Going Out on Your Own Archives

Your Company Considering Investors? Get Ready to call the “C.O.P.”

Published on November 22nd, 2016 by Alan L. Sklover

“ In capitalism, those with the capital usually get the ism.”

– Unknown

ACTUAL CASE HISTORY: Paul and his partner, Elise, seemed to be “riding a rocket.” Their six-year-old software company had come up with a very neat solution to a common business problem, namely, real-time updating of the prices charged by a company’s critical suppliers. It almost ensured lowest prices.

Their success, though, was their problem: they needed to hire very talented coders, who were in increasing demand, and for this reason quite expensive to hire. This left them cash-starved, and unable to continually update and enhance their product to meet market demand. Fortunately through their accountant, they were introduced to an investment firm that was interested in providing a cash infusion in return for a piece of the company’s ownership.

The initial meetings went quite well. In return for a $5 million cash infusion, the investors wanted only 10% of the company’s stock, and 5% of its profits. After a brief time Paul and Elise suggested that their business attorney – an expert in software patents – prepare the necessary legal papers. Instead, the investment firm suggested their own internal attorney should prepare the legal papers, in order to save money for Paul’s business, which was “music” to Paul’s ears.

After presentation, review and minor modifications of the legal papers, the investment was completed, and Paul and Elise were more ready than ever to grow their business through new – and now affordable – hiring opportunities.

All went well . . . for about six months. Then the Board, now composed of Paul and Elise, and three younger members of the investment firm, had one of its monthly meetings. At that meeting, the Board voted 3 to 2 to cut salaries and benefits by about 10% in order to slow the company’s rate of “cash burn.”

Paul and Elise didn’t think it would be a good idea, but they gave in, and explained to their staff members that this was a sign of “long term thinking,” and necessary to show the investors their deep commitment. They also cautioned their staff that the cuts were necessary to keep relations with the investors on a positive note.

Two months later, the “fit hit the shan” when the Board voted to issue a “special dividend” to the investment firm, in effect, to themselves, and replace the company accountant and the company lawyer with their own. Paul and Elise started feeling like someone had “hijacked” their company. Unfortunately, they were right. What they had built up over years of effort and sacrifice was, slowly but surely, slipping through their fingers.

The changes kept coming, including a decision to pay the investment company a monthly “management services fee,” a company name change, the office was relocated, more debt was piled on, and the investors even brought in other investors, with what was called “super-voting” shares. Before they knew it, the best assets of the company were being sold to competitors, while Paul and Elise were reduced to mid-level managers of a company they once independently ran. This was not what they had envisioned. Not near it.

When they consulted their own attorney, they soon learned that his expertise in software patents was not expertise in company operating documents, and that embedded in the legal documents they had signed, nearly invisible to them, was their agreement to permit the investors to do essentially whatever they wanted.

Yes, the investors still owned just 10% of the “stock,” and received just 5% of the “profits.” While at first that seemed comforting to Paul and Elise, the larger “control” decisions being made daily made “ownership” and “profit” issues not to matter much at all.

LESSON TO LEARN: “C.O.P.” stands for “Control,” “Ownership,” and “Profits.” It is an analytical and explanatory rule of thumb I have made up and use often when working with the creation, growth and evolution of small and/or young companies.

“C” stands for “Control.” Control means who will make decisions, how they can be made, and what limits exist on those decisions. The “Control” provisions of a company’s operating agreement (no matter what its title may be) are rather boring, often confusing, and almost always ignored by the non-lawyers. That often leads to tragedy, because “control” provisions can change who owns a company, what profits they get, and even who will remain owners, officers or employees of a company. “C” comes before O and P in the alphabet, and comes first in “C.O.P.” because it is far and away the most important of “C.O.P.”

“O” stands for “Ownership.” Ownership means who owns how much of a company. While it seems to be so very important, if those who “Control” a company can change its future ownership, what “ownership” means, or who gets the usual “fruits” of being an owner, it makes the initial ownership not as important as it often seems.

“P” stands for “Profits.” Profits means who gets moneys that the company earns, after paying the bills and taxes, and how much they get of the profits. Profits is the least important, because it can be changed in so many ways by those who have Control to do so. “P” comes after “C” and “O” in the alphabet, and comes last in “C.O.P.” because it is far and away least important of the three.

The legal documents that govern how a small or young company operates are essentially devoted to (1) who will make what decisions, (2) how those decisions will be made, and (3) the limits, if any, on those decisions. (Sort of like the U.S. Constitution, come to think of it.) Unfortunately, these documents are often very confusing, obtuse and highly “legalistic,” enough so that they can put an insomniac to sleep. Attorneys not familiar with the issues that arise in the “governance” of smaller businesses, and the applicable law, often meekly comment “Looks pretty good to me,” which is a sure sign that he or she is well beyond his or her legal expertise and street smarts.

When presented with a business operating agreement by potential investors – a “partnership agreement” for a partnership, a “shareholder agreement” for a corporation, or an “operating agreement” for a limited liability company – principals and their attorneys often mistakenly focus, first, on “Ownership,” and numbers of “shares” or “units,” which describe who owns how much of a company. The thought is, “If we own a majority of the shares (or units), majority rules, right?” The truth is, “No. Not necessarily.”

Next, principals and their attorneys, when presented with a business operating agreement by potential investors, often next focus on the “Profits,” or the phrase “profit distribution.” If a certain amount or percentage seems reasonable, then they are often pleased, seeing a reasonable sharing of profits as a sure sign of good intentions and reasonable business investor-partners.

What they rarely focus on sufficiently, because it is a “fuzzy” concept often “buried” or “disguised” in a whole slew of provisions written in legal mumbo-jumbo (that is a Latin phrase meaning “hocus pocus”) is the most important issue: “Control,” meaning “Who makes what decisions, how, and what limits exist on those decisions?” At the risk of being sued, I will refer to this issue as “The Art of the Deal” although, in truth, it is often more accurately characterized as “The Art of the Steal.”

So, the focus of thinking, analyzing and negotiating investment in small businesses must be on “Control” because whoever has control can later change both “Ownership” and “Profits.” Got it? “C.O.P.” and “C” comes first.

Don’t get me wrong: ownership and profits are really important issues. But if someone has the “Control” to change them, against your judgment or will, the initial “Ownership” and the initial “Profits” don’t mean a hill of beans, as those with “control” can change them. And, if they have the “Control” to fire you, or your partners, or change the name, location and model of the business, what good is their investment in the first place?

There are innumerable ways that “Control” can be disguised, stolen and “fuzzied.” The idea is to make sure it is hard, if not impossible, to make later important decisions against your wishes, in violation of your vision, and against your interests, by asking for changes, or insertion of limits, that will protect your “business baby.”

Bear in mind, something that is also quite important: only you understand your business, how it works, what makes it tick, and even what your vision is. Don’t presume that your lawyer or any other lawyer knows those things – and the things you fear, too. We all know you want your business to succeed and grow. We don’t know that much about what you would find hurtful to your dream, because, frankly, it is your dream. The best collaboration with an attorney on these issues takes several cups of coffee, multiple mugs of beer, or at least a whole lot of candid conversation.

Bottom line: as you can see, a 10% ownership and 5% share of profits, can – by legal papers – be turned into a sale of a company. When it happens in a large company, we call it a “corporate takeover.” In a smaller version, it is simply a personal tragedy.

WHAT YOU CAN DO: Like it or not, investors in a smaller or younger company often have different interests than those who have started and/or built it. And their perspectives may be different, too. If your company finds itself about to speak with “money people” regarding their coming in as investors, don’t let them hijack the ship. Use “C.O.P.” as your analytical and navigational tool. Here are 18 pointers, hints, and insights to help you do so:
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Growing Business Need Funding? Think “S.L.I.C.E.”

Published on September 27th, 2016 by Alan L. Sklover

“In capitalism, if you don’t have the capital,
you can’t get the ism.”

– Unknown

ACTUAL CASE HISTORY: Actually, I’ve assisted in numerous case histories on this issue. So many of my clients have, sooner or later, earlier or later in life, decided to leave the world of employment and go out on their own into one sort of business or another. Some have continued in their existing industries or professions, some have ventured out into a new and exciting industry. Some of the new industries they have ventured out into have only existed for a few years.

Perhaps the one misconception that most people have about growing businesses concerns their continual need for new funding: Most people believe that a growing business gushes with extra cash, so that their owners can take out for themselves greater and greater income. The truth is just the opposite: a growing young company – no matter how successful – is almost always in constant need of extra funding. It’s like a 9-year-old child who needs new sneakers and clothing every six months due to rapid growth, but is not yet old enough to get a job to pay for them; instead, parental assistance is necessary.

If your new or growing company is in this mode, here’s a general outline of thinking that has been of help to my clients in your circumstances.

LESSON TO LEARN: If you want to be a business person, you’ve got to accept the cold, hard fact that access to capital is your oxygen; without it you simply cannot survive. Sooner or later you will have a “dry spell” that will strain your resources, or perhaps miss important opportunities due to funding restrictions that will go instead to your well-funded competitors.

There are many sources of business capital, ranging from winning the lottery to robbing a bank, neither of which would I suggest you depend on or resort to. Rather, my own clients have depended upon a variety of funding sources that are realistic. For them, we have identified five sources of potential growth capital, the first letters of which conveniently spell the acronym “S.L.I.C.E.”

Each new company has its own unique circumstances, needs, assets, resources, opportunities and quirks. But each new and growing company needs, too, its own “guide” up “the mountain” of business growth. That is why we offer this conceptual framework for you. With it you can begin to focus your thinking, focus your efforts, and more likely achieve your funding needs and your business growth goals.

A caveat: When you read over this list of five sources of growth funding, and think about it and discuss it with your friends, partners or advisors, you need to maintain a wide-open mind. One or another of the explained alternative sources of funding may, at first glance, seem entirely inapplicable, impractical and/or unfeasible. You will likely be tempted to quickly discard one of more of them as impractical, inapplicable or even beyond your company’s capabilities. I urge you not to close your mind prematurely, or for that matter, ever.

Don’t make up your mind so fast; instead brainstorm to determine how you might possibly consider each alternative funding source. No, you should not rob a bank; but you should seek out even unknown Aunt Sadie’s with lots of money and nothing to do with it. The real trick to identifying and acquiring capital for new or growing businesses is creativity, because no one source of growth capital fits all, and all you need is one. I am convinced that, but for the necessary creativity and perseverance in the search for growth capital, many businesses that failed would not have done so.

A second important point: These sources of growth capital are not mutually exclusive. In fact, they are quite complementary. For example, lenders and investors like to see founders put some of their own money into the mix, or as it is often referred to, “skin in the game” before they “contribute” their own. Such “self-funding” combined with “loans,” is just one example of complementary sources of growth funding.

WHAT YOU CAN DO: With your own business needs, circumstances and opportunities in mind, consider these five broad categories of growth capital:
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Non-Solicitation Does NOT Mean Non-Communication

Published on May 25th, 2016 by Alan L. Sklover

Keep in Touch with Clients During Non-Solicit Periods

“ Make new friends but keep the old.
One is silver and the other gold.”

– Traditional Girl Scout Song

ACTUAL CASE HISTORIES: In recent years, there has been an undeniable increase in the number of employees, worldwide, who are required to sign “non-competition” agreements by their employers. Recently, though, “non-compete’s” are facing greater scrutiny and skepticism than ever before among many Judges, as non-compete agreements frequently entail keeping a working person – and probably a person supporting a family – out of work without a really good reason. Thus, employers and their lawyers are finding the enforceability of non-compete agreements less and less certain as time goes on.

As a result, with the same goal in mind – not losing clients and customers when an employee leaves – many employers are changing tactics. The increasingly popular tactic is to use “non-solicitation” agreements, instead, which permit employees to work for any employer of their choice, but requires them to refrain from “soliciting” business from the former employer’s customers and clients for a period of time, commonly from three months to 24 months. These are finding a more hospitable response from Judges when they are asked to rule on their enforceability.

Judges are far more likely to enforce non-solicitation agreements because they do not mandate the employee’s inability to work in their field of endeavor, but merely avoiding going after the business of the employer’s clients.

Like any other restrictive agreement, employees must abide by the terms of their non-solicitation agreements. That said, we have found, that many of our clients have not only avoided “soliciting” business from their former employers’ clients, but have also avoided any contact or communications with them whatsoever, which is entirely unnecessary and often quite self-defeating.

Out of a gut-level – and irrational – fear, many employees completely shut down their communications with their former customers and clients, without good reason, and by doing so decrease the chances that, after the non-solicitation period has expired, they can promptly resume the business relation previously enjoyed, as well as the fruits of it.

Don’t unnecessarily limit yourself. Maintain your valuable and hard-won client relations while under the restrictions of a non-solicitation; just don’t solicit. It’s that simple.

LESSON TO LEARN: Here is the text of a commonly worded non-solicitation agreement:

    “Employee agrees that during his or her employment by the Company and for a period of one (1) year after Employee has ceased to be employed by the Company for any reason, Employee shall not, without the prior written consent of the Company, directly or directly solicit, divert or take away, or attempt to divert or take away, the business or patronage of, the Company’s clients, customers, or accounts, or active or prospective clients, customers, or accounts.”

While it may sound confusing, it is easier analyzed if you simply “parse” it – which means cut it up into “bite-sized pieces.” As an experienced employment lawyer, all I see is (1) one year, (2) will not in any way, (3) try to solicit or take away, (4) business, from (5) the company’s clients and prospective clients. Does it say “Stop all communications with customers and prospective customers? No, nothing like that . . . so long as the communications do not “seek to solicit or divert business.”

That distinction is an important one, because the business and personal relations you may have established in dealing with customers and clients are a good part of your value in your field. Those relations do not have to be “ended cold,” but can be “kept warm” until the non-solicitation period of time is over.

Having signed a non-solicitation agreement does NOT mean that you cannot communicate with your employer’s clients. Nor does it mean cannot maintain your personal relations with your former employer’s clients. And, too, it does not mean you cannot plan to solicit their business. It just means that you cannot directly or indirectly “solicit” them or their business.

Far too many people who are under non-solicitation restrictions unnecessarily limit their activities and communications, and in doing so unnecessarily limit their career success, after signing a non-solicitation agreement

If the non-solicitation agreement you signed is worded like the one above, written only with “solicitation” in mind, then you are free to do everything else. So long as you do it very carefully, it may be very much in your interests when later – after the non-solicitation period has expired –
soliciting their business.

Life is hard enough. Don’t defeat yourself. Do keep in touch with the clients of your former employer. By continually keeping in touch you only increase your chances of them becoming your clients when “the coast is clear.”

WHAT YOU CAN DO: If you have signed a non-solicitation agreement, bear these thoughts in mind, and don’t shortchange yourself:
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Offered a Position and Shares in a Start-Up? – 10 Traps in the Legal Papers, and Your Ways Out

Published on March 9th, 2016 by Alan L. Sklover

“The spirit of our verbal agreement was true partnership, but
over time it morphed into this one-sided employment arrangement.”

– Actual Client Comment

ACTUAL CASE HISTORY: Kent was the Senior Editor of a major sports-related magazine. He was recruited away by a competing start-up publication, induced to leave his employer of many years by a promise of great wealth to be achieved through his becoming a minority shareholder of the new or young company. Kent gave the new magazine credibility, and for joining he was offered a large number of “Class B” interests in the company.

“When we are sold, or go public, you will become quite, quite wealthy” he was many times told by the start-up’s founder and investors. That was repeated so many times that Kent had already begun to consider where he would purchase his retirement dream, a horse farm.

Through an heroic contribution of energy, imagination, devotion, daring and perseverance, Kent helped the new magazine take significant market share away from larger, more-established competitors. He treated the new magazine as “his baby.” On a salary lower than he was used to, and minimal benefits, he built quite a powerhouse in just a few years. Sure enough, the magazine had attracted great interest, and a communications consortium came forward seeking to purchase the company that owned the magazine. For Kent, however, that was the beginning of his problems.

It all started with a casual management meeting that devolved into a discussion of Kent’s poor judgment, and then an announcement that Kent was being let go. It got worse when he learned that, because he was being let go, he would lose all of his unvested stock. Still worse, he found out that the company had a right to repurchase his vested stock for just $3,000. A third type of stock Kent had been given as a bonus had been so “diluted” by the company issuing 10 million new shares to investors that his remaining interests were worth about $45.00. Finally, he was reminded that the original documents he signed provided that Kent could now not work in the magazine industry for the next 24 months.

No job. No stock. No future. The dream had, somehow, turned into a nightmare. When Kent protested that this was not consistent with the spirit of the deal, he was simply advised, “Speak to your lawyer . . . the one who let you sign those papers.” That is when Kent called us – and not his previous lawyer – to try to salvage the situation.

More times than I can count,: someone contacts my firm and says, “I am being offered a new job. As part of the compensation package, they are offering me shares or units in the new or young company. Can you help me?” My answer is always, “Sure, I have done that many times.” A more candid answer would be “Sure, I have done that many times. However, it’s not an easy thing to do.”

“Why?” you might ask. It is not easy because lawyers for business founders or owners – particularly “Private Equity” owners, almost always make it difficult, and intentionally so. They do so in three basic ways:

First, by purposeful confusion. That is, by preparing three or four different agreements that, together, constitute one offer: (1) one that pertains to employment; (2) one that pertains to non-competition agreements, (3) one that pertains to company self-governance, itself, and (4) one that pertains to earning, vesting and possibly losing ownership interests. It’s a lot of words, a lot of pages and a lot of jargon. No single employee can understand it all. It is quite rare to find an attorney who has experience in each field. In this way, the key points – and real risks – get buried.

Second, through dreams of sugarplums. As the saying goes, “The large print giveth, and the small print taketh away.” Said a bit differently, the potential rewards are highlighted, while the likely risks are made quite difficult to spot, and even more difficult to remedy. Thus, clients begin to count their eventual wealth, which naturally blinds them.

Third, with complexity of cure. When you have three of four separate agreements, often in different typefaces, often without page numbers, always with different paragraph numbering systems and – most complex of all – with hard-to-understand, almost irrational definitions of words and phrases.

There are just too many ways, in too many different places, that the risks are effectively hidden, and the rewards are potentially forfeited. It is something akin to the game of “Whack-A-Mole,” where every time a mole appears from the ground, and you whack at him, another mole pops his head up from another mole hole.

In no other part of my practice of decades have I seen more “bait and switch” than I have in this context. The employee must make life changes and agree to restrictions NOW in return for a mere PROMISE of something to be delivered later, which “something” may in all likelihood never come to be, or if it does come to be, is perhaps 1/1000th as valuable as originally suggested.

LESSON TO LEARN: The task before us is tough: making real – at least likely – the dream opportunity, which by the legal papers has been diminished, made unlikely, and often turned into a nightmare reality by confusing, confounding and complex legal drafting. One thing the legal drafting is not is accidental. Rather it is quite intentional. That is the one thing I can guarantee you.

No matter how difficult the task at hand may be, you are so much more likely to be successful in it if you know what you are doing. Thus, by knowing the essential deal points in this context, and knowing how to address them, can only be helpful.

So long as your requests for change in the legal papers is respectfully presented, reasonable in magnitude and accompanied by a rationale – that is “I want to join you. I just need some things made clearer before I can comfortably come aboard.”

Simply signing what is before you, and hoping that you will be treated “fairly,” is not something that I have seen work out well for employees. And, too, you owe it to yourself and your family to try to avert calamity in your quest for that pot of gold. Here’s how:
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“Non-Solicitation Agreements – Ten Practical Questions”

Published on February 2nd, 2016 by Alan L. Sklover

Question: Dear Alan: I was laid off two weeks ago from my position at a marketing firm. In my severance agreement, there is a “Non-Solicitation” clause that says this:

“I agree that, for six months, I will not, directly or indirectly, solicit, contact, or identify any of the Firm’s clients or prospective clients on behalf of any person or company.”

I have decided to open up my own marketing firm and have several questions for you. Can you please answer them. Thank you

Erica
Cheyenne, Wyoming

Answer: Dear Erica: Here are my answers to your questions:
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Alan L. Sklover

Alan L. Sklover

Employment Attorney
and Career Strategist
for over 35 years

Job Security and Career Success now depend on knowing how to navigate and negotiate to gain the most for your skills, time and efforts. Learn the trade secrets and 'uncommon common sense' of Attorney Alan L. Sklover, the leading authority on "Negotiating for Yourself at Work™".

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