It is essential that new business seek specialist legal advice to reduce the risk of disputes when starting up. One way of preventing or minimising disputes is incorporating the business at the earliest opportunity.
Organisation of startups is often chaotic and for good reason. Commercial priorities to advance sales take priority because the business is not able to survive without sales; the corporate and contractual arrangements take a back seat as a result. As the business grows, there is more at stake for the founders of the business who have a vested interest in converting their work to wealth.
The problems which arise and the scale of the problems which arise remains something that can be mitigated easily enough where founders take advice early on. Risking the entire future of a startup business by putting off basic legal formalities is rarely worthwhile. Legal uncertainty always introduces risk and certainly increases the legal costs of rectifying problems. Often, problems can be so bad that the stakeholders are not able to enforce their legal rights.
Attention grabbing startup disputes have tended to involve technology companies in recent years due to the newness and popularity of the technologies they introduce to the market. After all Apple, Google and other IT companies are amongst the largest companies by revenue, profit and capital in the world; added attractions include the trendy image of the industry, the fame of the founders and the large sums of money at stake in disputes. A number of these examples provide great case studies for demonstrating the risks when legal clarity – at least at the inception of the company – has tended to be thin on the ground.
Disputes over company ownership and intellectual property rights in Facebook’s early days is now a common example of the type of disputes common to technology startups. As work on a technology idea is often undertaken prior to incorporation or informally by a mixture of founders, contractors and employees, the legal basis for establishing with sufficient certainty who owns what often fails to materialise until something valuable already exists. By then it is often too late to draw up the original agreement and get the relevant parties to sign up to it.
The absence of documentation in particular often proves fertile ground for startup legal claims. The Winklevoss twins were able to settle for $65m on the basis that, immediately prior to the website’s inception, fellow Harvard student Mark Zuckerberg had allegedly misappropriated the idea for it. The creation and sharing of ideas pre-incorporation or even prior to the organisation of any business activity taking place often paves the way for litigation in the future where the terms of engagement are unclear.
Using contractors to work on startups without properly drafted consultancy agreements in place is a recipe for disaster. This is because the starting position for the ownership of intellectual property is that the consultant is the owner of the intellectual property they create, whether it is software, graphic designs, artistic works and some types of designs. This increases the potential of intellectual property litigation; a series of undesirable flow on affects, such as having the intellectual property based asset done by another consultant and renegotiating the terms of the consultancy agreement, which will often require payment of further fees.
Square, Inc., the credit card processing company, and creators of a device which allows consumers to pay for products and services via their smartphones or tablets, has just recently been subject to an action for patent infringement. The claimant, Professor Morley, alleged that the firm contracted with him for his technical expertise in the creation of the device only to be effectively removed from the company once success was on the horizon. The issue of which party is the patent holder, the contractor or the company, is disputed following the lack of referential documentation evidencing the intellectual property rights in the company.
The English fruit juice company Innocent failed to properly secure the rights for their own trade mark, and ended up having to sue to attempt acquire the rights they should have had in the first instance – and lost.
In an early case, the radio station Classic FM in the UK engaged a well-known classic music expert to populate a database of classical music. All was going well until Classic FM decided that it wanted to licence the database outside the UK. Classic FM was sued by Mr Ray when it did, and lost. Classic FM would have had to have negotiated terms for licensing the database to expand its business offshore after it lost the litigation, and had to pay Mr Ray’s legal fees as a result of the loss.
The main fixes for avoiding startup legal disputes are to incorporate a business early on, dividing the ownership according to what is agreed and entering into a shareholders’ agreement. Once that has been done, any roles assigned, any work carried out, any intellectual property rights created or any contracts entered into can be done within the incorporated entity.
In addition to managing these issues and reducing the risk of disputes later on, specialist information technology lawyers and specialist intellectual property lawyers can assist your startup in a variety of ways from providing finance contacts to advising on operational legal matters.
Startup companies focused on or enabled by information technology suffer from legal disputes in relation to the ownership of shares, intellectual property rights and technology as much as any other business. Poorly defined corporate arrangements are a common cause for many new business disputes and the intangible nature of intellectual property ownership means it is often a potent source of litigation; after all, the intellectual property is the asset which gives the business its value.
Starting and growing a business is hard enough without the founders falling out or fights breaking out with people no longer working in a company. Unfortunately, when businesses start to become more valuable there is more to play for and misunderstandings are more likely to escalate to full blown fallouts. While appropriately drafted legal documentation does not guarantee disputes will arise, their existence lays the background for the rights of the parties to minimise the scope of disputes and focus minds towards resolution.
Our business startup solicitors can assist new businesses to get their legal documentation right the first time. For specialist, focussed legal advice from a law firm which has the experience and knowhow to address the legal matters which should be addressed in startups, including between funders, investors, shareholders and suppliers, contact our business solicitors in London.