Many startups correctly focus on getting the business fundamentals right. Thinking about how to commercialize the product and raise funding is crucial to making any startup a success.
However, another area that many founders often neglect is the legal part. There are five legal pitfalls that all startups should avoid to ensure that the business is legally sound.
Clarify Co-founders’ Rights And Duties
In the rush to develop the product and build a team, many co-founders forget that it is crucial to set out the rights and obligations of each member of the founding team. In other cases, co-founders mistakenly believe that sitting down to properly discuss a Founders’ Agreement is unnecessary as the co-founders have worked well with each other so far.
Both scenarios can lead to disastrous outcomes when co-founders realize they are not on the same page and misunderstandings or disputes arise. Get it right from the start by putting together a Founders’ Agreement, which describes the respective rights and obligations of the founders and how the company should be operated.
As co-founders are typically shareholders in their company, this can be set out in a Shareholders’ Agreement (in fact, the expressions Founders’ Agreement and Shareholders’ Agreement tend to be used interchangeably). Key clauses in a Shareholders’ Agreement include:
● Name, address, and shareholding of each shareholder;
● Restrictions on share transfer (with the option to include a tag-along clause and/or a drag-along clause);
● Level of consent required for key business decisions (e.g. adopting business plan, approving any transaction above a certain value);
● Level of consent required for fundamental decisions (e.g. changes to share capital, winding up);
● Option to include a non-competition clause; and
● Confidentiality obligation.
The importance of a Shareholders’ Agreement is so great that we would describe it as a legal ‘must have’. Depending on the business structure that you choose for the startup, your business and its owners will be subject to different types of personal liability and tax requirements, among other things. When approaching the subject, consider the following elements:
1.What are the characteristics of each business structure, and the pros and cons of each?
2. What are your long-term business plans, and the underlying business objectives?
3. What filing and documentation is required for each type of business structure?
The business structures commonly found in most countries include sole proprietorship, partnership and limited company.
Flouting Employment Laws And Regulations
As an entrepreneur, you may decide to start up your business in another country for various reasons, such as the availability of certain types of talent and the ease of access to a certain target market. When hiring a team in a different country, remember that legal protections for employees and, correspondingly, the obligations of employers may vary. If you are looking to expand your business beyond Hong Kong into the rest of Asia Pacific, make sure to read up on topics such as the legal considerations when hiring new employees in places like Australia and whether there is a minimum wage in New Zealand.
Neglecting Intellectual Property Protection
During the early stages, startup businesses often don’t own anything more than their idea, a business name and logo. While this may not seem like much, it is central to what your startup has to offer. The exclusive rights that apply to intangible human creations, otherwise known as intellectual property (IP), are a core asset of the business. The main types of IP include trademarks, patents, copyrights and trade secrets. When managed properly, even something as simple as a trademark has the potential to become one of the most valuable assets of your business.
Drafting Contracts Based On Internet Templates
In the early stages when startups are tight on finances, the legal area is most easily overlooked, despite it being crucial. Hiring a lawyer to draft a simple contract may be an expense that a startup simply cannot afford, so the founders inevitably end up employing a do-it-yourself approach to managing their legal needs.
While we are all for a DIY approach, startups subject themselves to a multiplicity of risks when they don’t DIY the right way. The risks include:
● Legally unsound contracts: While a simple Google search will turn up free contract templates ranging from Shareholders’ Agreements to Employment Contracts, what people don’t often realize is that such templates may not reflect the most updated regulations, or even be relevant to the jurisdiction that they are operating in (for example, a Hong Kong document may not work in Singapore).
● Reputational damage: A poorly drafted contract may give rise to disagreements over the interpretation of the contract, for instance when it comes to enforcing the payment terms in a Sale of Goods Agreement.
● Increase in time and costs: While startup founders often DIY their legal needs in order to save time and costs in the first place, fixing a problem that arises due to poorly drafted contracts may end up causing time and costs to balloon.
In order to self-service legal needs while keeping costs low, startup founders can get innovative and turn to legal tech solutions such as Zegal. With a comprehensive suite of legal documents, this platform employs a Q&A interface that enables business owners to quickly and easily customize legal documents for their unique business needs.
About The Author
Alex Tanglao is the Marketing Manager at Zegal, the cloud legal software trusted by more than 15,000 businesses. Alex leads a talented team as they drive growth and implement localized marketing strategies across Hong Kong, Singapore, New Zealand and Australia. Having studied law, and now working in the legal tech space for more than three years, Alex has a passion for helping startups and SMEs scale up their businesses using technology.