Top 10 small business legal pitfalls

The rapidly unravelling saga of News Corporation shows that legal woes can severely impact on even large businesses with elite teams of highly-paid lawyers.

It’s unlikely that a sensational controversy such as the News of the World phone hacking scandal will bring your business to its knees.

But simple mistakes such as missing documentation can result in disastrous legal repercussions.

StartupSmart headed to the lawyers to identify the 10 most common legal pitfalls for start-ups to be aware of.

1. Getting in a business name muddle

The government recently launched proposals to create a national system for naming your business but until it comes to fruition you need to register your start-up name in every state you’re operating in.

“You need a business name for your state, a company name to operate interstate and you need to trade mark where necessary – that’s three areas to look after,” says Craig Yeung, partner at law firm Piper Alderman.

“It’s actually an offence to operate nationally if you aren’t registered properly. You need to make sure you do an ASIC search.”

2. Failing to define your partnerships

If you’re starting in a business partnership you need to clearly define your roles and responsibilities from day one.

Who does what? Who gets paid what? How do you share the workload? What do you do if things go wrong? It’s vital that this is put in writing.

“If there is more than one person involved there should be a ‘minimum commitment’ document setting out things such as the minimum cash/in-kind contributions to be made,” advises lawyer James Omond.

3. Not outlining your exit strategy

With every partnership it’s inevitable that one party will eventually leave for a variety of different reasons. To avoid a costly legal battle make sure that you thrash out your respective exit strategies.

“You must have an exit strategy,” Omond says. “Even if you are starting up with your best mate ensure there is something in writing that states when and how someone can get out of the business and what they can and can’t take with them.”

4. Not agreeing proper terms with investors

A cashed-up investor wants to back your start-up. You have the skills and he or she has the money. Fantastic. But make sure you don’t get swept up in an unfavourable deal or court action may be your only recourse.

“Spend time preparing a terms sheet and shareholder agreement – know what you’re getting into,” says Yeung.

“I know of one entrepreneur who gave away 50% of the business for just $5000 thinking that the investor would be a wonderful business partner for life.

“The agreement he signed basically allowed the investor to force him out. Sure enough, within six months he lost the whole business. You need a legal document from an investor that you can hang your hat on.”

5. Failing to get the basics documented

It’s not just the large, business-changing decisions that require careful documentation. Everything from supplier conditions to office rental agreements needs to be worded in your favour or at the very least should provide you with some protection.

“I know of a business that signed NDAs but missed out the word ‘not’, as in the investor should not copy the idea, in the documents,” says Yeung.

“That basically authorised them to set up an identical business. I’ve also seen someone trying to offer 15% of his business to a VC and he hadn’t incorporated properly.”

That and many other legal problems can be remedied by simply getting things in writing rather than leaving things to chance.

“If you are relying on someone else to do something make sure you get their commitment in writing,” says Omond.

“If it’s only verbal not only is there a danger the commitment is unenforceable, there is too often misunderstanding of the extent of obligations when it’s just a handshake.

“Committing it to writing makes everyone think harder and makes you more specific about exactly what is required.”