Even before a start-up company does its first day of business, there are many legal pitfalls that can be avoided if addressed early and aggressively. With planning and attention to detail, these potential pitfalls can be effectively managed.
1. Exercise caution when leaving employer.
If you previously worked for another employer, make sure you know what you've signed as an employee. Often, employers will have employees sign agreements that may restrict an employee's rights even after the employee is no longer with the business. Assignment of invention agreements, non-compete and non-solicitation agreements and confidentiality agreements are often used by employers to protect their businesses and restrict their employees' activities. Carefully review agreements you've signed to ensure you and your new business are not subject to any restrictions. Having a former employer sue you for a breach of contract would not be a good start for your new business.
2. Do business through an entity.
Doing business through an entity will provide you liability protection by keeping your business assets separate from your personal assets. The most common types of entities for start-up businesses are corporations, including C corporations and S corporations, limited liability companies and partnerships (limited or general). All of these entity types can provide liability protection to you, but all of them have their own particular tax treatment, owner/investor requirements, methods of transfer of ownership and other characteristics. Choosing the right business entity will require an examination of your particular circumstances and current plans and goals.
Once chosen, you must do business through your entity in the proper manner so that you don't lose your liability protection. To properly operate your business and maintain liability protection, you should create and maintain a separate bank account for your entity, enter into contracts and market the business using the entity name, and follow the rules created by Nevada law or your own organizational documents. While none of these are particularly difficult, they can be easily overlooked. The consequences of failing to do business through an entity or not respecting the entity once formed could be the difference between losing just your business assets or losing your business assets and all your non-business assets.
3. Keep good records.
This seems obvious, but small business owners are often busy doing so many tasks that simple items get pushed aside. Maintain proper minutes and consents from business meetings, organize and carefully read all contracts and document any loans that you make to or from the company. It is much easier to take the time and do these tasks as you go, as opposed to having to organize, document or recreate these matters after the fact.
4. Execute an owner agreement.
If you have more than one owner in your business, you and the other owners should enter into an agreement that sets forth how you will handle certain situations. You may have heard of shareholder agreements, buy-sell agreements, operating agreements, partnership agreements or transfer restriction agreements. Although they have different names due to the type of entity that is being utilized, each of these agreements has the common purpose of setting forth rights and restrictions on the owners of the business. Common topics included in these types of agreements include management and decision making powers, restriction on transferring the ownership of the business and provisions that set forth what will happen in the event of a death, bankruptcy or divorce of an owner. The goal is to agree on how you and the other owners will handle various events if those circumstances were to arise in the future. I have seen best friends, family members, spouses, and all sorts of close relationships ultimately destroyed because they didn't take time when starting the business to enter into an agreement on certain matters while they were still reaching for the same goals.
5. Protect your intellectual property.
Take the time to figure out what about your business is unique, and then decide if it is something that should be protected. All businesses have something unique, even if it is just its name. Protecting the unique aspects of your business could create more value for your company, and may prevent others from copying or stealing your ideas. Employers often have employees sign agreements that restrict their rights, and your company, as an employer, should do the same thing. Your company should have employees and owners sign an agreement that states they will not disclose company secrets, that they will assign all rights to any unique items they create while working for the company to the company, and perhaps that they will not compete with your company or solicit your clients, suppliers or current employees during and after their employment with the company.
6. Remember you are subject to securities laws.
When a company issues evidence of ownership (e.g. stock, LLC membership units or interests, or partnership shares), the company is issuing a security. All companies are subject to federal and state securities laws. In general, a company has to have an exemption from registering its securities at both the federal and state level. The good news is that there are various exemptions that are available to start-up companies, provided that certain requirements are met. So whether you are raising money from family or friends, or whether you may be interested in having investors in your company, in all cases you should consult an attorney who understands securities laws. This is an area where it is easy to run afoul, but with a little planning and understanding of securities laws, it is also easy to remain in compliance.
The common thread among all of these legal pitfalls is that each one can be navigated successfully with some education, preparation and attention to detail. There are people who have experience in dealing with these and other pitfalls who can advise you in your business. Other business owners, mentors and professional advisors are resources that you should utilize so that you can avoid unnecessary hazards and focus your time and energy on growing your start-up company.
Fritz Battcher is a partner in the Reno office of Holland & Hart LLP. Contact him at 775-327-3033 or though www.hollandhart.com.
