You're very excited to start your venture, but you need to
know the legal landmines to avoid before you hang your shingle. We
got the lowdown from two attorneys who counsel startup business
owners on the little-known legal issues that often trip up new
entrepreneurs.
A big issue startups overlook is document retention, says Jeffry
W. Smith, a partner with law firm Lathrom & Clark
LLP in Madison, Wisconsin. People tend to accumulate so much
written material that "they don't have any practical way
of inspecting it at a later date," he says. "The general
rule of thumb is that anything [you] generate or put down in
writing could someday be an exhibit in a lawsuit." This goes
for e-mail communication as well--so be very careful of what you
write and to whom you are sending it before you hit send.
Smith also advises against keeping a copy of each draft of a
document. "It's discouraging to see three to four drafts
of the same document being pulled from a file in litigation,"
he says, "because that means that every change of a document
could be the subject for questions in a deposition." Only keep
the previous draft around long enough to see that all the proper
changes were made--then discard, he says. However, be sure to seek
the advice of counsel before destroying potentially vital
information (à la Enron).
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Smith, an expert in intellectual property, also advises
inventors to keep documents such as e-mail and interoffice
correspondence that establish a date of invention. "If
there's ever going to be a contest as to who was the first to
invent a particular product or process...[you] need to have
documented records and evidence of [your] dates of invention,"
he says.
And if you run a consumer products company, for example, be
careful of outside inventors pitching unsolicited product ideas.
They might pitch an idea that's already on your drawing board
and later sue you when you bring that product to market, claiming
it as their own. "It's really dangerous for a company to
keep a copy of that letter, or to really review it in any
detail," says Smith. "There should be a standing policy
to send it back with a letter indicating that it wasn't
reviewed, no copies were kept [and] it's [your] policy not to
review [them]."
Kenneth W. Chung, a senior partner with law firm Kring & Chung
LLP in Irvine, California, notes that legal issues are
intertwined within every aspect of any business, especially during
the startup stage. Startups need to be especially mindful of things
like buy-sell and shareholder agreements, for instance.
"Startups often involve two or more founders who continue to
grow their company without a shareholder or buy-sell
agreement," Chung says. "However, when an irreconcilable
dispute occurs between the founders, they may find themselves in a
deadlock."
And though it may not be the most obvious thing to think about
while starting your company, Chung advises entrepreneurs to come up
with an exit strategy. Ask yourself, "Is [the business] to be
acquired, or [do I] desire to stay on with the company for the
indefinite future?" says Chung. Settling this issue early will
also affect how you structure your business.
As the startup phase of your business wears on, you'll deal
with setting up your business entity, labor and employment issues,
intellectual property and vendor contracts--just to name a few
issues. Both experts suggest running your plans by your legal
counsel, who can cater to your specific startup needs. One of the
key questions you should ask yourself at startup, according to
Smith: "How are we going to establish proprietary rights in
what we're developing, and how can we avoid infringing on the
rights of others?" Hmmm...seems like a good rule to live by in
general.
What to Ask Your Prospective Attorney
You don't want to take that legal jump alone, and good
counsel can really help you navigate the early phase of your
business. Kenneth W. Chung, a senior partner with law firm Kring
& Chung LLP in Irvine, California, lists the following
questions every startup entrepreneur should ask their prospective
counsel:
1. What is the extent of your experience in working with
startups?
2. Do you have expertise with various startup legal
issues, such as entity selection, securities law, intellectual
property and labor and employment?
3. What is your experience in the particular industry
that we are pursuing?
4. Do you have contacts or a working relationship with
other professionals who could be of assistance--accountants,
investment bankers and venture capitalists?
5. Who will be handling my file?
6. What distinguishes your firm from others?
Originally published in the July 2002 issue of Entrepreneurs Start-Ups magazine