1) Just the concrete embodiment of an idea, formulation, and so on is patentable, (2) the invention must be new or novel, (3) the invention must not have been patented or described in a printed publication previously, and (4) the invention must have some helpful function.
You obtain a patent in the Indian Patent and Trademark Office, and this process can take several years and also be complicated. You typically need a patent lawyer to draw up the patent application for you. Furthermore, Copyrights cover original works of authorship, for example art, advertising copy, books, articles, music, movies, software, etc.. A copyright gives the owner the exclusive right to make copies of their job and to prepare derivative works (for instance, sequels or revisions) based on the job.
A trademark right protects the symbolic significance of a word, name, symbol, or device that the trademark proprietor employed to identify or distinguish its good from those of others. Some well-known logos include the Coca-Cola trademark, the American Express trademark, and the IBM trademark. You obtain rights to a trademark by actually using the mark in trade. Furthermore, You don’t have to register the mark to get rights to it, but national registration does provide a few advantages. You register a mark with the Indian Patent and Trademark Office.
Service marks resemble trademarks and are utilized to identify services.
A trade secret right permits the person who owns the right to take action against anyone who breaches an arrangement or confidential relationship or who steals or uses other improper means to obtain confidential information. Trade secrets can range from computer programs to customer lists to this formulation for Coca-Cola. The purpose of the agreement is to permit the holder of confidential information (for example, a product or business idea) to discuss it with a third party. But then the third party is obligated to keep the information confidential and not use it whatsoever, unless allowed by the holder of the information. There are usually regular exceptions to the confidentially obligations (such as if the information is already in the public domain).
Confidentiality and Assignment Agreement for Employees
Every employee should be required to sign such an arrangement. It accomplishes several purposes. First, it obligates the employee to keep confidential the proprietary information of the business, both during employment and after employment. Second, it also ensures any inventions, ideas, products, or services produced by the worker during the term of employment and connected to this business belong to the company and not the worker.
Coming up with a title for the Business which Has Trademark/Signature Issues, Domain Name Issues etc.
When picking a company name, it’s important to do some research to help you avoid trademark infringement or domain name issues. You might be infringing someone’s trademark if your use of a marker is likely to cause confusion among customers as to the origin of the merchandise or services. Here are a Few of the measures to this may avoid naming issues and other startup legal mistakes:
Do a Google search on the title to see what other companies might be using the name.
Have a look at the Indian. Patent and Trademark Office site (www.ipindia.nic.in) for trademark registrations on your name.
Do an investigation of MCA website in state where the corporation will perform business to determine if anyone is using a similar name.
Do a search on GoDaddy.com or other name registrars to determine if the domain name you want is available. If the “.com” domain name is chosen, this is extremely problematic and a red flag.
Make sure that the title is distinctive and memorable.
You might wish to have your intellectual property lawyer do a professional trademark search.
Most important, don’t make the name thus limiting which you will need to alter it later on as the business changes or expands.
Come up with five names you like, and test market it with prospective employees, partners, investors, and customers.
Think about international implications of the name (you do not want to have a name which turns out to be embarrassing or negative in a different language).
Avoid odd spellings of the name. This is likely to result in problems or confusion down the road (although some companies like Google or Yahoo are successful with unusual names, such achievement is often the exception rather than the rule).
A Great Conditions of Use Agreement will cover the following:
How the site can be utilized and limits on uses;
Disclaimers on warranties;
Limits on liability of the site owner and its employees, officers, affiliates, and directors
Also, how disputes will be resolved (e.g., through confidential binding arbitration precluding class actions);
Representations and warranties of the site user, and indemnification to the site owner;
Rights to refunds and returns if products are sold; and
Intellectual property rights (e.g., copyrights).
What information the site collects;
Furthermore, the way the site uses the information collected;
also, the information may be shared or sold to third parties;
the way the site deals with children under 13;
How the site may allow the user to access the site through third party services like Facebook and Twitter;
The actions taken by the site owner to safeguard confidentiality and security of the information collected; and
Privacy policies shouldn’t blindly be copied from other sites. There may be legitimate reasons to narrow down the privacy given and to reduce the potential liability of the site proprietor.
Not Having the Right Legal Counsel – Startup Legal Mistakes
In a misguided effort to save on expenses, start-up businesses often hire inexperienced legal counsel. As opposed to spending the money necessary to hire competent legal counsel, founders will often hire lawyers that are friends, relatives or other people who provide steep charge discounts. In doing this, the founders deny themselves that the advice of experienced legal counsel who can help the creators avoid many legal problems. Founders should consider interviewing several attorneys or law firms also determine if the lawyers or the law firms have expertise in certain, if not all, of the following legal areas:
Corporation, commercial, and securities law
Intellectual property legislation
Real estate legislation
Even though it is not necessary that the attorney or law firm retained by the founder have experience in each of the foregoing areas because certain problems can be “farmed out” to different lawyers or firms, it is often best that the founders retain a firm that can take care of some, if not many, of the areas of expertise listed above so as to provide continuity between the creators and their attorneys.
Finally, there are a number of ways for a creator or start up business to locate qualified legal counsel:
Friends and business acquaintances
Internet legal websites