Your domain name (such as www.BoadweeLaw.com) is your address on the web. Choose it with care, because you’ll be promoting it to potential customers in marketing materials, emails, search results, and the like.
Your domain name, your company name and your trademarks are all separate for legal purposes. In other words, obtaining a company name (such as a corporate or limited liability company (LLC) name from the Secretary of State of your state), or an assumed name or DBA name, does not provide you with a domain name, or vice versa. You even can have many domain names that point to the same web site (ask your domain name provider how to “redirect” the traffic to the site.)
A domain name itself is not a trademark. If you want to protect your business from others using company names or domain names similar to yours for similar or competing goods or services, you should obtain a trademark registration. Many businesses use the web to establish a national presence. A federal trademark registration will best preserve your ability to use your brand throughout the United States. Also, even if you don’t register your mark, it is usually a good idea to search for conflicting trademarks owned by others, because they may be able to seize your domain name (or even sue for damages) if it conflicts with their pre-existing trademark rights.
It seems that every service provider today seeks what MBA’s call a “recurring revenue stream” – i.e., a service plan in which you keep paying and paying… month after month… like a utility bill. The terms and conditions are most likely non-negotiable. Unless you have a large company or purchase a great deal of bandwidth, you’ll likely have to take the terms offered by your telephone or cable company for internet access, whether by DSL, cable modem or wireless. Similarly, web site hosting, email, ecommerce and shopping cart providers offer monthly services. Ask yourself whether you truly need these services as a utility, or could make an upfront purchase and maintain the resources yourself. Compare features, reliability and support.
With some care, you can reduce your expenses and your risk. First, try to purchase ownership of any web sites, designs, etc. that you commission, if the price is right for you. The providers probably won’t grant this if you are subscribing to off-the-shelf functionality (such as a hosted online shopping cart) or if you are paying a lower rate for a template that the provider uses for other customers. Second, make sure that independent contractors, such as web designers or web masters, have written agreements with you. Take ownership of their work product whenever you can. Third, be sure to obtain photo permissions and other content licenses in your name (not your contractor’s name), so that you are clearly the owner. If you fail to do this, you may find yourself with “hidden” landlords demanding payment.
As a business owner in the bricks and mortar world, you might post a sign with your check acceptance and product returns policies so that customers would understand what you expect in dealing with them. The web is similar. To place these policies in your online store or site, post “Terms of Service” (TOS) or an “End User Agreement” on your web site.
The Disclaimer of Warranty is a critical piece of your TOS. The Disclaimer of Warranty might state, for example, “THIS SITE AND ITS CONTENTS ARE PROVIDED AS-IS, AND ALL WARRANTIES OF MERCHANTIBILITY AND FITNESS FOR A PARTICULAR PURPOSE ARE DISCLAIMED.” This is derived from the Uniform Commercial Code (UCC) as enacted by all states, and is intended to protect you from unjustified claims that your site or statements on your site created an official “warranty” to your potential customers. (You should also disclaim liability for third-party sites to which you link.) Another essential TOS provision is the Limitation of Liability, which limits the amount of damages that can be recovered in a lawsuit. TOS can also include your other sales and returns policies, licenses to use intellectual property, support terms and other legal terms unique to your business (for example, if your business is regulated by the government). TOS also may include notices of any copyrights, trademarks or patents that you own. TOS may seem to be fairly generic, but should be drafted or reviewed by a lawyer to tailor them specifically to your business.
Terms of Service commonly are provided through a text link at the bottom of all the pages of the web site, but that approach currently is not legally enforceable in all situations or all states. If you are selling high-value goods or otherwise need a clearly enforceable contract, then the customer should click an “I agree” button after looking at the Terms of Service and before proceeding with entering an order, etc. Have a lawyer review the order flow.
There are good business reasons for posting a privacy policy on your web site, including customers’ confidence in your use of their personal information so that they return to buy again and again. Operators of commercial web sites that collect “personally identifiable information” from California consumers must post conspicuously a privacy policy on specified pages of their sites (including the home page), as required by the California Online Privacy Protection Act of 2003. (An operator is in violation if it fails to post a privacy policy within 30 days after being notified of non-compliance.)
The Direct Marketing Association offers a “privacy policy generator.” Privacy seal companies, such TRUSTe and BBB Online, offer useful models and guidance for privacy policies, as well as “privacy seal programs” with a logo to give your customers a higher level of assurance. Because these policies can be enforced much like a contract, a lawyer should review them before posting.
You wouldn’t leave the front door to your business unlocked when you go home at night. You shouldn’t leave your online store unlocked either. Insecure systems and business practices leave you vulnerable to hackers and your customers vulnerable to identity theft or worse. Also, California and many other states now require disclosure to customers of security breaches that compromise their personal information, and federal bills to regulate this area are pending as of November 2005.
Evaluate your vendors and service providers with an eye to security. Are they using industry-standard practices, such as encrypting credit-card data? For example, many sites do this by using “SSL” encryption for communication between electronic shopping carts and web browsers. Use care when disposing of documents that contain sensitive customer information; if on paper, shred them, and if electronic, make sure they are erased thoroughly. The Federal Trade Commission (FTC) enacted a “Disposal Rule” that requires businesses to use reasonable efforts (such as shredding) to destroy consumer credit reports and credit scores and other specified similar information.
It’s essential today for sites to enable two-way dialogues with their visitors, for example, by enabling visitors to post online feedback about their products or customer service. Unfortunately, customers don’t always realize that posting other people’s text, songs or images could violate copyrights – and result in liability to you, the web site operator, as a “contributory infringer” (essentially, an accomplice to violation of the owner’s rights). A federal law, the Digital Millennium Copyright Act (DMCA), can protect you from this liability. You need to implement a specific procedure to review and respond to written complaints from copyright owners (also known as “takedown notices”), and must investigate and remove any genuinely infringing material when requested. This procedure should be described on your web site.
Cash may be King in the real world, but not on the web. That means you most likely will need to accept credit cards, and thus will need a merchant credit card account. Available offerings include an account with Paypal for small or eBay-focused businesses, a merchant account integrated with an online storefront, or even a traditional merchant account for customers who see your telephone number on your site and call you. Some providers permit acceptance of debit/ATM cards now as well. And some larger businesses now enable customers to sign up directly for electronic withdrawal of funds directly from their bank accounts, much like an electronic check (also called ACH debit). Shop carefully and watch out for up-front fees, and compare commission percentages. Remember too that credit card charges are subject to chargeback by the credit card company if the customer objects to the charges.
In many ways, the web is like a giant bazaar, with a constant ebb and flow of price negotiations. eBay is famous for its online auctions, with automated bidding procedures. Likewise, Google and Yahoo Search Marketing (and its predecessor, Overture) have extended the auction model to advertising – short text ads can be purchased through a competitive bidding process that is continually updated. This is a much different model from buying an ad of a certain size and placement in the Yellow Pages or classified ad section of the local newspaper! It creates a new complexity to buying ads – make sure you understand the system and read the fine print carefully. Many firms hire consultants to help them get the best results from online marketing. Expect to see these dynamic mechanisms applied to other areas of commercial life, as well.
Just as in the real world, your reputation is important. Many systems and marketplaces include online evaluations available to all users. For example, eBay and Amazon sellers strive for high evaluations by offering great service and dealing effectively with customer complaints. It may be extremely difficult or even impossible to delete any negative comments. For example, a web service called the “Wayback Machine” enables users to see older, archived versions of web pages. In addition, sending email too liberally may result in your company being branded a spammer, and being added to the “blackhole” lists that result in all your emails being undeliverable. The federal CAN-SPAM Act regulates commercial email. You simply can’t be too careful with your reputation – either offline or on the web.
The web and many of the leading sites (such as eBay, Yahoo and Google) are generally reliable. But don’t forget they can change their terms and fees at almost any time. Any internet resource could suffer a devastating, unpredicted interruption – or just a frustrating slowdown. Internet users are notoriously fickle and fad-driven, and can move to a different provider at the click of a mouse. What’s your Plan B? Do you have a backup provider? Consider having a small account or presence with a second (or third …) provider for each critical service.
Although more business is being conducted online each day, there still are substantial business opportunities in the bricks and mortar world. Most businesses should not completely abandon their offline business strategies, but rather integrate the online and offline components to reinforce each other, even as online usage and commerce continues to grow. The business and legal issues of the online world layer on top of, and interact with, those issues of the offline world.
This is just a sample of the major legal issues to consider when bringing your business to the web. As technology improves, new issues are certain to emerge. Offline and online businesses face the same, key question: as technology advances, how will you continue to delight your customers and create enduring value in your business?
California Online Privacy Protection Act of 2003, Cal. Bus. & Prof. Code Sections 22575 to 22579. Online marketing to children under the age of 13 is strictly regulated under the Children’s Online Privacy Protection Act of 1998. Privacy of information in the financial services field is also regulated by the Gramm-Leach-Bliley. See “In Brief: The Financial Privacy Requirements of the Gramm-Leach-Bliley Act,” http://www.ftc.gov/bcp/conline/pubs/buspubs/glbshort.htm. Healthcare information is regulated by the Health Insurance Portability and Accountability Act of 1996 (HIPAA). See also more information at the Department of Health and Human Services web site.
California security breach information act, also known as SB 1386, codified at California Civil Code Sections 1798.29, 1798.82 and 1798.84. On the FTC Disposal Rule, see FTC Business Alert, “Disposing of Consumer Report Information? New Rule Tells How,” http://www.ftc.gov/bcp/conline/pubs/alerts/disposalalrt.htm. The Disposal Rule applies to credit reports, credit scores and other reports that businesses receive with information relating to employment background, check writing history, insurance claims, residential or tenant history or medical history. The Disposal Rule was enacted under the Fair and Accurate Credit Transactions Act (FACTA) of 2003, and is available at ftc.gov/os/2004/11/041118disposalfrn.pdf. Digital Millennium Copyright Act (DMCA), U.S. Copyright Act Section 512(d) and regulations issued under it.
Controlling the Assault of Non-Solicited Pornography and Marketing Act of 2003 (CAN-SPAM Act) and Regulations.
This article was originally written in October 2005 and transferred to www.BoadweeLaw.com/blog on January 3, 2012.
]]>You can use an Escrow to ensure the payment of money or delivery of property (such as source code of software) based on future conditions. The escrow agent, which may be a title agent, an escrow company or even your attorney, is the third party that holds money or property for delivery upon specific conditions. Essentially, the escrow agent “guarantees” the party’s delivery of money or property.
Required insurance is a type of third-party protection if the other party harms someone (e.g., personal injury) but does not have the assets to remedy the harm. For example, if one party is a large company perceived as a “deep pocket” to pay damages from lawsuits, and the other party is small company that could cause harm but has no assets to pay damages, then the large company may require the small company to obtain insurance to protect against the small company’s harmful actions, and to add the large company as an “additional insured” to the small company’s insurance policy. Another example is a homeowner using a contractor for construction work; the homeowner demands to become an additional insured to the contractor’s liability and workmen’s compensation policy in case the contractor injures someone and cannot pay damages.
Tools to relieve harm to third parties. Business people’s eyes glaze over when lawyers negotiate and debate “indemnities.” They don’t appreciate what the fuss – and legal expense – is about for hypothetical events that probably will never happen. Usually though, they take interest when they understand that indemnities are similar to insurance protection against the other party’s harm to third parties, and that negotiating an indemnity is similar to buying insurance. An “indemnity” from the other party is very similar to an insurance policy – the other party agrees to defend any lawsuits and pay relevant damages or settlement amounts. Injuries can include personal injury, or commercial injuries such as a negligent error or omission (e.g., posting incorrect information to a website), or intangible injuries such as trademark infringement (e.g., using a brand name without the legal right to do so). Indemnities may be limited in amount, or “capped,” which is similar to insurance policy limits. I’ve resolved many difficult negotiations by asking the business people to assume an “insurance buyer’s mindset” to obtain the indemnities they need to protect their businesses. Of course, indemnities often are supplemented by traditional insurance coverage from insurance companies (see the note above about required insurance).
Tools for the exit strategy. Every business and every business project has an exit strategy. For some, the strategy is thought out, clearly expressed and written down. For others, the opposite is true – the business or project is like an individual who could “die without a will” – and, like an individual who dies without a will, these businesses and projects will have their strategy written for them, by the law. Here are a few other tools to help you make sure the exit strategy written in the contract reflects your desired exit strategy.
Practically every agreement can be terminated for breach by the other party, if the breach isn’t cured within a reasonable time period (or within the cure period written in the contract). Termination for Convenience (or “at will”) is the right to terminate a contract for any reason, or no reason, at any time. There is no need to prove breach by the other party. It can cover many problems in an agreement, since the party with the right to terminate can do so at any time, and isn’t locked into a long-term relationship. Even if the party just wants to renegotiate, it can terminate for convenience (or threaten to terminate) and renegotiate. Obviously, this approach won’t work if one party is making large fixed investments that must be recouped or if the parties otherwise need a long-term agreement. Adding a minimum notice period of 30 – 180 days enables the parties to find substitute relationships while termination is pending.
Many business people just accept termination as the standard remedy for a contract problem. But termination often may not be a remedy at all, if the party with the legal right to terminate is not in a practical position to terminate because it needs the other party (e.g., the other party offers unique services, customer service etc.) In these cases, the following alternatives can help.
Liquidated damages provide for one party to pay the other a stated dollar amount if a well-defined problem occurs, even if the contract remains in force. To be legally enforceable, such amounts should not be excessive “penalties” but should be based on an estimate of damages that would otherwise be payable if they were not so difficult to calculate. For example, liquidated damages could be estimated based on the injured party’s lost profit for the period or estimated cost to obtain replacement performance from someone else. In practice, liquidated damages may provide the wrong incentive, giving the paying party a way to “buy itself out of breach” or motivating the injured party to nickel-and-dime the other party with complaints and demands about every problem, rather than working in good faith to find and resolve the root causes of disagreement.
Partial termination is often a good solution. For example, you may not wish to terminate the relationship altogether, but just to terminate the exclusivity: if an exclusive supplier breaches, the customer may still need the supplier and from a practical standpoint cannot terminate the relationship entirely, but the customer may obtain the freedom to terminate the exclusivity and purchase from second source as a backup.
Forced consultation is often used by large companies. In those cases, to prevent termination or even lawsuits resulting from disagreements by lower-level employees of each party, the contract can require senior executives from each party to meet and discuss the problem before the contract can be terminated or any lawsuit filed. With very large companies, there may be several discussions by increasingly senior executives that are required by an escalation clause. Also popular are mediation clauses that require the dispute to be submitted to a neutral mediator before termination or litigation. (Mediators act as intermediaries and facilitators to the parties, and not as judges or arbitrators.)
Tools to enforce the deal. Explicitly choosing where and how any disputes are handled can be a useful tool. Many business people leave these choice of forum and choice of law decisions up to the lawyer, without thinking about their business impact. Some clients may need a speedy resolution above all else. Some may desire a thorough, but slow and expensive, process (e.g., if the contract breaks new ground and the stakes are high). Others may prefer the confidentiality afforded by arbitration. If a party is concerned that the other party will bring frivolous claims or if it is concerned that the other party will abuse its power by overspending it on attorney’s fees, it may want an attorney’s fees provision, in which the loser pays for the winner’s attorney’s fees if any lawsuit is brought.
In the Deal for Future Deals
Often the parties can agree on all issues except for one or two deal points. Or, they may need a trigger event to occur before a part of the deal can be completed, but they don’t want to wait for it to occur before completing a larger transaction. Or, they just want to leave their choices open for the future. That’s where options, rights of refusal and related rights come in. Below, I refer to the party granting the option or right as the “owner” and the recipient or holder of the option or right as the “holder,” since in many cases the party granting an option owns an asset (such as real estate or shares of stock).
Option. This generally gives one party (the holder) the right but not the obligation to require the other party (the grantor of the option, or owner) to complete a transaction within a set time period and on predefined terms and conditions. For example, if an owner of real estate grants an option to an option holder, the holder pays the owner for the option, and the holder can force the sale by the owner of the real estate within the set time period and on the predefined terms and conditions in the option. Options can also include terms and conditions determined by a formula applied in the future (such as a pricing formula based on a set price adjusted for inflation in future years). Options are often used for sales of real estate, and the familiar “put” and “call” options are heavily used for stock and other securities. Options can cover much more than asset sales.
Options provide an inexpensive way to “buy time” in a relationship. The holder may want an option if it knows it wants to do a deal for a certain price or at a certain time in the future. The holder generally must pay for this right, but the amount is less than the full cost of the ultimate transaction. The owner receives some payment now for the burden of dealing with the option, but does not receive the full value of the transaction unless and until the holder exercises the option. An option may “buy time” for the holder to raise the funds to close the transaction, or to negotiate with other parties for other assets or better terms.
Options must be drafted carefully, because a well-written option can often make the difference between great loss – and great profit. And, if the market changes rapidly, the timing of option exercise may be crucial.
Right of First Refusal (“ROFR”). This right is weaker than an option. The holder cannot force the owner to complete a transaction. However, if the owner decides to sell, the owner must take the deal to the holder before anyone else; the holder has the first right to the transaction on the terms offered (or any better terms that the owner later offers to others, such as lower price). For example, the holder of a right of first refusal to purchase land cannot compel the owner (the grantor of the ROFR) to sell the land, but if the owner desires to market the property, the owner must take its terms first to the holder. This imposes a burden on the owner, because other potential buyers will not want to waste time talking with the owner if they know another party has a right of first refusal and can “take away” the deal. Also, if the owner receives an offer from a third party, the owner must notify the holder, who could then match the offer. If the holder matched the offer within the right of first refusal period, the holder could close the transaction. In effect, the ROFR limits the owner’s potential marketing and negotiations with others.
A ROFR is often priced less than an option to purchase. As with options, a ROFR may give the holder time to raise funds for the transaction before owner begins to market the asset. Unlike with options, the ROFR may expire worthless if the owner decides never to market the asset.
For issuances of corporate stock, stockholders often receive “preemptive rights” or anti-dilution rights to purchase additional shares in order to maintain their percentage of ownership in the corporation. The preemptive rights are a form of right of first refusal.
Right of First Negotiation (“ROFN”). With this right, the owner must notify the holder of the owner’s intent to market the asset. Then, for a limited time the parties must negotiate exclusively with each other. The holder has no assurance that it will conclude a deal with the owner, however. (The owner generally is obligated to negotiate in good faith, and cannot simply terminate negotiations in bad faith to avoid the ROFN.) Once the ROFN period expires, the owner is free to market the asset.
Right of First Offer (“ROFO”). With this right, the holder has the right to make an offer to the owner before the owner can complete a deal with a third party. This right forces the holder to “name its price.” The owner has a specified time period to accept or reject the holder’s offer, and if the owner rejects the offer, the owner can complete a deal with a third party, as long as that deal is not at a lower price or more favorable terms than the holder’s offer. This right also imposes less of a marketing burden on the owner than the ROFR, since the owner is not required to accept the holder’s offer. The owner controls the timing of any deal and need not reduce its asking price in order to accept the holder’s offer – even if the holder’s offer is perfectly reasonable and market-based.
Right of Last Refusal. The holder has the right to match the last third-party offer made to the owner. Compared to a Right of First Refusal, the holder gets the last word on any offer.
Of course, options and refusal rights can be combined, and creative dealmakers will want to do so. The Right of First Refusal and Right of First Negotiation are often combined with the Right of Last Refusal. Careful drafting by counsel is critical, however. Without it, courts have ignored “creative” approaches. Dealmakers often exclude certain transactions from these options or rights, such as parent-subsidiary transactions, bundled multiple-asset transactions, transfers upon death, transfers to trust beneficiaries, or M&A transactions.
Conclusion
Keep these tools in mind when commencing and negotiating your deal. As you start, list your major deal goals and use a non-binding term sheet whenever you can. It does not need to be complicated or long, just in writing, clear and to the point. Apply the right deal tools when the business need requires: non-competition clauses and their alternatives using intellectual property; Most Favored Nation (MFN) clauses to protect cost structures; protections against future changes to the parties (assignment prohibitions; change of control clauses); tools to ensure performance (guarantees, Letters of Credit, escrows and required insurance); indemnities as an “insurance policy” between the parties for harm to others; and exit strategy tools (termination for convenience, liquidated damages, partial termination and forced consultation). If you expect follow-on deals or your deal is conditioned on future events, consider options, rights of first refusal, first negotiation, first offer and last refusal. Used with care and with advice from your attorney, these tools will help you close better deals, more quickly.
References
For options, rights of first refusal and related rights, see John C. Murray, Option or Right of First Refusal: Which Is It?” The First American Corporation, http://www.firstam.com/faf/html/cust/jm-options.html (2004); B. Findlay and A. Hillyer, “Here Today, Here Tomorrrow: Legal Tools for the Voluntary Protection of Private Land in British Columbia,” Chapters 9 and 10, West Coast Environmental Law Research Foundation, http://www.wcel.org/wcelpub/5110/5110c10.html (1994); M. Diener, “Keep ‘Em Coming,” Entrepreneur Magazine, May 2004 http://www.entrepreneur.com/article/print/0,2361,315216,00.html
This article was originally written in October 2005 and transferred to www.BoadweeLaw.com/blog on January 3, 2012.
]]>Before the Deal
List of major deal goals. Listing your major deal goals in writing is very basic. But it isn’t done often enough. Include your “must-have” points and areas where you can be flexible. This is especially useful for team negotiations. This will be your checklist to keep you and your negotiating team honest with yourselves about whether you are reaching the goals originally set for the deal. And, it will help you remain persistent, consistent, and insistent as the deal progresses – you will more easily show that you mean what you say, and can’t get sidetracked. It works. My client once won several critical points in a deal because our team started with a list of major goals, shared many of those goals with the other side at the very first negotiating session, and focused consistently on the goals throughout the entire deal. (Obviously you won’t share the full list with the other side, but you may want to provide some of them at various points in the negotiation.)
Due diligence as an interactive tool. Due diligence, that is, an intelligent review of the facts, documents and parties critical to the deal, is obviously needed in large transactions such as mergers & acquisitions. However, this basic tool is often neglected in smaller transactions. Due diligence raises questions such as these: How much do I really know about the other party – should I run a credit report or search for lawsuits filed against them? Have I spoken to all the right people and seen the necessary documents to obtain all the facts? Does this deal have unique facts? Since due diligence and deal points often go hand in hand, due diligence should be an interactive activity, not a static “check-the-box” exercise divorced from the critical issues in the deal. Remember, a good contract can’t make up for a bad deal. Learn as much as you can about the other party. The learning is much easier and cheaper before there is a problem in the relationship.
Non-binding term sheet. I often hear two questions at the beginning of a deal: Should we bother with a term sheet? Can’t we just sign the term sheet (or make it binding)? My answers are almost always “yes” to the first, and “no” to the second.
Even for the simplest deals, a written term sheet can clarify the parties’ intentions and help them reach agreement. A “term sheet” can be as simple as a quarter-page of bullet-points listing major items of agreement – as long as it’s in writing. Of course, complicated deals may require more formal and longer term sheets. A term sheet may go by other names, such as a “letter of intent,” “deal memo” or internationally, “heads of agreement.” Term sheets always contain some looseness, but the parties will have a rough roadmap to guide them through the deal, and counsel can make the clarifications in the final (or “definitive”) written agreement.
Because of this roadmap aspect, I generally don’t recommend signing a term sheet. A signed term sheet isn’t just a rough roadmap for the business people – it’s a contract! If you or the other party really want to sign as a showing of good faith, then have a lawyer add a qualification to indicate that the term sheet, though signed, is not intended to create a binding contract. At other times, you or the other party may simply need a binding contract now, even if all the legal niceties are not filled in and the parties understand the risks they are taking.
So, when should a term sheet not be used? The best examples are contracts where there is little or no room for negotiation, such as form contracts or simple renewals of an existing contract. In those cases, your term sheet would simply be the terms to fill in or renew. (Of course, if you have the power, you still might negotiate the entire contract and need a term sheet.)
In the Deal Itself
Non-competes and their alternatives. Of course, most businesses would love to minimize competition. Many try to do it through contracts. In California, Business and Professions Code Section 16600 makes most non-competition agreements illegal, with certain exceptions for partnerships and sales of businesses. Also, even outside of California, many non-competition agreements are illegal under U.S. and state antitrust laws. However, intellectual property (patents, trademarks, copyrights and trade secrets) can be a tool to limit competition legally and legitimately.
The rights to use intellectual property can be further customized as needed via licenses, which may be exclusive or non-exclusive, and which may cover different geographic territories, products or fields of use. An “exclusive” license simply means that the recipient of the right to use the intellectual property (the licensee) is the only recipient of the right – the owner cannot grant licenses to others while the exclusive license is in force. Exclusive licenses should be used with care. Vague language in an exclusive license that was perfectly fine when an agreement was negotiated may block the owner’s entry into an unforeseen new market or product line – even years later. I have found that many businesses grant exclusive licenses too willingly and without a real need, just because they were asked. For example, it often makes sense to grant an exclusive license to a party who is making a large fixed investment to support the relationship. Conversely, granting an exclusive license to a party who is not making a fixed investment or has no incentive or ability to perform may simply lock up rights that could be profitably licensed to others.
Most Favored Nation (MFN) clauses. An MFN clause enables one party to receive the most favorable price or terms and conditions offered by the other party to others. An MFN clause from a seller to a customer is often called a “Most Favored Customer” (MFC) clause. It essentially is a best price (or best terms) guarantee, and means that the seller won’t sell to anyone else for less (or on better terms and conditions). This is obviously a good deal for the customer, and may simply reflect the customer’s favored trading status. However, there is often a deeper business need. If the goods or services are unique or difficult to obtain elsewhere, then a customer might negotiate better pricing and terms from the supplier in order to obtain a cost advantage over the supplier’s other customers. To prevent this, a customer may demand an MFN clause to stay on an equal footing with other customers of the same supplier.
MFN clauses contain several potential traps. First, make sure that the party receiving the MFN protection is compared against the correct group. For example, if you have separate pricing and terms for two groups of customers, such as large companies and non-profits, the MFN should be written so that a large company gets only the best price and terms for large companies and not the pricing and terms offered only to non-profits. Second, some MFN clauses are retroactive (looking backward in time), which can result in large refunds or adjustments. Third, recipients of MFN terms may need some way to audit compliance.
Protections against future changes to the parties. Business people are often so focused on closing the deal and making it succeed that they neglect to consider the future of the parties and the contract. With constantly changing business conditions, parties may sell portions of their assets, or they may be sold or merged with other companies. Several tools can help your deal weather this constant storm.
First, consider restricting assignment of the agreement. Generally, with some exceptions, a party can assign a contract to someone else if the contract is silent on assignment. That is, the other party could “sell off” your contract to another company and you would need to deal with that other party going forward, even if you aren’t happy with that other party’s business practices or creditworthiness. The simple solution to this is to add an explicit prohibition on assignment without your consent. (Larger companies often will obtain an exception that permits them to assign to subsidiaries and other affiliates, so that they can restructure without seeking consent.) Even with this protection, in some cases, such as Bankruptcy, you may not be able to block the assignment without unique circumstances and properly worded contracts.
Second, even if the contract cannot be transferred as an asset, the other party’s business may be sold to another person by means of a stock sale or a merger. This is commonly known as a “change of control.” Again, after a change of control you may have to deal with a different party or face the oversight of a new corporate parent of the other party. To address this, you may want the ability to terminate the contract or automatically to modify it (e.g., special pricing or exclusivity could terminate) on a change of control. Consider a kill fee for change of control. I once had a client who would lose revenue as a result of the other party’s change of control, because any new owner probably would not perform the contract as well as the original owner. My client negotiated a kill fee of over $1,000,000 for a change of control, and collected on it when the other party’s business was purchased. Consult your lawyer for help with any change of control provision.
Tools to ensure the other party’s performance. Businesses have to take risks, and one of the greatests risks a business may face is whether the other party to a contract will perform – or even remain in business. This is particularly true for small companies with little credit or financial resources. There are several tools to address this situation, and they rely on the help of others.
Another entity, such as a shareholder or corporate parent company of a party, can provide a guarantee of the party’s obligations, so that if the party breaches the contract, you can look to the shareholder or corporate parent. (Small businesses see this often with the request for a “personal guarantee” from the owner of the business to cover the business’s obligations or loans.)
A party also can guarantee its payment obligations by obtaining a Letter of Credit from its bank (for a lending fee). In effect, the bank “guarantees” the party’s payment of money, if certain very specific trigger events occur. Letters of Credit are often used in international transactions, but I have used them successfully in U.S. transactions where future payment may be doubtful.
This article was originally written in October 2005 and transferred to www.BoadweeLaw.com/blog on January 3, 2012.
]]>Here are just a few of the quirks of California law that I raise most often with my clients both outside (and inside) of California. This list is not intended to be all-inclusive.
1. Non-competition provisions are void (with exceptions). Business and Professions Code Sections 16600 to 16602.5 make most non-competition provisions illegal, with limited exceptions for certain sales of businesses and dissolutions of partnerships and limited liability companies (LLC’s). Section 16600 frequently arises when one party to a business transaction wants to prevent the other party from competing with it, or a hiring party desires to stop its subcontractor from competing with it. Other legal tools, such as restrictive licenses or covenants restricting the use or disclosure of confidential information or the solicitation of employees or customers, often may be used instead.
2. Web sites that collect personally identifiable information from California residents must include a privacy policy. The California Online Privacy Protection Act of 2003 requires operators of commercial web sites and online services that collect “personally identifiable information” from individual consumers residing in California to post conspicuously a privacy policy on specified pages of their sites (including the home page). (An operator is in violation if it fails to post a privacy policy within 30 days after being notified of non-compliance.) Separately, the California security breach information act, also known as SB 1386, codified at California Civil Code Sections 1798.29, 1798.82 and 1798.84, requires businesses to disclose certain security breaches of personal information.
3. Employees in California own their inventions created with their own facilities and on their own time. California Labor Code Sections 2870-2872 provide that an employee’s inventions are not assigned to the employer if: (a) they are developed entirely on the employee’s own time, and (b) without using the employer’s equipment, supplies, facilities, or trade secret information. This does not apply, however, to inventions that either: (1) relate at the time of conception or reduction to practice of the invention to the employer’s business, or actual or demonstrably anticipated research or development of the employer; or (2) result from any work performed by the employee “as employee” of the employer. Provisions in employment agreements that attempt to modify this scheme are unenforceable. Also, if an employment agreement with a California employee requires the employee to assign any invention, then the employer must also — at the time the agreement is made — provide a written notification to the employee that the agreement does not apply to an invention which qualifies fully under the provisions of Section 2870. As a result, this notice generally appears in California employee invention assignment agreements.
4. A broad “private attorney general” law enables lawsuits for virtually any violation of law by a company. The California Unfair Competition Law, also known as Business & Professions Code Section 17200 (and following sections), permits the California Attorney General, as well as private parties acting as “private attorney generals,” to recover for “any unlawful, unfair or fraudulent business act or practice” and any “unfair, deceptive, untrue or misleading advertising,” among other things. Although the statute creates significant liability for deceptive or misleading advertising (such as incorrect marketing claims about technology products), the courts have interpreted it broadly to permit recoveries for virtually any violation of law.
5. Corporations formed outside of California may nevertheless be subject to California corporate law. Private “foreign corporations” that have significant contacts in California must comply with many California corporate legal requirements as if they were formed in California. (For California law purposes, a “foreign corporation” is a corporation formed outside of the United States, or within the United States but outside of California, such as in Nevada, Delaware or New York. “Significant contacts” means having substantial operations and a majority of shareholders in California.) These requirements include corporate governance, the directors’ standard of care, limitations of liability and indemnification of directors and officers, and provisions limiting takeovers and dividends. For this reason, corporations with significant contacts in California often are incorporated in California, and then reincorporate in Delaware only if and when they pursue an initial public offering (IPO). See California Corporations Code Section 2115 and the Handbook for Incorporating a Business in California by the Corporations Committee of the State Bar of California (2006).
6. California prohibits unreasonably high interest rates on certain loans (usury) – as written in its Constitution! Article 15 of the California Constitution prohibits charging an interest rate of over 7 to 10% on many loans. However, financial institutions such as banks and credit unions are excluded from this limitation, and Article 15 contains other exclusions.
7. Releases of claims should include a statutory waiver. Businesses often need to release legal claims when settling a lawsuit or even voluntarily ending a contract. Such releases of claims are of course best made in writing. However, California Civil Code Section 1542 provides that “A general release does not extend to claims which the creditor [in other words, the releasing party] does not know or suspect to exist in his or her favor at the time of executing the release, which if known by him or her must have materially affected his or her settlement with the debtor [i.e., the party being released].” Properly prepared California releases include a written waiver of the Section 1542 rights.
The author would like to thank attorneys Scott D. Gattey, Fran Smallson and Scott Edward Walker for their comments in the preparation of this article.
This article was originally written on October 30, 2007 and transferred to www.boadweelaw.com/blog on January 3, 2012.
]]>Anne Kerwin Payne, an excellent legal recruiter whom I’ve known for years, asked several high-profile female General Counsel (GC’s) for their advice to junior attorneys who want to become a GC someday.
Catherine Valentine, the GC of Logitech, responded with these useful tips on the best path to becoming a GC. I worked for Catherine for many years when she was the GC of Intuit. I know first-hand that her advice is extremely valuable for any lawyer who wants to become a trusted advisor to business executives.
]]>Among other things, Facebook specifically is:
The proposed consent agreement and order is subject to public comment through December 30, 2011. After then, the FTC after will decide whether to make the proposed consent order final.
]]>Steve has also posted my sidebar on the blog for the book.
]]>How to Protect Long-Term Investments in Operational Contracts
Consider one of the most difficult issues you’ll ever encounter when negotiating a contract: one party must make a large, long-term investment for the deal to work, but won’t sign the contract unless its investment (and its return on the investment, or ROI) is adequately protected.
I’ve posted an article on my blog (at http://bit.ly/protectlongterm) that explains three key approaches to protect that investment and get your deal done.
The article covers long-term investments made as part of an agreement concerning a company’s operations, such as an independent contractor agreement, technology development agreement, distribution agreement, or purchase and sale of products or services.
Those operational agreements are different from investment contracts, such as stock purchase agreements or loans to a corporation, partnership or limited liability company (LLC). Investment contracts raise additional questions under corporate/partnership, tax and securities laws. For example, long-term cash investments can be protected using preferred stock in a corporation or special provisions for capital accounts in partnerships and LLC’s. Loans may be protected by taking an interest in collateral, such as real estate (e.g., a mortgage on a commercial building). By contrast, my article focuses on provisions of non-financial contracts used in operations.
The article explains three approaches:
1. Match the contract duration to the investment horizon. If necessary, lay out an early exit path that works, considering termination for convenience with a kill fee, a liquidated damages clause, mediation, a management escalation process and a transition process after termination.
2. Focus the relationship by wisely choosing whether to use exclusivity, semi-exclusivity, a Most Favored Nation (MFN) clause, minimum required purchase or recoupment.
3. Finally, look at other contracts between the parties to see if the parties’ relationship should be strengthened by cross-collateralization or cross-default provisions.
Of course, the article defines and explains all of the “shorthand” words above, such as “semi-exclusivity.” By considering and applying the 3 approaches that I describe, you’ll be far ahead of many other deal makers.
You can read the full article at: http://bit.ly/protectlongterm
Cyberspace Primer Recently Released
On April 21, 2010, the Cyberspace Committee of the California State Bar Business Law Section officially released its Cyberspace Primer, a publication designed to brief California state legislators and others on relevant cyberspace law issues.
The Primer was drafted by various Committee members and advisors and covers topics such as Privacy Policies, Radio Frequency Identification Technology (RFID), Spam and Spyware, Phishing, the Communications Decency Act, Social Networking, and Behavioral Advertising.
As a member of the Committee, I assisted with the Primer and contributed a short piece on the Digital Millennium Copyright Act (DMCA) and User-Generated Content.
A free copy of the Primer is available at http://bit.ly/primer2010
Fifth Anniversary Special: My Book, Protect Your Business with Non-Disclosure Agreements
I’m celebrating the fifth anniversary of my law practice this year. As part of the celebration, I’m offering the ebook version of my book, Protect Your Business with Non-Disclosure Agreements, for free.
The free ebook version is available at www.BoadweeLaw.com/ndabook
Feel free to share the link with anyone who may be interested.
All the best,
- Harry
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www.BoadweeLaw.com/newsletter.html
Harry Boadwee’s Technology Law Letter is published by the Boadwee Law Office, legal advisers to innovative companies in the fields of technology transactions, software and internet law.
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This Newsletter is for general information purposes only, and is not provided in connection with rendering of legal or other professional advice. It is subject to the Terms of Use of the Boadwee Law Office (www.BoadweeLaw.com/terms.html) and may be Attorney Advertising in some jurisdictions.
]]>Please celebrate with me by getting a free electronic (ebook) copy of my book, Protect Your Business with Non-Disclosure Agreements.
]]>In basic terms, “patent trolls” are entities that own patents but do not use them in their businesses, and instead make money by licensing them and bringing lawsuits against companies who will not buy a license. They also are known as “non-practicing entities” (NPE’s). Their business has been fueled by large damage awards in patent infringement cases, which led to the rise of brokers and auction houses for a resale market in patents.
The article lays out many of the latest strategies by and against NPE’s:
Offensive Strategies by NPE’s
Defensive Strategies against NPE’s
Because the stakes are so high — millions of dollars and the fate of nascent and hugely profitable technologies — this battle of strategies will only continue.
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