Top 10 Legal Mistakes for Technology Companies
This is a summary of a presentation I made for TechAlliance yesterday.
The PowerPoint (pdf format) is here
Update: This post has been reproduced on the Canadian IT Managers blog
Dealing with legal issues sooner rather than later lessens risk and costs. Some legal mistakes can take a lot of time, energy and cost to correct, and some can’t be cured at all. They can affect daily operations, reputation, financing, risk and liquidity events.
If, for example Microsoft or Google come knocking to buy your business, but find some of these things have been done poorly or not at all, they may lower the price or go elsewhere.
INCORPORATE THEMSELVES
The odds are the details wonât be right and the corporation will not get organized with the right bylaws, resolutions etc.
Companies often choose the wrong jurisdiction.
It’s important to get tax and accounting advice at this stage to ensure proper share structure.
If there are any assets to be transferred in it may be advantageous to do a section 85 rollover, which requires accounting help and the accountant to work with the lawyer to draft the right special share structure.
It’s more expensive to fix this later than to have it done right up front.
RELYING ON ANECDOTAL ADVICE
Relying on the ubiquitous “consultant” or anecdotal advice from others on legal matters is never good legal advice.
Even if one can’t afford to do everything up front, at least get some upfront advice and prioritize them.
If one shares their business plan early with their lawyer, the lawyer can help prioritize the needs and perhaps raise other issues or give advice on some issues that can make a difference going forward. For example, the fundamental structure of arrangements with customers or suppliers. The potential value of a lawyerâs input is diminished if it is sought only on the eve of the signing of a document.
Web 2.0 concepts are based on the wisdom of the crowd but beware of the tyranny of the majority.
Doing research on various issues on your own to see what other companies have done can be helpful, but it doesnât replace legal advice. Even if you research your ailment online, you wouldnât perform surgery on yourself.
NOT PLANNING FOR GROWTH
Some new businesses under price their products based on the cost of working out of their garage. Products or services should be priced based on what it would cost to operate as you grow. Premises, people and professional services cost money and must be incorporated in your plan.
Often customers won’t take your services seriously if you charge too little â i.e. it canât be any good if it costs that much less than the competition.
If a business waits until it is larger to do things like human resources and employee policies it becomes harder to put them in place and enforce them. While those things don’t have to be done immediately, they should be done reasonably early in the growth phase.
Businesses should plan for the scalability of their operations as well as the scalability of the product.
I have seen deals fail because the vendor was unable to support or implement the product because they did not have enough resources, yet could have afforded to provide that support if they had charged more, yet still undercut the competition.
POOR RECORD-KEEPING
This includes things like not keeping proper records of contracts or keeping track of tasks that need to be done.
It’s important to keep contracts and records intact and in one place (or at least have a master index that tracks where they are). That includes corporate records, customer contracts, supplier contracts, intellectual property documentation and other matters.
Itâs crucial to have a tickler system for various matters that have due dates – such as domain name renewals, lease renewals, tax filings and payments and various agreements. Even mundane agreements for things like water coolers, copiers, and postage meters.
Agreements with a term may require notice to either stop them or to extend them. One doesn’t want to either miss renewing something or fail to terminate something inadvertently.
Tracking future actions is something that’s easy to do but the consequences can be severe if its not done.
It can be done either electronically or on paper but it needs to be organized and easy to administer.
For example it could be devastating if one misses the renewal of their domain name.
NOT DOCUMENTING IP OWNERSHIP
Intellectual property covers a wide gamut of things ranging from copyright, trademarks, patents, nondisclosures, trade secrets and license arrangements both in and out.
This is one of the most common problems and sometimes the most difficult to correct. While it is theoretically easy to document this after-the-fact, it is often not easy to find the right people, convince them that they should cooperate, and convince them that your view of ownership is the right one. People often donât agree.
Not being able to prove that you actually own the rights to the product or service you sell can be fatal to that Microsoft / Google takeover.
It is crucial for ownership and moral rights issues to be addressed in writing with contractors. This is true whether one is hiring a large corporation to do some programming, whether borrowing some creative people from the business down the hall, or whether hiring an independent contractor to perform a task. Absent an agreement to the contrary, the starting position is that that contractor, and not the corporation that hires them to do the job, owns whatever they create.
It’s also important to ensure what they provide is original and not “borrowed”. Watch out for the use of open-source software or shareware. Often it can be used for personal use but not for business use, or not to create a product.
It is not uncommon for a client to a come to their lawyer with the problem where they think they own something, but a former employee or contractor insists they own it. Typically that happens were one needs to prove that you own it for some reason. If the other party knows that, it just raises the difficulty and the price to get it resolved.
NOT PROTECTING INTELLECTUAL PROPERTY.
Itâs important to protect your own IP.
Protection includes not disclosing anything that might be sensitive unless one has to, ensuring appropriate nondisclosures are in place, marking branding with trade-mark notices, registering trade-marks for important brands, and making sure licenses for your product or service include appropriate provisions.
On the patent side, it is important to consider whether any of your creations are patentable. Patent rights can be lost if the subject matter is made public before the patent is applied for. It is not unusual for example to have someone who wants to apply for a patent on something they created while in school. But they canât get a patent on it because the subject matter was disclosed in their master’s thesis published over a year ago.
Open-source software can cause issues. There’s nothing inherently wrong with the open-source model or using open-source software. The danger is that with some open-source licenses, depending on how you integrate your own code with the open-source code, you can be forced to disclose the source code of your own proprietary software. On the flip side, some programmers think that one must disclose the source code of your software if it comes anywhere near open-source software, which is not true.
One can compromise one’s own intellectual property if you violate the copyrights of others. Examples include copying creative works, whether that is computer code, web sites, photographs or promotional material of others.
GETTING INVESTORS WITHOUT LEGAL ADVICE
Securities laws are complex and failure to abide by them can be incurable. Many people don’t realize that the same laws that apply to public companies affect how private companies raise capital. Failure to do this right can severely hurt a corporationâs ability to get future financing or participate in a liquidity event. Securities laws are very strict regarding how one can advertise and sell shares, and the process for doing that.
There are many rules and exceptions to the rules. This is an area so complex that many business lawyers don’t understand it.
Another problem is issuing stock options to employees. Stock option agreements are a valuable tool for public companies but should be avoided by private companies. The minute one goes down this road, the employees become shareholders and as such are entitled to the same control and information disclosure as a normal shareholder. It can severely fetter the discretion of the founders or real owners. While having shares can be an incentive to employees, it can also give them an inflated sense of entitlement.
Employees of private corporations can be incented in other ways such as profit-sharing or bonus programs. The benefit to employees owning shares in private companies is illusory as there is no real market for the shares.
BLINDLY USING AGREEMENTS OF OTHERS
Businesses often try to use material that others have created for things like software licensing, Web terms and conditions, privacy policies and HR policies.
That’s a dangerous thing to do. Just because it’s OK for Microsoft doesn’t mean it fits your situation.
There are jurisdictional differences in agreements. US based limitation of liability clauses; for example, usually miss a key Canadian concept that can severely limit its effectiveness.
Different products, different delivery mechanisms and different fact situations all lead to different needs for documentation.
Things like warranties, conditions and disclaimers may not be effective in different jurisdictions. UK for example.
For things like privacy policies, being compliant with privacy laws involves far more than just sticking up a policy.
NOT HAVING YOUR OWN IT HOUSE IN ORDER
Backup and continuity plans are crucial. It can be a disaster if you lose work.
While we usually think of hurricanes, floods and 9/11 as the type of disasters we have to plan for, the most common disasters are things like water leaks, hard drive failures or backhoe Bob.
The risks of each organization will vary. It is crucial to access what risks exist for your business and address them appropriately.
In addition to effective backups, it is important to have disciplined file/document retention with consistent filing standards and revision control for documents and code.
Many businesses fail to adequately deal with security and privacy issues. That includes the security measures necessary to protect intrusions to your system and your paper files. Also any extra security measures required for portable media such as laptops, smart phones and jump drives.
Be sure that you have enough licenses for the software used in your operation.
There are also risks inherent in the application service provider model that many don’t deal with. The asp or apps on tap model has been around for many years but is growing in popularity. Since you do not house your own data, there is a risk of losing that data. While the asp provider may very well be able technically to better data backup than you can, the issue is what happens if something goes wrong and they go bankrupt or simply refuse to provide the data. That issue can sometimes be addressed by keeping local updated copies of the data. On the flip side, those businesses providing asp type services should expect this to be raised occasionally by purchasers, and have a plan to provide a solution to the issue.
HIRING THE WRONG COUNSEL
Lots of lawyers can do basic business things such as incorporating a company.
Tech companies are better off with a lawyer who understands tech issues and tech company needs, products and services.
Good legal advice (like most kinds of advice) is dependent on knowing the facts and context, and the practical issues at hand â not just the law.
For example, not many lawyers would check US trademarks or domain names before choosing a corporate name.
Not all business lawyers are familiar with issues surrounding intellectual property/licenses/security/privacy.
