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The 4 Biggest mistakes that entrepreneurs/start-ups make when starting their business

August 17, 2016

If you speak to any entrepreneur or start-up founder worth his weight, you will hear stories of how he or she had several failures before he or she manage to succeed in their businesses. Even in their current business, certain errors, whether they were commercially-based or legal, could have been averted if they had the benefit of hindsight. These people will most likely say that the failures they had actually drove the success they finally had.

Whilst commercial- or business-related mistakes can be overcome if the “storm” is weathered and steps are taken to remedy these defects and prevent them from happening again, legal mistakes that occur at the start of a business may not be able to be so ridden or corrected and can ultimately lead to the folding of that business.

Mistake 1: Approaching an attorney too late

Most entrepreneurs wait until they are faced with a legal issue (most notably, litigation) before approaching an attorney. The main reasons for this can be found in the nature of the traits that entrepreneurs or founders of start-ups portray innately – they are risk-seeking and cost-averse. The push to seek out an entrepreneurial course versus the “mundane” 9 to 5 in corporates has its positives. It allows the entrepreneur/founder to find his or her creative outlet without the boundaries of a large corporation and giving him or her flexibility. Entrepreneurs/founders see legal advice and services as unnecessary costs, particularly upfront. They attempt to start up their new business using as little funds as possible, seeking greater profits at the expense of ensuring that all legal requirements are met. They are also concerned that their idea might be “stolen” before they get an opportunity to implement or commercialise it.

However, the traits of risk-seeking and cost-aversion can have its flaws in light of the above. It is far more costly to resolve a legal dispute or issue (if at all) than to have obtained proper and correct legal advice and services upfront. This also has the practical implication of stifling the raising of capital, which is so needed at the starting of a business. If you ask a venture capitalist who is looking for businesses to fund and take stakes in, one huge put-off is if there is litigation or legal issues – they want clean, profit-making business to invest in.

My advice is to find a lawyer who has experience in dealing with entrepreneurs/founders and the legal issues that their circumstances require. Of particular importance is Intellectual Property law and commercial law experience (of course this is a general statement and the needs of the business may require other specialities too). Just because the entrepreneur has an LLB or has taken other legal courses does not make him fit to handle the legal issues a start-up business needs.

Mistake 2: Lack of clarity in agreements with third parties and overcomplicating legal arrangements

What is worse than not going to a proper lawyer, is not taking his advice. Firstly, when having agreements prepared at the start of your business, clarity is more important than covering every single possible scenario that “may” materialise in the legal arrangement. The latter may be appropriate when you were working in your previous job as an investment banker at one of the major corporations; it lands up either stalling, delaying or even severing legal arrangements altogether. Also, complicated arrangements may be to no avail and/or the costs of such wasted, as new investors in your business may want to undo or alter the initial agreements, when negotiating their investment terms.

As Judge Harms stated in Namibian Minerals Corporation Ltd v Benguela Concessions Ltd 1997 (2) SA 548 at 561 so neatly expressed it: “It is truly astonishing how often businessmen conduct their affairs, involving at times huge financial interests, on the strength of crude and vague agreements and then ‘rely on hope, good spirits, bona fides and commercial expediency to make such agreements work’”.

My advice here is to “keep it simple” upfront, as this will keep costs low and allow for development of the legal arrangements in the future, where you have established the relationships with the third parties and more complicated agreements can be drawn at that stage.

Mistake 3: Avoiding difficult discussions with partners in the start-up business

Any partnership in any business, including a start-up, is compared to a marriage. In such a set-up, communication amongst the partners and providing a space where grievances and differences of opinion can be provided. “Hard talk” is sometimes required and this can only work if all the partners come to the party. This relates to all aspects of the business, whether it’s the profit-sharing arrangement or the splitting of the management and other responsibilities in the business. Leaving these issues to “fester” may only lead to the sinking of the business.

My advice is to address these issues head on, in a professional and amicable fashion. At the end of the day, these are going to be your “bedmates” for as long as the partnership remains in tact. Presumably you’ve selected these partners for what positive attributes they can bring to the business. Good relations obviously leads to good business results; and the reverse is also true.

Mistake 4: Violating pre-existing agreements with previous employers

In most employment contracts, particularly for skilled staff, there are included restraints of trade; non-solicitation clauses; non-use of employer’s property and prevention of “moonlighting” clauses. A huge problem that violates these clauses is that entrepreneurs/founders need to keep some form of income whilst they start their new business. Depending on what is contained in your employment contract, this activity may be prohibited.

A good example of the above occurred in King v South African Weather Services [2008] ZASCA 143 (27 November 2008). The basic facts were that King was an employee of the South African Weather Services (“SAWS”). During his tenure, he developed certain weather service software after hours and at home, which assisted with his daily job as an employee at SAWS. It had been part of his job to write software for SAWS. He argued that he was the author and owner of the computer programs, had until 30 June 2002 provided a licence for SAWS to use the software but from 30 June 2002 he had withdrawn such licence. The Court referred to authorship and ownership of computer programs and stated that an exception applies to the general rule that the author of the work is the first owner. The exception applies where the computer program is made ‘in the course and scope of employment’.

The Court stated that it was dangerous to formulate general rules to determine whether the work was authored in the course and scope of employment. It rather is a factual issue depending on the employment contract, and the facts and circumstances of the case. The Court held that King developed his programs for the purpose of collecting and collating meteorological data and its transmission to the head office of SAWS (as part of his job description). He did it because of his employment at SAWS. Furthermore, the Court stated that but for his employment at SAWS, he would not have made the software programs at all. They were purely work-related. Additionally, in assessing his own work performance with SAWS, he stated that development of software programs was one of his tasks. Notwithstanding his initial statement that he developed his programs after hours and at home, as time went on, more and more office hours were being spent on development of his software programs. The Court also rejected King’s attempts to rely on the Personnel Administration Standard for meteorological technicians, which did not list software programming; but the document was not intended to be all-embracing.  In addition, the court held that the scope of employment may change explicitly or by implication.

The Court stated that the fact that he made his programs at home is but one factor to take into account in assessing whether it was in the course and scope of his employment. Therefore, the Court held that the software program works were created in the course of his employment and were owned by SAWS. This is an extreme example of having your Intellectual Property taken from you because of the employment laws of South Africa. That Intellectual Property could have been the brainchild of your start-up – and now it is owned by your previous employer because you did not check your employment contract and whether .

Often, there are restraints of trade preventing an employee with specific skills from starting a competing business. There are opposite views on this issue: some say that the caveat subscriptor rule must apply and that the employee signed the document and must be bound by the restraint of trade. Others say that the restraint of trade is preventing such person from using his skills and knowledge to earn a living, which is enshrined in the Constitution. One must always look at the restraint clause itself and its reasonableness as to duration and geographical area. My advice here is to speak to an employment attorney who can advise on these scenarios.

Overall, you must understand your obligations to your previous employer at any stage that you start your business.

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