Starting a new business should be a busy, exciting time. Business lawyers Emily Savage and Yvan Guy Larocque have outlined ten need-to-know legal tips to keep it that way. It’s a long post, folks, because there are many important factors to consider, so we divided the blog into three parts. If you need some support, feel free to give Emily or Yvan a shout. And if you’re ready for the next tips, here’s Part 2 and Part 3.
1. Consider Incorporating
Many entrepreneurs and founders of start-ups begin developing or operating their businesses personally, as sole-proprietors or even as a general partnership with one or more other founders. (Surprise! You may be in a general partnership without even knowing it!)
This often makes sense… Individual founders can take advantage of running their business personally by off-setting their investments (losses) in the business against other income they earn (say from their day-job or other businesses).
However, there is one major advantage to incorporating: limiting your liability. Unlike sole proprietorships or general partnerships in which the owner(s) of the business assume(s) all the liability of the business, an incorporated company allows its founders to limit their potential liability as shareholders of the company only, meaning you are only liable for what you have invested in the business and your personal assets remain safe from creditors and law suits relating to the business.
Additional advantages to incorporating include protecting your business name, ensuring the longevity of the company if the founders decide to move on, adding credibility (increased ability to attract investors and raise money through equity financing), and improving the ability to optimize your income and taxes (once you reach net income).
TIP: Hold off on incorporating until the benefits outweigh the costs. If you’re developing your business with other people though, consider incorporating in the beginning to protect yourself. In this way, you can avoid issues with unintentionally creating a partnership (bad!) and get your house in order before possible multiple-founder complications set in. (Every seasoned entrepreneur will have a story or two about a particularly salty business associate.)
2. SHAG When You Need To
A Shareholders’ Agreement (or “SHAG” for short), only available to incorporated businesses, is a great investment for an early-stage company with more than one founder/shareholder. A SHAG sets out the agreement between the shareholders (usually founders at this point) and the company, including how the company will be run, what decisions will require special approval, what happens if a founder quits or disappears (#founderghosting), how intellectual property rights are dealt with, how and to whom shareholders can sell their shares, what happens if some shareholder want to sell the company and others don’t, etc. There is almost no limit to what you can put in one of these bad boys but you should probably loop in your lawyer (ahem).
In some cases, however, a SHAG isn’t worth the investment. If you don’t have a proof of concept or any real business to speak of, for example, investing money to create a complex legal document like a SHAG may be putting the cart before the horse. Also, if you are going to be looking for angel investors to inject some cash into your company, they will likely want to see certain things in the SHAG and you may end up having to amend the agreement (or scrap it and start from scratch).
TIP: If you have multiple founders in an incorporated business, consider entering into a SHAG to clearly set out the expectations of the founders and business. If it’s early days, there’s trust among the founders, and there’s no real business (or money) to speak of, consider holding off until things get a little more serious (and possibly until you’re ready to start taking on third-party investors).
3. Keep it Confidential – Non-Disclosure + Confidentiality Agreements
Non-Disclosure Agreements (what the cool kids call “NDAs”) help protect sensitive information and can be especially important for start-ups that hire (or beg) third-parties to help them develop their ideas (for example, tech start-ups developing slick new products). You should consider hiring a lawyer to provide you with a template NDA to have signed by anyone who works for your company or has access to your confidential information.
Be careful in relying too heavily on an NDA though, because it’s only useful if you have the money to enforce it in court. If you are getting involved with larger, more established companies or organizations, your NDA may not be worth the paper it’s printed on because by the time you figure out that your confidential information has been co-opted and used to out-maneuver you in the market, it’s probably too late. So be careful about who you get into bed with in business (and in life for that matter), and only disclose what you absolutely need to. Consider that the less power you have in a business relationship, the harder it will be to enforce your rights. Also, when you start going out to look for those deep pocketed investors who can write a fat cheque to fund your business, DO NOT GIVE THEM AN NDA TO SIGN, because they will not do it. They have the power in the relationship and you will undermine your credibility by trying to get them to sign an NDA. You can get around this somewhat by marking all materials (pitch decks and financial information) that you provide to potential investors with a disclaimer stating that the materials are privileged and confidential (your lawyer can help you with this – cough cough).
TIP: Have a standard form NDA prepared by a lawyer (it’s worth the money and a precedent you find on Google probably won’t work). Have founders, employees, contractors, interns, and maybe others you share confidential and sensitive information with sign the form. Explain to them what the terms of the agreement are so that they don’t accidentally breach the agreement (enforcing a breach is very difficult; the value is in giving notice of the relationship to the persons receiving the information). Always carefully consider the risks on getting involved with businesses that are bigger and tougher than you, especially if you’re in the same space. For example, if you’re developing an app to instant message securely, you wouldn’t want to hire Facebook to help you sort out some minor kinks. Lastly, don’t try to get investors to sign NDAs unless you have a going concern and have options, otherwise, you may get laughed out of the room and tarnish your company’s (and your own) credibility.