Legal Tips: What every startup entrepreneur needs to know
You have a great business idea, you got it validated from
friends, family, advisors and now you are going to take the plunge into
starting up. Maybe you have already started the journey and battling
market forces on multiple fronts, pushing your products or services. If
you’re looking at high growth, there are a few typical phases during
which you’ll have to interact with the legal system in India.
Yes, you have to build a great team, create a kickass product, forge a
service delivery system, do awesome marketing, conquer social media,
raise investment, become a sales superhero – and your company will
become hot property in the market. And then-BAM!- you’ll deal with a
host of uncool things, this being India; some of them will make or break
your business.
India is a very difficult country to do business in, and the number
one reason for that is India’s complex, slow, and inefficient legal
system.
Out of 191 economies in the world, India ranks 134. It is easier to do business in countries like Pakistan, Nepal and Bangladesh! Why is it so difficult do business in India?
There are a lot of things to blame. But most of it comes down to this: the regulatory and legal system.
“Who enforces your contracts if the counter-party refuses to
honour it and does not perform its duties despite agreeing in writing?
What do you do when people ask you for bribe to issue you a simple
license? How do you even know what all licenses you need to obtain
before starting a business, and how many registers you’re supposed to
maintain? What can you do to reduce your massive tax bill? What to do
when getting money from willing investors abroad is so difficult?”
While Prime Minister Modi is promising to change all these and make
India a great place to do business, we know that us entrepreneurs cannot
afford to wait for that to happen. After all, every government promises
the same thing, and we are still where we were 15 years ago. In fact,
we’ve actually slipped on that index a bit.
Before you get into trouble, however, let me share the condensed
wisdom of many corporate lawyers, entrepreneurs and even big businessmen
that I became privy to while working as a lawyer for many startups,
through investment rounds and tortuous journey of building a business. I
also worked as an M&A lawyer at one of India’s top law firms. What I
am going to tell you will prepare you for things that, otherwise, will
come as bad surprises. You can ask experienced entrepreneurs, and they
will confirm each of these points as well.
Remember, these work as barriers to entry to many people, and kills
unsuspecting entrepreneurs. But, if you’re on the right side of the
game, you benefit from the same entry barrier, as it kills your
competition for you. See, silver lining! Why do you think Reliance is
spending close to 1,200 crores on legal expenses in one financial year?
This gives them a huge strategic advantage over competitors. It’s not
only Ambanis, here is what other top Indian companies are spending on
legal and regulatory expenses: Tata Consultancy Services: Rs 613 crore,
Larsen & Turbo: Rs 526 crore and Infosys: Rs 504 crore.
As a startup, you’re not going to compete with these budgets, but
your main focus will be on avoiding spending on legal bills at all. How
are you going to do that? Let’s get started.
Pre-investment and early stage startups
Incorporation and Founders’ Agreement
This is the fun part- the honeymoon period of entrepreneurs. Many
entrepreneurs get a private limited company registered without a second
thought. A few things you need to watch out for at this stage:
It is more important to have a written agreement amongst founders than incorporation right at the beginning.
My thumb rule is that don’t incorporate till you start getting real revenue, but have a detailed co-founders agreement in place. This will save you money, time and much hair-pulling later on.
If you do incorporate, go for a simple no frills service like
Vakilsearch, who are also startup-friendly, over some random lawyer or
CA. Startups are different breeds of business, and their documentation
should be different. Lawyers or CAs who don’t work with startups often
don’t get that – and, if you don’t pay attention to this aspect, you’re
sowing a poisonous seed of many problems for the future. Also, lawyers
and CAs will often charge you a lot more for routine work than what you
need to pay.
What is even more important though, is to take into consideration the following:
Tax liability of the business: LLP can be much cheaper in terms of
tax bills, and good for service, family, lifestyle businesses etc.,
especially when you don’t plan on raising any investment in the near
future. If you are going to raise money anytime soon and give ESOPS to
hire high quality talent for cheap, you can still incorporate an LLP.
You can always convert an LLP into a private limited and vice versa.
However, to know what to do when is crucial, and you will see industry
veterans understand these things very well. You can look for guidance to
angel investors, mentors who have been in business and other
entrepreneurs. Depending on lawyers to handhold you for everything may
not be such a good idea.
When you take foreign money, business structuring goes to another
level of complexity. Many Indian startups, quite big ones, take
investment through offshore parent companies. This can be a very smart
move in terms of saving income tax. It is great if, at least, one of
your co-founders or CFO gets these things, and this is one reasons why
investment bankers and management consultants who bring in such
strategic skillsets are in high demand as co-founders.
Business Licenses
It may surprise you, but doing almost any business in India, or even
running any kind of office or establishment, requires several licenses.
Some licenses are simple tax registrations. Some businesses just need a
trade license or Shops and Establishment Registration. For some specific
activities like manufacturing and export-import, you may need a bunch
of licenses. For employing more than 10 employees, you may need various
labour and employment related registrations.
Not having these
things in order when you are growing fast can be fatal and slow down
investments, as investors will ask you to first sort of license issues
before they put in money. These things are seriously looked into during
any legal due diligence before investments are made.
Also, not following licensing norms leads to fines, costly legal
suits and even business shut-down. If you are a business owner in any
sector, you better have a sense of what licenses are essential. You
should also know what are the important license conditions and ensure
that these conditions are not being violated in course of your business.
I have played a key role in conceptualizing an online course offered
by National University of Juridical Sciences, Kolkata called “
Diploma in Entrepreneurship Administration and Business Laws”
to entrepreneurs. Recently, after taking the business license module of
our course, a student wrote an email to me. She learned how to get
licenses to export and import, and got the necessary registrations done
for her family business. Her family has been supplying leather goods
from UP over decades, but through an export house. Now that she learnt
how to get the paperwork done, she spoke to the elders in her family and
got their own export license! I was immensely proud.
Accounts and taxation
A lot of businesses completely fail on this point and many founders
face massive fines, possibility of imprisonment and highly unproductive
lawsuits and criminal cases with respect to tax bills, simply due to
negligence and ignorance, usually both combined. Take the famous example
of Su-Kam, the founder of which almost went to jail due to non-payment
of excise duty over years. He was simply not aware that he needed to pay
excise duty. However, ignorance of law is no excuse in our country.
As the founder, the buck stops with you. So, you better have
some understanding of the accounting procedure and taxation aspects of
your business. If you ignore it because it seems boring and highly
technical, it will almost definitely come back later to bite you hard.
Outsourcing it blindly to a CA you know is also not advisable, because
stakes are sky-high here.
When the business is too small for the tax authorities to bother, you
are safe. However, as soon as the business starts growing, you will
come under the radar of tax officers, who will go over your accounts
with magnifying glasses to find something wrong (even in transactions
that occurred years earlier, when you were not really a ‘big company’
owner). If they find something, you will have to either make a costly
settlement or face a long legal war where you would end up paying a lot
to tax lawyers.
Vendor contracts
The vendor contracts one enters into at the early stage of the
business can be very important:For example, if you have outside
assistance on design or development of the product, manufacturing
contracts, EPC contracts (relevant when one sets up a factory or plant),
platform contracts (for instance, at
iPleaders we offer online courses and use outsourced technology from
WizIQ,
GradeStack and
Trutech
for our online courses and these contracts are very important to our
business), marketing contracts, content supply agreement,
distributorship agreements, advertisement agreements (for instance, we
have several long term contracts for advertising with many websites like
lawctopus.com or livelaw.in), franchisee agreements and so on –
depending on what business you are in.
Now imagine if some of these contracts you enter into contain some
hidden clauses that could trigger unforeseen price escalation, or gave
away the power to the other party to terminate without notice – your
business could be in chaos. Sometimes, people enter into unenforceable
contracts. More frequently they forget to include important clauses in
the contract that leaves them very vulnerable.
For example, the company of an entrepreneur friend, whose name I
cannot take, engaged a PR agency and signed a minimalistic contract
without thinking about it twice. As it is the nature of having a PR
agent, you need to share many advance plans with them so that the media
coverage strategy goes hand-in-hand with developments in the company. My
friend soon figured out that the PR agency had since taken up a new
client: his biggest competitor, providing the same product to the same
industry. My friend was so paranoid that sensitive insider information
will be leaked to the competitor ahead of time, he did not fire the PR
agency, but neither did he use them much.
What do you think he could have done to avoid such a situation?
Money spent on that contract was pretty much wasted.Ensuring
that the contract he signed had a suitable non-compete and
confidentiality clause, of course!
Several years earlier, I was conducting a due diligence on a company,
the Indian arm of which was getting acquired by Morgan Stanley (as a PE
investment). As we were looking through documentation and checklists,
we realised that the contract authorising the Indian arm to use the
trademark of the parent company in India was not enforceable in India at
all for some technical reasons. If the parent company refused to honour
this contract at any point, or demanded a huge premium later, the
buyers of the Indian arm would have lost a lot of money!
Make sure that your important contracts are not like that! Learn some
contract law, because as a businessman, you are going to enter into
probably thousands of them.
Even Steve Jobs was of the opinion that every intelligent person
should know how to read and negotiate a contract, just like everyone
should start learning how to code!
Enforcing a contract
World bank says that India ranks 184
th in the world in terms of easiness of enforcing a contract. This means
India is one of the 5 worst countries in the world when it comes to enforcing contracts. If you can’t enforce contracts why should someone bother to uphold the side of their obligations in an agreement?
This is why almost every businessman in India needs to be either a
muscleman or an expert at enforcing contracts if they want to survive in
the marketplace. Do not just enter into a contract and expect
everything will now go as clockwork. Big companies in India hire
contract managers and a battery of lawyers to ensure contract
performance! If you are a startup founder or SME owner, you can probably
afford neither, so if you don’t plan ahead and build in certain
practices into your business, you are in grave danger. You can learn
about systems like arbitration (this can help you to bypass lengthy
court battles), advanced money recovery strategies deployed through
contracts, registration as MSME, which gives certain privileges which
will add great advantages to your business.
If you are significantly better than your competitor at negotiating
and enforcing contracts, these skills will add immense value to your
business over the years and you are much more likely to triumph
eventually!
Want resources to learn about these skills in detail? Check out
here.
In the next part of this article, I will cover the legal
challenges faced by growth stage startups during and after investment
rounds.
About the Author:
This article is written by Ramanuj Mukherjee, a lawyer turned
entrepreneur and a co-founder of iPleaders, which enables Indian
Universities and industry bodies to launch online courses. You can see a
course relevant to entrepreneurs over here:
http://startup.nujs.edu
You Need any soft-skills Training with placement just contact us
Contact number : 8904762432.
Website: www.moxiestars.com.
Facebook:https://www.facebook.com/moxiestarssolutions.
LinkedIn : Moxiestars.
Email: info@moxiestrars.com.
For Insurance :8904762432.
Hi guys If u like this post please leave a comment in comment box... comment box will top right of every post and bottom of every post. its useful for me give a better information.. check top of the blog there is menu bar in that go to comments i replied for u r comments because there is no direct option for reply for u r comments. if u want to give any suggestion in bottom of blog there is contact information option please leave a msgs with u r mail id sure i will get u.
.