In this article, Khalid Khan pursuing Diploma in Entrepreneurship Administration and Business Laws from NUJS, Kolkata, discusses what are the various startup contract and agreements every entrepreneur must know.
The human nature is such that we want to rush into things and not indulge in a cumbersome process. When entrepreneurs start a business, they are too eager to run it, often forgetting how important are the formalities required before commencing the business. But sometimes being over-optimistic leads them into regretful and troublesome situations.[1]
While exploring business possibilities an entrepreneur is bound to interact with lots of people and businesses like investors, employees, vendors, co-founders, clients or customers.[2]These kinds of risks involve lots of complexities and uncertainties. Various issues come up like ownership, profit-loss sharing, liabilities, damages, compensation, breach, decision-making, resolving disputes and so on. Therefore, in order to reduce the risks involved in these matters these relationships must be formalized which is done through written contracts and agreements. There are numerous formalities which should be taken into consideration which every entrepreneur must be aware of and should not be reluctant to perform while exploring his business relationships.
Legal issues become a big hurdle in the way of founders itself and make them face legal battles. So, to avoid and deal with potential legal battles the entrepreneurs must take into consideration the following contracts and agreements:
Intellectual Property (IP) Assignment Agreement
It goes without saying how inevitable it is to protect an Intellectual Property through ways such as patent, copyright or trademarks. Intellectual Property means works or invention which are a result of a human mind’s creativity or more famously called “the mundane depiction of ideas”. Unlike other assets of the company, Intellectual Property lies in ideas, inventions and concepts therefore it is necessary for an entrepreneur to protect his IP. The protection of the expression of ideas and concepts is generally through written contracts and agreements which provide a contractual remedy for misuse or disclosure of the idea. The startup founders must have a legal ownership of all the intellectual properties at the time of formation of the company. The company has name, names of the products, the design of the products, its specific packaging and so on. In order to protect from infringement, the entrepreneur must register these with the concerned authorities so that no one is able to copy. Also, the assignment agreement is a must for the entrepreneurs. The IP assignment Agreement is one of the most essential documents sought by the investors when they decide to invest in any startup. Types of IP assignment agreement may be Technology Assignment Agreement[3] or Invention Assignment Agreement.[4]
Operating Agreement (Founders’ Agreement)
When the entrepreneur begins his company, it should be kept in mind how important it is to have an operating agreement or a founders’ agreement. This document is similar to the Articles of Association. It contains the duties and liabilities of the founders. Mostly startups need more than one partner and therefore the operating agreement is important in order to decide the powers and functions of the co-founders. It must be prepared very carefully as it the document which relied to in case of potential disputes. The Operating agreement is customized as per the needs of the startup. So whatever clauses the entrepreneurs want to include to regulate the internal affairs of the company may be included in it.
Non-Disclosure Agreements
As the name, itself suggests the non-disclosure agreements(NDA) are the agreements which contains the provisions protecting the information of the company from being disclosed to any third party. The agreement is entered into with the interested parties obliging them not to share the confidential information to any third party. If there is a need to share the confidential information to any third party then prior approval should be sought from entrepreneurs. Sometimes an entrepreneur may need to keep certain information secret but in order to explore further business possibilities is obliged to share that information with the second party. Under this agreement the second party undertakes to keep confidential information confidential. The confidential information is of two types Mutual confidential agreement (it’s a two-way NDA where both the parties undertake not to disclose any information to a third party) and other is one-way confidential (it’s an undertaking by one of the parties to the agreement to keep secret the other party’s information shared with them).
Employee Contracts and Offer Letters
It is but obvious that when a startup expands it needs to hire employees for various tasks. Different people are hired for different positions in the company like HRs, Associates, Accountants and other employees. Thus, again it is very important for entrepreneurs to draw clear cut employment agreements and offer letters which usually contains terms of employment e.g., compensation, job responsibilities, working hours and grounds for termination, reporting structure, IP ownership of work, expectations, commitments, share vesting, remuneration, company policies and so on. It is very important to define these components beforehand as it has led entrepreneurs face millions of employment lawsuits.
Shareholder Agreements
The shareholders agreement defines the rights and responsibilities of the shareholders. Entrepreneurs need funds to start the business and therefore search for investors. It is not possible for every entrepreneur to bootstrap the startup, therefore, the investors are invited to invest in the company in exchange for equity shares. Therefore, when the shareholders invest they apart from shares they have other rights and duties. Hence a cautious approach must be taken in order to protect the company.
Commercial Leases
These agreements are lease agreements for the buildings the startups own. An entrepreneur would definitely need an office to work in order to carry out his activities. If an entrepreneur does not own a land, it is taken on lease. Hence it is very important to have a lease agreement with the landlord. The commercial leases usually contain the address, amount of rent, terms and conditions of lease, termination or expiry of the lease agreement.
Independent Contractor Agreements
Sometimes the nature of business is such that the company needs to enter in to business relationships with the independent contractors. They are not hired by the company as employees but are independently hired by the company for a particular service and for a particular period of time. Therefore, it is essential to have a written agreement with these contractors so that the hassles are avoided.
Client/Sale Agreements
Client agreement is mostly important for the business which are service providers. The client agreements define the nature of the services, the date of commencement and end of services and most importantly contains disclaimers regarding the services. Whereas the Sale agreement is normally used in case of companies selling goods. It must define the dates, prices, use and other details. These contracts also denote the refund policy of the company, if any. All the terms and conditions are clearly under these contracts to avoid future problems.
Not doing so may lead an entrepreneur into trouble. The Facebook litigation that took between Winklewoss and Zuckerberg leaves a remarkable lesson for all the founders to invest a good time in making proper contracts. Some of the important tips to keep in mind while making the contract are making the contract simple and clear.[5] The contract maybe verbal or written but it is best to keep it written. The contract must clearly identify the parties and their obligations.
The above is not the exhaustive list of the contracts and agreements required by a startup[6] but are the basic ones used worldwide. However, there can be more agreements tailored to meet the specific needs of the entrepreneur. The entrepreneur must aware of all the documentation and formalities required at the time of starting his business as this a very complex world on business relationships which might lead to hurdles in the way of business if proper care is not taken before entering into business world. The market is big and the interactions are endless. Therefore, it is very important to enter into legally binding contracts to secure the company’s future.[7]
References
[1] Richard Harroc, 10 Big Legal Mistakes Made By Startups available at: https://www.forbes.com/sites/allbusiness/2013/10/03/big-legal-mistakes-made-by-start-ups/#5d15b47d497e (Last visited August 26 2017).
[2] Jessica Livingston Founders at Work: Stories of Startups’ Early Days (Apress, USA,2001).
[3] A technology assignment agreement assigns your startup any intellectual property before you form the company. The developer(s) may retain individual intellectual property rights under certain circumstances, or they may sell the rights to you for equity or cash.
[4] An invention assignment agreement assigns a new company ownership of any relevant intellectual property created by employees after the company is formed. The agreement typically includes the founder(s) and employees as signatories to a confidentiality agreement and an invention assignment agreement.
[5] Ten Tips for Making Solid Business Agreements and Contracts available at: http://www.nolo.com/legal-encyclopedia/make-business-contract-agreement-30313.html (Last visited August 25 2017).
[6] 14 Types of Contracts Your Startup Needs available at: http://blog.lawgeex.com/14-legal-contracts-your-startup-needs/ (Last visited August 25 2017).
[7] Jason Mendelson Venture Deals: Be Smarter Than Your Lawyer (Wiley, UK, 3rd edn., 2017).
