Author: Gloria Qiao, founder & CEO of Trusli
So you are thinking about starting a business or founding your own startup. The first step, of course, is to choose the right of entity and incorporate it. See our advice regarding how-to here. However, that is just the first step of your legal journey. Small business contracts are important to get the right to protect your rights, avoid dispute or legal trouble down the road, and set up your business operations properly. You must prepare and execute the following 10 contracts or legal documents immediately.
Some business owners choose to use small business contract templates from a web service. Others may google “small business contract samples” online. However, we have seen this going wrong too many times. Rather than trying to do it yourself and inadvertently enter into contracts with unclear or even unfavorable terms, we advise that you consult with a small business contracts lawyer who specializes in small business law. But to give you some examples for business contracts or other legal documents that startup or small business needs, please see our list below.
An NDA is a non-disclosure agreement that you ask contractors, employees, partners, suppliers, and even investors to sign before sharing your trade secrets or business plan. We have written about the why and the how extensively here. Before you send a pitch deck or discuss your technical or business nuisances to anyone, it’s always good to ask them to sign an NDA first.
The drawback would be that there are folks out there who refuse to sign NDAs. Some investors, the famous YC included, point-blank declare that they don’t sign NDAs. From their perspective, it’s hard to keep track of what NDAs they signed with whom and how they can avoid incidentally disclosing the information they receive. So if that’s the case, make a version of your pitch that discusses the ideas generally without revealing your IP or trade secret.
Many of the contracts below, such as contractor agreements, employment agreements, or supplier agreements, will contain confidentiality provisions similar and/or consistent with your NDAs. While preparing for those agreements, ensure that the confidentiality provision does not conflict with your NDAs.
We have discussed in-depth the differences between having employees and contractors. When starting your startup or business, it’s often advantageous for you to have contractors first, as it’s more flexible and less restrictive to start that way. Typically contractors are much easier to bring on and terminate. They also have much fewer rights regarding benefits and other taxes such as payroll tax.
However, make sure you don’t bring on de facto employees but are just calling them “contractors.” For example, contractors tend to work part-time, not use company equipment, and have other engagements as opposed to working for you exclusively. If you are not sure, please review our article above and consult an employment lawyer.
Once you have grown and maybe raised a bit of capital or started to generate revenue, it will come to a point where you have actual employees. You should outline their rights and obligations in an employment contract or an offer letter for employees. We have outlined the best practices before you hire employees here.
Employees in the US can be contracted for a certain amount of time, but startups tend to have “at-will” employees for the most part. This means they can leave any time, or you can fire them any time. However, given there is a lot of sensitivity about discrimination and harassment these days, it’s better that you have a dedicated HR function and an employee handbook outlining the expected behaviors and processes. If you want to terminate your employees, it’s best if you have proper documentation outlining why they are not performing well, give them warnings and time to improve, and then terminate them if they don’t. For more information relating to the potential issues, we have explicitly written about harassment and female employees and LGBTQ employees.
Once you start engaging with service providers, you will enter into service agreements. It’s important to ensure that the service agreements protect your rights, such as IP and limitation of liability. In addition, you need to make sure you don’t give away too much, such as agreeing to their terms about the limitation of liability and indemnification provisions. Finally, it’s also key to ensure you clearly outline and agree to deliverables and payments tied to such deliverables. In our article here, we discussed some pitfalls that you may fall into without having a properly drafted service agreement, such as entering into a deal without clearly understanding the total cost or paying for everything upfront instead of tying the payment to deliverables.
A service agreement is one of the basic business contracts that a startup or small business must get right to protect its rights. If you are not sure about the service agreements that vendors have provided you, consult a small business contract lawyer.
We have written extensively about managing your intellectual property. If you are a tech company, filing a patent application for your secret sauce is the best defense against your competitors. Similarly, before you spend money on getting a website and creating branding assets, make sure you can obtain a trademark for your business name. We did a deep dive on managing the IP for a startup here.
If you have co-founders and/or plan to raise money, you must ensure the company has properly outlined who owns what based on what terms. You would typically divide up the company ownership among the first founders and set aside a portion for your employees—we will discuss that portion below. As you start to raise money, the ownership of the initial shareholders will start to get diluted. You must maintain a proper cap table to show how company ownership has changed over time.
Shareholder agreements will also include terms such as cliff, vesting, etc. A cliff is the time period before which the shareholder gets no shares if they were to leave. For example, for founders as well as employees, we typically have a one-year cliff. This means that if anyone were to leave the company right away, they don’t get any equity. Vesting refers to the period for which founders or employees earn their equity over time. Typically equity has a four-year vesting period, although it can be adjusted to be longer or shorter depending on the circumstances. During this period, the equity would “vest” gradually based on some kind of interval, typically monthly or quarterly. As you can imagine, vesting monthly is more advantageous to the person earning the equity, vs. vesting quarterly is more beneficial to the company.
A shareholder agreement should also address issues that tend to arise when the founders leave. For example, if a founder were to leave but has earned significant equity, can the founder then sell his or her share to anyone? Or does the company have a “ROFR,” a right of first refusal so that the company gets to buy out the founder’s shares first?
Some companies will prepare a share purchase agreement and share restriction agreement separately but address similar issues as above. More sophisticated shareholder agreements also include provisions addressing what happens if the company is acquired or goes IPO. Finally, founders or shareholders also need to grant all the IP rights they create while working for the company that is properly transferred to the company.
For employers, you can incentivize your employees by giving them a small portion of ownership of your company. Employee equity can take on different forms, as we outlined here. Although there are pros and cons relating to restricted stock vs. option, we currently recommend going with options. You need to prepare an employee option plan and execute employee option grants accordingly. The option plan will contain similar terms such as cliff and vesting as described above, just in the context of employees as opposed to founders.
If you start using suppliers in addition to getting just services, you will need to enter into supplier agreements for tangible goods and/or software. This can be a bit more involved than just getting services, as now you have considerations such as warranty, supply and delivery schedule, inventory management, support and maintenance obligations, etc. If you provide tangible merchandise, this is the time to consider hiring a procurement professional to help navigate the complex contract negotiation and supply and demand issues. Similar to service agreements, it’s important to clarify the specifications, expected delivery schedule, and payment milestones, which should ideally be tied to the delivery of goods or software for supplier agreements or purchase agreements.
For software agreements, if there is a combination of getting out-of-the-box software vs. developing custom code for your company, IP ownership becomes especially important. While it’s unreasonable for you to expect to own the software supplier’s code, if you pay money for them to deliver custom-made software for you, you’d better be sure that you own that source code. Finally, if this piece of software is critical for your operation, and if the supplier is not the most stable player, you can consider implementing a source code escrow clause so that you can still maintain the software even if the supplier goes bust.
Similar to a service agreement, a supplier agreement or purchase agreement is one of the basic business contracts that a startup or small business must ensure to get drafted properly. Here at Trusli, we have assembled a team of rock star small business contract lawyers to help you review or draft such legal contracts for small businesses.
If you start fundraising, you will probably start with a YC-style SAFE. While the idea is to keep everything standard and avoid lengthy negotiations, people see more and more “side letters.” We wrote about what to watch out for in these side letters here. The alternative to a SAFE is a convertible note, which is debt that can be converted into equity upon a future event such as an equity round.
As you continue through your startup journey, you will probably start raising a “priced round,” which means you actually issue equity (typically preferred stock) to investors at a certain price based on your valuation. Carta has a pretty good summary of SAFE vs. convertible note vs. priced round here. We will write about this topic more in-depth down the road.
Last but not least, if you have a website or an App, you must draft appropriate terms and conditions and corresponding privacy policies. These documents will contain basic terms such as how to withdraw and cancel services, how to disable user accounts, expected behaviors of both the service provider and the user, jurisdiction and governing law, contact information, limitation of liability and disclaimer of warranties, rules of conduct, user restrictions, etc.
Sounds daunting, right? Don’t worry. Here at Trusli, our goal is to democratize legal help so founders or small business owners like yourself can find the best and most affordable lawyers for all of this. Better even, we put together startup packages at a fraction of the market cost, so you don’t have to shop for all these agreements and lawyers one by one.
To make sure you get the right kind of legal contracts for small businesses or startups in place, you must be mindful of your approach and consult the right kind of lawyers who specialize in small business contract law, as well as other relevant areas as we mentioned above.
Let us know what you need, and we have put together a rock star lawyer team for you. We are here to help. If you want to schedule a 15-minute free consultation with our CEO Gloria, use this link.
Drop us a note. We will get back to you within 1 business day.
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