Every recent university graduate with a tech degree has a friend who dreams to launch a startup. Indeed, it could easily be the grad’s brother, or a third cousin of his father’s godmother. An so as usual, at first, our recent grad ignores these people, then snickers at them, and after all, he starts to envy them. Our grad has a tech degree as well, but why them and not him?
The answer is simple: our grad used to date with a girl from the other faculty who was extremely well versed in law. They used to spend warm nights together at the bench near the dorm where his personal legal adviser told him about the immanent character of supremacy of law and human dignity, about criminal sanctions for tax evasion and penalties for conducting business activities without setting up a company, as well as about financial reporting and complicated procedure of registration of legal entities. “So, the question is, why? I’d better become an outsourcer instead”, thought our grad.
If our lady lawyer had studied less, or if our earnest alumnus had dumped her sooner, he would have become a great startupper. And here is why.
When a you’ve got a cool idea for a startup, you shouldn’t overthink all the legal stuff. Instead, you’d better take a couple of your brainy friends, drag all the equipment you need into your garage, and start to develop your ideas together. Leave paranoia for a bad lawyers. Either of being preoccupied with the would-be penalties, a good startupper should think of how to turn the idea into reality. Otherwise, ideas can die even earlier than the hypothetical legal mess will become real.
Sure enough, this doesn’t mean that our recent grad has to screw legal aspects of his future business. Because, sooner or later, our grad will have to do the registration stuff, to sign some papers, to file some documents with authorities, etc. But, the question is, when is the right time.
Let us say, you are our recent grad. Normally, you’ve already got an idea. Together with a small team, you work on a product for half a year, and it’s actually not too bad. And here you are, you’ve even got some prototype. Success, however, you haven’t been spending much money just yet, and therefore, all your transactions are in cash. Thus, is it time to register a legal entity? Or maybe you’ve already broken the law and an angry taxman accompanied by an angry tax dog is already after you? And better believe me, this is quite common practice. As a result, business activities without proper registration, maximum security prison, then release on parole, and stuff like that…
Nevertheless, you have nothing to worry about on this stage. You can register a legal entity when your business starts to bring profit on a regular basis. If you’ve only started to search for investors, you may take your time with all the paperwork. However, if one of your sociable friends has already found someone you can show your startup ideas, it would be a good thing to confirm the reliability of your business relationships with your team members.
Worth to say, if you’ve started to work with these guys, your team is indeed reliable. You can rely on all of them, and you know for sure that neither of them will screw you. But still, you’d better be certain that all of you are on the same page regarding your future cooperation (actually you and your lady lawyer were meant to be together forever, too…).
You can use a protocol of intent in order to fix the terms of doing business with your startup teammates. Sometimes they call it the memorandum of understanding or a letter of intent, or a founders’ agreement, or a term sheet. Anyway, this is only about your intentions, and not about any obligations, how it may look like in a shareholders’ agreement. But such intentions should be clearly and explicitly stated. A term sheet is a common concept used by IT lawyers in the meaning of any preliminary agreement within the startup team, as well as with prospective investors (when the company hasn’t been set up yet).
Actually, it doesn’t mater what the title of your document is. The point is, it has to document the fact that you hang out together in some garage for a reason, which means you’re doing your business.
You can google a lot of similar document templates in English, like here or probaly here, or even better right here. You can also read a lot of articles on how to draw up such documents properly. Alternatively, you can seek legal advice, if it’s too complicated for you/if you have no time/ if you don’t feel like doing it yourself.
While looking through all the samples, try to work out the main things: you have to outline your roles, divide your corporate shares, intellectual property, describe how you’re going to deal with new investors, and how you’re going to break up with the team, just in case. At first, the samples may seem to be too complicated for someone who’s not so well versed in legal definitions. However, at the outset, it would be enough to specify the key aspects in general, and when there’s an investor, you’ll have to work out some more detailed and complicated term sheets for specific investment rounds and for specific investors. For now, all you want is to have a general picture, including all the hows, whats and whos, and also what ifs.
So, let’s get down to business and call our document a protocol of intent.
In the protocol of intent, every member of your team has to agree to set up a company together in future, where all members will play their own roles. For example, you’ll have the sales guy, the garage sponsor, the marketing lady and three pretty brainy developers. The sales guy gets the major share, and the marketing expert with the developers get equal shares from what’s left. In addition, they leave an undivided share for investors. For now, all decisions are taken unanimously.
Usually, after the whole team has been working on the project, bringing ideas to life and creating. As a result, the future company has actually acquired some intellectual property. According to the protocol of intent, every team member undertakes to assign to the future company all the products, such as the software you’ve developed, your website, documents, as well as the song you’ve written together to promote your product.
Сonceivably, you can also be an evil genius and include confidentiality and non-compete clauses into the draft protocol of intent. Therefore, if any team member leaves you in the future, this former team member won’t be able to use the products, or tell anybody about them, or work in similar projects. On the other hand, if your former teammate is an evil genius, just like you, he’s going to join the similar project and prove that non-compete provisions don’t work in Ukraine. However, if you’re even more wicked than the most diabolical genius ever, you may specify that your agreement is governed by the laws of the state where such provisions work. So, as you see, you can play ‘who’s more evil’ game forever. Particularly, if your lawyers charge you per hour. For those who are not so free with money, we recommend to strike a happy medium between trust and warranties.
Finally, in the protocol of intent, the team has to agree on what to do in case you’ve got your investor, and what to do if you haven’t got any (you never know). Optimistic thinking is a good thing, but things do happen. To be on the safe side (in case your project fails), you have to specify how you’re going to divide your intellectual property and how you’re going to break up. For instance, three pretty brainy developers get the developed software, the sales guy gets the website, and the marketing lady gets the song.
If your project succeeds, and you’ve got your investor (or investors), they’ll want to see your protocol of intent and either to use it as a basis for the term sheet, or use it to work out on a new and more serious document. “And what if there’s something wrong with your document?”, you may think. Indeed, your fears will return that you’re breaking the law, and you either register and notarize the agreement, or leave the country. You’ve made your document on google drive and put checkmarks in front of your names instead of signing it. All is lost (most likely)! Or even worse: you’ve lost your investor.
Don’t make things more complicated: there are no mandatory requirements as to the form of the protocol of intent. All your team members should sign it on paper. That’ll do to show it to your investor and demonstrate that everything is in place, and that you’re doing just fine in your garage, where you’re turning your brilliant ideas into reality.
So, if you’ve got an idea, a team, and a head on your shoulders, don’t worry and work without a legal entity, but with a protocol of intent. Wait for investors and leave paranoia for a bad lawyers. You’re a good startupper, aren’t you? This means it’s time for you to become a kind of ‘It’s gonna be me’ dude.