Emerich Gutter // Makers Podcast 004

Video Transcript

Grant  00:03
All right. Welcome back to the Makers Inc podcast. Today I have with me, a good friend of mine, Emerich Gutter, he is a lawyer, and he's going to be spending some time with us talking about for early stage startups, founders of new businesses, the sorts of things you should be thinking about, from a legal perspective early on, so that you avoid problems in the future when you're successful and thinking about getting acquired. So, maybe, Emerich, if you want to take a second and give us a brief intro.

Emerich  00:38
Yeah. So, I am a partner at a law firm in Charlotte, North Carolina, Moore & Van Allen pllc, I do mergers and acquisitions, both buy side and sell side. Bit of a deal junkie I do, you know, done everything from, you know, small $5 million deals to, you know, large $10 billion plus transactions for public companies, and in every single industry you can possibly think of. Yeah, I'm excited to be on this today. Because, you know, a lot of the time, the kind of companies that I represent, are across the table from startups and founders. And, you know, when people are starting a company, they may not be thinking about a lot of things down the road that my clients are looking at. And so I think I've got some interesting perspective on them.

Grant  01:42
Very cool. So, I think it may make sense. Maybe at the end, we'll dig into a couple of like, key things worth defining and thinking about, but maybe if you could start by sharing, just at a high level, what sort of advice would you give to someone who's starting a startup? from a legal perspective? Yeah,

Emerich  02:04
well, I think, you know, I think the thing that a lot of people who are starting up a company, don't do just and this is just from kind of macro level, is there's a tendency to kind of move super fast all the time. And, you know, I totally get the importance of speed, and being decisive. There are times where I think it's also really important to kind of pause and be thoughtful in terms of kind of how you're moving forward. So, you know, a lot of times, you know, I'll see, you know, people entering into contracts with terms they shouldn't have, because, you know, they're, they're, you know, rushing to get the deal done, you know, things like, you know, not including psi, and then send documents. With employees, I've seen, you know, people taking, you know, as out there as taking opportunities in sanction countries like Iran, not thinking about there's a reason why people don't do business in Iran. You know, all kinds of stuff like that. So, I think, you know, that it's a kind of general answer to your question. But I think being thoughtful and deliberate where you can, which I know isn't all the time is incredibly important. And it allows you to avoid kind of a lot of problems and pitfalls that you'd run into down the road.

Grant  03:39
When you use the term IP assignment, you mind sharing a little bit about what that is what it means. Yeah, so

Emerich  03:44
That’s a contract or provision in a contract that a company will have with an employee or an independent contractor that essentially says that any intellectual property that that that employer independent contractors working on belongs to the company. So, you know, there's, there's statutory and common law frameworks that, you know, provide some protections for companies in that context. So, you're not, you're totally in trouble if you don't have that. But a lot of times, when you've got an investor or buyer coming in to look at your company, the expectation is that you're going to have those contracts in place to provide certainty around who owns the valuable intellectual property of the business. So, it's really a, it's an incredibly simple document. But it's an incredibly important document that I see a lot of companies not having in place. And to go back and go back to all of your employees, sometimes your ex-employees and get them to sign IP assignment agreements can be a challenge,

Grant  04:58
which is a win, win you Think about when would you advise someone to get those ducks in a row and have that contract ready to give to people to sign?

Emerich  05:10
I think about an IP assignment agreement specifically. I mean, ideally, I think you have that on day one. As soon as you engage anyone, especially if you're if you're running a software business, you know, if you've got a really small team, and you don't have a lot of turnover, you know, you don't have to have it right away. But I think if you're, if you're hiring people, and you have, you know, any kind of turnover, and certainly with people that are actually working on software development, you really should have those in place.

Grant  05:46
What are some other contracts? So, IP assignment agreement seems like a common and important contract to have squared away sooner rather than later. Are there other examples of contracts that founders should be aware of?

Emerich  06:00
A nondisclosure agreement? Certainly. It's kind of it's the flip it's goes kind of hand in hand with an IP assignment. agreement. Non-disclosure agreement basically protects your confidential information. A lot of times, you'll have employment agreements, those employment agreements can have all sorts of different terms, right, your standard, your compensation, obviously, severance packages, they can also have restrictive covenants and right, and that's important for employees to understand and sometimes for companies to have is protection. That's like a non-compete or employee or customer non-solicit. Obviously, Terms of Service, right, the terms that you've got customers signing up for, very important. Same with your vendor side agreements, the contracts that govern the relationship with your suppliers and vendors. That's probably pretty much the universe of the kind of startup contracts that you see most often. But you know, there's, there's obviously a whole range of other agreements that you could have on that kind of organization, governance documents, and leases, and all kinds of things.

Grant  07:25
So, this brings up an interesting point. So, you mentioned, like, if you're hiring and firing people, you are probably past the point where you should have engaged with a lawyer. When is the point that someone should get a lawyer involved in their project. So, if you think about, so it's one thing if you if you have a company formed, you're hiring people, you have contracts with vendors that you're working with, you're at that point, you're sort of running business, for someone who has an idea, they're super early stage, and they're, you know, trying things out there iterating. They're considering maybe doing it full time or fundraising, like where in that trajectory? Do you think it's appropriate? To have an at least an initial conversation with a lawyer? Yeah.

Emerich  08:14
So, I mean, I think I'm gonna give your lawyer answer this, but I think the answer is it depends. But, you know, I think certainly, like there's a few things that happen with any company, where I think you need to have a lawyer, and they happen pretty early. So, I think as soon as you start bringing in equity capital, and you have kind of partners in your business, obviously have to have, I think, a wire at that stage to help you work through your limited liability company agreement, or your stockholder agreement, or whatever your governance documents are. In my mind, that's not a that's not a zoom, zoom legal project. If you have, you know, complicated employment agreements, really bespoke agreements with, you know, important customers, those would be areas to at least consider having layer in. But, you know, I think the key one is, as soon as you start getting kind of other partners and where you're going to be sharing the profits of your business, I think you should absolutely have a lawyer at that stage. For sure.

Grant  09:39
And so maybe talk to me about company formation, and what should lawyer role be in that process?

Emerich  09:46
So, I think, you know, there's basically two different types of companies that most people choose. Yeah, there's, there's a number of options, right and do limited partnership or, or limited liability, partnership, all sorts of things. But most people kind of boil down to either a corporation or a limited liability company. I'm a, I'm a limited liability company fan. You know, I think, generally speaking, your corporations have a lot less flexibility. And tax implications, at least if you're doing what's called a C Corp are, are, in most instances, not preferable. So, essentially, a C Corp, a corporation is taxed at the entity level. So, your income is taxed at the entity level. And then it's taxed again when it goes to your shareholders. And you can do what's called an S Corp, which is a pass through entity, which you don't have kind of entity level taxation there. But there are a lot of limitations on kind of what you can do with an S Corp. Right? You typically you can't have different classes of stock, for example, with at least different financial treatment. There's a limited number of stockholders, you could have a limit on your ability to bring in non-US stockholders. So, there's a variety kind of limitations on kind of what you can do if you want to have an escort. And if you don't have an escort, you know, I think that the tax structure for most people have a C Corp is not what people are really looking for, it's not efficient. The other thing about corporations versus limited liability companies is limited liability companies at the end of the day are just creatures of contract, generally speaking. So, corporations, you've got hundreds of pages, statutes, that dictate how you, how you operate them, how you go, how they're how the governance is supposed to work, you know, limited liability companies have certainly have statutes. But there's a lot more flexibility in terms of how you set them up, generally speaking, the law defers to the investors in a limited liability company to set it up the way they want. So, I generally advise most of my clients to seek out a limited liability company,

Grant  12:29
What would be a scenario where you would recommend setting up a C Corp?

Emerich  12:34
a C Corp, so the biggest so there are a few benefits to a corporation around employee taxation, and kind of the taxation of how your compensation is treated. So, some people prefer for that reason, the other thing, frankly, that a lot of people prefer in court for it's just familiarity. So, a lot of investors are just more comfortable with a corporation than a limited liability company. The documentation is a little similar, a little simpler. You know, they've heard corporations a lot more limited liability companies. And so it can be easier to on the margins, probably, but it can be easier to raise funds for Corporation from, you know, not large institutional investors.

Grant  13:33
So, I have it in my head, like an LLC is associated with a smaller business, and a corporation is a larger business. Is that not true?

Emerich  13:42
That's not true. I mean, I think, I think a lot of your big traditional companies, or you know, fortune 500 companies, a lot of them are set up as corporations for various reasons. But there's plenty a large limited liability companies, and I would say generally speaking, most private equity funds, structure, their investments through limited liability companies. And, you know, those can obviously be very large businesses.

Grant  14:35
Would your advice to a founder change? If you know, the person was more likely to be, say hiring full time employees versus primarily working with independent contractors is that have any influence at all?

Emerich  14:53
No, I mean, look, there are, you know, tax things to consider and so, you know, we'd want to talk to you tax accountants or, you know, a tax attorney about that a little bit. But, you know, as I said, there's plenty of limited liability companies out there. And you know, the limited liability companies that I work with have full time employees. And if you don't, we'll do there's no real difference on that front.

Grant  15:21
Got it. And so you bring up an interesting point. So, like, how does an accountant versus a lawyer come into? Like, if you're at the process of making a decision about company formation? Who should you be talking to? Are you taking primarily advice from a lawyer, you reading stuff online, or you finding an accountant to talk to who's the right person to make that call

Emerich  15:45
Well, B is not the right answer. But I think you can probably choose A or C, on that list in terms of kind of a formation stage right, your any, any good tax lawyer is going to be able to, to give you some kind of basic advice in terms of, you know, how to be thinking about kind of the early stage setup of your business. So, I think either one, you'll need an accountant eventually, obviously. So, if you already have one, LinkedIn, they're probably fine to talk to. But, you know, I think most the time when it comes to kind of the true early stage stuff, it's corporate attorney colleagues, is tax attorney for, you know, five minutes of kind of threshold advice on something like that.

Grant  16:36
If someone has, has made a decision set up, and sort of formed their company in a certain way, and then as listened to you, and now they've changed their mind, they've decided that they should choose a different sort of formation for their company, what steps can they take?

Emerich  16:54
they form an LLC, or convert?

Grant  16:57
To incorporate?

Emerich  16:59
So, that's a complicated answer. So, it depends on the state, you're incorporating, some states allow you to convert to an LLC. Other states, don't allow that. And what you actually have to do is form an LLC and merge the corporation into the LLC. But you can do kind of a short form merger, it's not hard to do. But that's typically the way you would you would make that change.

Grant  17:34
How does sole proprietorship fit into this equation?

Emerich  17:40
So, a sole proprietorship in my mind? If you told me how to start a business, I'm the only person invested in the business. I would tell you, okay, form a limited liability company, you'll be the only member of that business for a tax perspective. It'll be disregarded. That's kind of how I would view what you're talking about. And it's how to set it up.

Grant  18:43
So, I'm interested, you sort of scoffed at my suggestion that someone should do some research on the internet, which I know in part you were joking, but I'm serious. How do you think about so like companies like Legal Zoom, or different businesses that are providing a service for a variety of different legal advice and things like company formation? How should someone thinks that especially if, if they don't have a ton of money to pay for a lawyer and accountant?

Emerich  19:17
Yeah, so I think like, I think Legal Zoom, or something like that would make sense. If as I said, You are kind of the sole member of the sole equity holder of your business. And you had a good sense based on, I guess, whatever research you did, in terms of kind of what entity to choose, I think going to source like LegalZoom to form an entity is fine. I think where I guess I get nervous about something like that is when you start having kind of other people in the corporate structure sitting beside you and your ego Initiating working through kind of what their rights are under your or your organizational documents, I get nervous about whether a company like LegalZoom, which essentially has forms, whether those forms will be kind of customized to your specific situation. I mean, I think most of the time, there needs to be changes to those documents in order to reflect that. And, you know, maybe you can, maybe you can get close to Legal Zoom, but I think typically the best path is to get a lawyer. So, make sense.

Grant  20:35
Yeah, for sure. So, one of the things I feel like I've heard is like, if you're going to set up a company, you should set it up in Delaware for tax advantages. Is that true? Or does it depend? And if it depends, what does it depend on?

Emerich  20:51
Well, I think Delaware, the reason people like Delaware so much, is just the corporate laws There are so robust and tested, I guess, I would say that there's a lot of certainty about what you're going to get. Right. So, in my mind is actually less tax focused. Because as a lot most of that, at least, is governed by kind of federal statute, Delaware, my mind is all about having kind of certainty around what the laws that govern your entity are. And, you know, because those statutes have been tested so many times through for so many years. They're very sophisticated. And they there are few situations under the Delaware code where that the issue at hand hasn't been addressed in some fashion. And also, generally speaking there, it's, you know, friendly to entities and corporations, in terms of predictability. Does that make sense?

Grant  22:15
Yeah. So, there are some advantages that are kind of abstract. How would you think about recommending to someone when they should or should not just incorporate or form their company in the state in which they're primarily doing business versus thinking about getting fancy and then going for something?

Emerich  22:34
Yeah, so I mean, I think so one of the things to think about when you're choosing between Delaware, and another state, is whether or not if you choose to file in Delaware, but conduct your business elsewhere, whether you need to be registered was called for incorporation in the jurisdiction that you're actually conducting business in. So, basically, if you, for example, were to run your business out of North Carolina or New York, but you're registered in Delaware, in most situations, you'd have to register in New York, North Carolina has what's called a foreign corporation. And what that means at the end of the day, is you're paying franchise taxes in both places. So, early, early stage, a lot of times people just registering the state where they're conducting their business. For that reason, the minimize franchise taxes,

Grant  23:48
and can you can make a change later on if it's appropriate.

23:52
Yeah. Got it.

Grant  23:56
How should How should someone who's early on think about when to have a lawyer review a contract that they're being asked to sign?

Emerich  24:08
So, I think it's, I think there's probably two questions that I would ask what is importance to the business and to is how complexity. I think, you know, obviously, if you have a, you know, customer that is 100% of your business, and they serve you up a 50-page contract, a lot of bells and whistles, thank you Chanel lawyer, review that. I think if you get served, you know, if you're doing business across the street from across the table from, you know, Amazon, or Google, and they give you kind of their standard document and it's three pages long terms of service or something. Those lines, I can tell you right now, you're not going to get very far in negotiating it. And you can probably read it and generally get a sense of what they're asking for. And it doesn't really make sense to hire a lawyer at that at that point. So, it's a question of complexity and importance to your business.

Grant  26:53
What, so, we talked a little bit about, like, the very early stages, when it's appropriate to pull someone in, that can bring a legal perspective to the room. As a company starts to grow, and mature, how do you think about when it may or may not be appropriate or like, timing wise? For someone to have, like a full-time legal counsel, bringing someone in house to provide that perspective?

Emerich  27:24
Oh I think In-House counsel is a lot later on in the process. I think, you know, a lot of the companies I buy, don't have in-House Counsel, and those companies are, you know, can be worth, you know, over $100 million dollars. So, you know, I don't I think that that, at that point, you're kind of a lot farther down the road, there's probably questions of, you know, what kind of salary they would need, is that going to be worth it for the business? You know, what, what was the function within the business to write? Is there? Is there a lot a lot of legal issues that that you're dealing with, to where it's cheaper to have someone in house than to have a outside counsel look at them all the time. But most of the time, I think that's kind of most of the companies I deal with don't have in House Counsel, regularly.

Grant  28:25
What's the kind of business that's a good candidate for an in-house counsel?

Emerich  28:30
I think certainly someone who is litigating a lot is writing a lot of litigation. If you are negotiating, you know, really, kind of unusual, complicated agreements. It can make sense there, right? So, if you do like, a lot of government contracting, for example, government contracts are very kind of unique animal. And so it may make sense in a situation like that, right? You're kind of in a niche space, it doesn't make sense to have kind of a boutique law firm, do every single contract that come across your desk. I think that's kind of the two situations that that would kind of make sense to me.

Grant  29:24
So, you have one sort of path where it's like, find a lawyer to work with, on like spot solutions. And then there's another path which is, you know, maybe more much more appropriate for way more mature companies that have some complex or regulatory nature to them. What is a retainer?

Emerich  29:53
So, a retainer A lot of times, law firms will require some kind of upfront pay And it can vary in amount most of the time. It's frankly, just that, you know, is this client? kind of serious? Are they? You know, are they credit worthy? It's kind of a way of vetting that as much as, as anything else. But, you know, there's all kinds of flexibility in terms of how that's structured most of the time, it's not like, you know, here's, you know, retainer for, you know, a huge chunk of money, anytime I call you, you know, the expectation is we're going to dip into that retainer for whatever the issue is, most of the time, it's, you know, a discrete project. Here's a small amount of money paid upfront, to kind of confirm creditworthiness and that it kind of switches to kind of an hourly rate.

Grant  30:55
Got it? What, what are the biggest mistakes? You see? So, you mentioned that you're kind of much further along in the sort of life cycle for a startup, primarily, and specifically, around mergers and acquisitions? What are some of the biggest mistakes that you see that founders have made?

Emerich  31:14
So, I think like, so in the deal context, I mean, there's any number of small things that can come up kind of a general macro level on deal work. It's understanding or misunderstanding leverage on a transaction. So, everything in my mind is about, okay, who, who wants the deal the most. And that will look from that, you know, your ability to negotiate terms flows out of that, right. So, I've seen a lot of founders, or sellers that misunderstand that dynamic, I think they have more leverage than they do. And maybe they draw a line in the sand on an issue that they shouldn't, or also sometimes perceiving themselves as having less leverage, if they start falling all over themselves to get a deal done, when, you know, they, they might, if they, you know, took a firmer stance on an issue, you might be able to be a little bit more successful on that particular point. So, in my mind, it's, it's, it's being understanding leverage, and being able to create an ideal, you know, lawyers can help create it. But you know, what I tell a lot of founders, frankly, is, is to think about, you know, hiring an investment bank. Once they, you know, to help them with kind of any kind of sale process. Just advise on that competitive, dynamic and creating, creating that,

Grant  32:57
What sorts of things can a lawyer do to increase leverage?

Emerich  33:01
So, a lot of it's just, I mean, it a lot of it depends on circumstance. But, you know, I've seen, you know, it's, it's a little bit of a chess game, I've seen people, you know, slow play issues, create the perception that, you know, maybe we're not, as it may be interested, as, as other side things. I've seen in an auction context, for example, where you've got kind of multiple betters, you know, lawyers play terms, you know, one party's terms out the other party, right. So, you know, you've got, you know, indemnification issue or rapid warranty, policy issue or any, any number of issues and you can say, look, you know, the understanding has always been that, that this would be you know, and no indemnity deal, for example, and, you know, the other bidders are prevented, you know, indemnity deal. Why, why should we, why should we take that DevOps approach from you? So, there's all kinds of different ways you can do it. Those are two examples.

Grant  34:26
Are there cues and things that you can pick up on as the lawyer in sort of participating in one of these transactions that helps you determine who has the most leverage?

Emerich  34:40
There are soft cues, right. So, you know, certain way someone who gets really emotional in a negotiation, you can get a sense that, you know, maybe they don't feel like they have they either feel more certain, They have a strong position or sometimes the opposite, right? There's an old saying, if you don’t have the facts argue the law, if you don’t have the law argue the facts, and if you don't have either pound on the table. So, you see that sometimes. You know, there's all kinds of soft, soft things that you notice you pick up on in negotiations.

Grant  35:28
Got it? So, for someone who hears your advice, and it's like, Hmm, I think I'm probably in the stage where I should either talk to a lawyer or have passed the point where I shouldn't have talked to a lawyer, I would like to go talk to a lawyer about whatever problem I'm facing right now. For my business and my startup, what advice do you have for people about how to go about finding a, you know, high integrity? and high quality lawyer?

Emerich  35:59
I mean, besides calling me? No, I mean, I think I mean, look, I think word of mouth is the best way to go. Right. So, most people have friends who went to law school that can help them find someone. So, for example, like, every single day, almost every single day, probably I get an email, that's a firm wide email from one lawyer asking for a referral for, you know, pick your issue. So, you know, a lot of times, I'll get a question, you know, get a question about, you know, hey, I, my son got a speeding ticket. My firm doesn't do speeding tickets. But we have a lot of lawyers in our firm that can find someone who handles speeding tickets, so I can make a recommendation on that. So, if you're looking for a lawyer, a good lawyer to help you out, and you know, even one lawyer, oftentimes that lawyer help be able to help you find someone that's good.

Grant  37:12
Yeah, that's great advice. So, this is sort of all the questions I had for you. We've, we have and Emerich has used some language some terms and things through this conversation that maybe people don't understand. One of the things I'm going to do is start compiling a list of important terms for founders and business owners to know about and, and hopefully, Emerich will help me come up with descriptions that are accurate and helpful. But the goal here is to have him back on somewhat regularly and share updates and more advice for people as they make progress in their startup journey. So, Emerich, thank you so much for taking the time and chat with me today.

Emerich  37:59
Yeah, thanks for having me.

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