Top Ten Legal Mistakes Made by Entrepreneurs

by Fred Abramson on November 8, 2010 · 1 comment

The life of a start-up can be like riding the Taconic State Parkway, a single mistake can cause serious damage.   Many entrepreneurs try to “play lawyer” to try to save money.  I don’t really understand the concept.  Simply because you know how to change the oil in your car does not make you a mechanic.

Recently Harvard Business School professor Constance Bagley made  a list of the most frequent legal mistakes made by entrepreneurs, everything from hiring the wrong lawyer to puffing up the business plan. I bring you his list, along with my 2 cents.

  1. Thinking any legal problems can be solved later. If you are an entrepreneur, you don’t need me to tell you that you are probably engrossed by your idea. You think night and day about bringing your business to market. I see it all of the time. But when it comes time to thinking about the legal implications 0f your ideas, you procrastinate. “We don’t have enough money.”  “Let’s focus on producing the best product and we’ll deal with the legal issues later.”  Huge mistake.  Legal issues not addressed at the start, such as an inexpensive contract with a web developer can result in expensive litigation later.
  2. Promising more in the business plan than can be delivered and failing to comply with state and federal securities laws. In your business plan that present to potential investors, you have to be honest about valuating your business. If your valuation has no reasonable basis, you can be sued for fraud.  Be aware that there are securities laws that protect your grandmother’s friend Matilda from investing in your venture.
  3. Disclosing inventions without a nondisclosure agreement, or before the patent application is filed. Non-Disclosure Agreements also known as NDA’s are surprisingly cheap for a lawyer to draft. For less than an iPad 3G you can protect your business from someone stealing your ideas.
  4. Waiting to consider international intellectual property protection. First off, my firm handles only trademarks so I won’t discuss the legal ramifications of patents.  However, if you have any inkling that you want you brand to go global, do an international trademark search and register.  You don’t need the headache of dealing with a trademark infringement suit with a company from China.
  5. Negotiating venture capital financing based solely on the valuation. Valuation is not the be all and end all when it comes to financing.
  6. Issuing founder shares without vesting. Some entrepreneurs are great at creating ideas, but hate running a business. If you are planning to start your company with a number of founders, especially a serial entrepreneur, you must protect the founders who stay.  If a founder exits the venture early, then you can get back the shares.
  7. Failing to make a timely Section 83 (b) election. Your eyes are probably glazing over this one.  But the Section 83(b) election is vital for tax purposes, especially if you plan on paying the founders shares rather than a salary. An 83 (b) election allows the tax computation to be made based on the value at the time the shares are issued, which is often minimal.
  8. Failing to incorporate. Without incorporating, your personal assets would be put at risk.
  9. Starting a business while employed by a potential competitor, or hiring employees without first checking their agreements with the current employer and their knowledge of trade secrets. Your employer can argue that the company is theirs, especially if you worked on your project on company time.
  10. Hiring a lawyer not experienced in dealing with entrepreneurs. It is amazing how many entrepreneurs contact my office and only focus on price. “How much do you charge to review my contract.”  Business law is a specialty and requires experience.  Many lawyers don’t understand the 83(b) election, which if improperly drafted, could cost you hundreds of thousands of dollars.  A Venture Capitalist will have a seasoned attorney representing them and they will provide you paperwork that may contain traps. Why risk it?

The Law Office of Frederic R. Abramson represents entrepreneurs and start-up companies. Contact me at 212-233-0666.

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  • Very well said. The part about the proper contract for a web developer would have protected the Winklevosses when they contracted Zuck to do work at Harvard. Expensive mistake.
    Often times money is spent to get the best technology for the business while overlooking the legal expenses.

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