Many founders utilize the expertise of a tech startup lawyer and other professionals to mitigate the mistake(s) of not understanding the legal obligations when creating their business or developing their products.
There are many websites on the internet for legal marketing which claim to provide "strategic partnerships," however, very few of these sites go into much detail regarding what goes wrong when a business's deal falls apart. Most of the information on these sites contains only a brief list of "services" provided as "advice" but fail to take into account the realities associated with startup operations.
Founders aren't looking for broad legal knowledge, they require a specific outline to show how various legal actions can impact the future of their companies. Qualified legal counsel will create a framework for structuring deals and how to protect the interests of the founders and their investors.
Why You Need a Specialized Tech Startup Lawyer
A general business lawyer can create a corporate structure for your company, but that corporate structure could easily end up hindering your first venture investment.
If you search for a general legal service provider online, you will likely find results for generic legal service providers with broad areas of practice that will mislead you into thinking that all legal services are the same.
They aren’t.
The High Cost of Missing Important Legal Steps
Generic advice often suggests that you should engage the services of a lawyer "early." However, the true execution of a startup requires that you first acquire certain documentation before you begin to write code or pitch your concept to potential investors.
A typical, local lawyer could facilitate the establishment of a basic LLC for you, but most serious investors prefer a Delaware C-corp and expect to receive a written certificate of incorporation and properly executed 83(b) election forms.
If your founders do not have a complete chain of title (or any other legal means of ownership) for the intellectual property associated with their startup business, when a potential investor conducts due diligence, it will result in the cessation of your transaction.
This loss of momentum will stop your ability to negotiate effectively and will hinder your ability to close the transaction. The purpose of utilizing a specific tech startup lawyer is to avoid the exact scenario described above by instituting best practices for the venture capital community as it relates to your very first actions.
Looking for Real Experience
There are numerous sites for the leading law firms that tout "years of experience" or terms of up to $1 billion in transactions, but they generally fail to outline how they would resolve the complicated capitalization table of a seed stage company.
Do not rely on a broad website statement. Be specific in requesting that they explain how they would handle specific situations.
Inquire about how they would structure SAFE notes or convertible notes during a very fast pre-seed round. You require evidence that they possess an understanding of the precise mechanics of contemporary technology funding rather than merely small business loans issued in the past.
What Legal Work You Need at Each Growth Stage
A comprehensive legal budget mapping against your exact growth stage will waste valuable capital. You require specific deliverables on specific timelines.
Getting Control of Your Ideas and Founders Before Raising Money
Prior to raising funds, you must focus on clarity of ownership/control (i.e. all founders agree on "50/50".).
This requires an initial agreement among all founders that will be signed at the time of formation regarding how/deferred vesting will occur. Furthermore, this requires that all founders transfer all intellectual property immediately upon incorporating the new entity.
Any delay creates a significant operational gap. Legal fees triple, and the time frame for raising funds increases by up to six weeks if the founders wait to address their ownership structure until there is a signed term sheet.
Moving from Early Users to Big Business Customers
Once a SaaS company transitions from being in the early-adopter stage to having enterprise customers, the legal requirements change immediately.
Your counsel must fully understand the process involved when it comes to modern software sales. An out of the box terms of service document will be inadequate at the enterprise level.
You require a legal professional who has the experience to negotiate complicated master services agreements (MSAs) and understand exactly where the liability cap and service levels are drawn.
Navigating the complexity of privacy and data risk in today's environment is easy, but fails miserably if a person utilises artificial intelligence (AI) functionalities with a globally located user base will be at risk of immediate regulatory lawsuit.
Data privacy cannot be left as an addition; therefore, your tech startup lawyer will be capable of drafting an appropriate data processing agreement (DPA).
Moreover, if AI functionality is utilised to process your clients' information, they will also be in a position to assess the various types of privacy risk associated with your utilisation of that particular model of artificial intelligence technology. Failure to address these identified issues could result in making a once-promising software product now an un-fundable liability.
When evaluating the delivery of legal services and associated costs, it is never appropriate to accept the open-ended hourly billing of early-stage legal services, which are normally provided at discounted rates.
The legal industry is evolving as a result of tech-focused counsel recognising and embracing budget predictability; therefore, founders must demand clear answers to their questions in regard to fees before they agree to sign a legal engagement letter.
When interviewing potential counsel for your organisation, the following specific requirements must be enforced:
Demand a clear flat fee structure for both the formation of a Delaware C-corporation and for the initial founders' agreements.
Obtain concrete evidence of how the counsel "cleans up" broken capitalisation tables before the commencement of the major due diligence process.
Request a confirmation that the counsel has direct experience in the negotiation of modern SaaS liability terms and the compliance with AI data rules.
Request confirmation of their expected turnaround times for critical deal documents (e.g., SAFEs, term sheets).
If a company cannot answer the above questions adequately, you should not proceed.
How a Tech Startup Lawyer Can Help Your Business Grow
Rather than encumbering you with expenses associated with the requirement for legal counsel, they should provide you with the ability to expedite transactions and establish credibility with enterprise clients.
The purpose is to establish an infrastructure that is so clear and predictable that it creates confidence in your business from both potential investors and large corporations, which is the primary goal. The attorney who understands speed and accuracy are the greatest advantages to start-ups should be your legal counsel.
Common Legal Questions for Startup Founders
How Delayed Idea Ownership Hurts Your Funding
Investors purchase the company and not the owners (founders). Without the legal assignment of the intellectual property to the corporation, the corporation has no value.
If assigned volumes are missing, the due diligence process stops and investors will not wire funds until they receive verifiable proof of the chain of title. Founders will often be forced to hire a tech startup lawyer for hurried, costly legal cleanups to create the verifiable proof of the chain of title, which can severely damage their negotiating position.
When Do Template Contracts Become Dangerous?
Templates fail once the company begins to target enterprise clients. Enterprise clients require a custom MSA that has a much higher liability limit, rigorous notice of data breaches, and complicated indemnification provisions.
Because of this, if you are using a template while negotiating with an enterprise client, they will perceive your company as not being sufficiently developed and thus being at a very high risk of experiencing catastrophic loss, whether that be as a result of your software's failure or data breach.
Why Do Investors Walk Away from Messy Cap Tables?
If there is an issue with your cap table, there is an immediate concern about the ability of the founders to manage their company's finances properly.
If the founder has made promises of ownership to someone, but has not documented those promises, if they can work out the price of its options incorrectly, or if past investors do not know what their rights are, the new investor does not have any way of calculating what percentage of the company they own.
The risk that comes with these unknowns could lead to a future lawsuit or a hidden equity claim against your company, and ultimately it's enough to make a venture capital firm walk away from an otherwise qualified opportunity.
How AI and Data Rules Change Software Deals
Enterprise clients are now conducting strict audits of how their data is used to train AI-based machine learning models. This is now the case because standard privacy policies are no longer sufficient.
You will now need to give the enterprise client a data processing agreement detailing where the data goes, how it is stored, and whether it is made available to the third-party AI platform.
If you do not provide this agreement, you will not be able to sell the software to enterprise clients, and you will also run the risk of being penalized under the new regulatory framework.