The alarming answer is most probably not, because legal audits have shown that more than ninety percent (90%)of trust deeds (and/or amendments to trust deeds) in South Africa may not stand the test of validity if tested in a court of law.

While many businesses may start small, rapid growth or unforeseen changes to business strategy may see cracks start to appear in what originally seemed a solid business plan. In these instances, without reliable contracts in place, business owners may find themselves in the midst of what may prove a lengthy and ultimately costly legal battle.

 

While contracts my differ in intent and thereby complexity, there are a few basics that all businesses can take on board in an attempt to side-step the many negative consequences poorly constructed contracts have the potential to bring into play.

As a commercial law firm, we are very often called to assist our clients through mergers, acquisitions, management buyouts, venture capital investments and other transactions in which ownership of shares in a company changes hands. For a privately held company, especially a small one, these are critical moments that can profoundly affect the long-term health and sustainability of the firm.  

 

Over the years we’ve seen pretty much everything there is to see: The successes, the mistakes and the occasional tragedy. Yet doing our own acquisition of another law firm proved to be extremely educational. At last, we really know how our clients feel through what is almost always a stressful process, even when everything goes well.

 

These are the most important things we learned:

1.  Keeping emotion out of it is hard

As lawyers, we’re normally able to keep a certain objective distance from the negotiations involved in the sale of a company, or shares in a company. We work to get our clients the best deal we can, because that’s what professionals do: But it’s not our baby. Now that we’ve gone through a process where it is our baby – where we will be personally affected by the outcome for years to come – we understand why it’s so hard to be subjectively involved.

 

2.  Change management is one of the keys to success

This is one of the things we all knew – but experiencing it for ourselves really drove the message home. We had to deal with how to merge systems and company cultures, how to nurture relationships through change and how to ensure staff had all the right incentives they needed to stay with the new, merged firm.

 

3.  Remember the clients

We made a special effort to keep our clients well informed about what was happening and to reassure them about the continuity of the service they were used to: But even so, the conversations that followed were not always what we expected. It’s easy to forget that what seems obvious to everyone inside the firm need not be obvious at all to outsiders. Managing client perceptions and expectations should be a very high priority during the acquisition process.

 

4.  There’s no such thing as too much paperwork

Nobody loves mounds of paperwork, but once again the lesson has been driven home: The more you get down on paper, the better. Make sure that what you think has been agreed has been written down and signed – or it’s not agreed at all. Intentions that are not written down in exhausting detail may be not be as clear as you think they are, and handshake and back-of-the-envelope deals are a recipe for relationship fallout. This is not just unpleasant; it’s a serious risk to the success of the deal.

If you’re in the process of starting a new business and want to do things right, you probably already know that it’s important to have the necessary “founding documents” – your memorandum of incorporation and shareholders’ agreement – in place.  But do you know what they should cover? This is our guide to the five most important issues we believe every startup team should consider.

1. What is the relationship between shareholders and funders?

In a well-established company this isn’t an issue: Shareholders have no obligations to provide any kind of funding or other support at all. But nobody gives away shares in a startup without expecting something in return. So, what contribution is each shareholder going to make, and how is that going to be compensated in the long run?

This gets especially complicated in startups because it’s quite typical for the founding shareholders to put a lot of their own money into the business, either in cash or in salaries not taken. A common way to handle this is to specify that loans should always be repaid before dividends are declared. A more hard-nosed option is to decide that whoever can contribute more funding gets more of the shares – this would involve a “call option” or a right to convert your loan into shares. There are other options too, each with different implications in the long term. Choose a lawyer who can explain it all clearly and help you choose the option that works for you.

2. What is the link between shareholding and decision making?

Being a shareholder doesn’t give you any automatic rights to decide how the company should be run on a day-to-day basis. One common mis-perception is that a right to appoint directors effectively affords the appointing shareholder this control– this, however, is is incorrect as any director must act in the best interests of the company (being the body of shareholders, and not the shareholders who appointed them), or face sanction in accordance with the Companies Act, No 71 of 2008, as amended.

So, if you’re a shareholder who wants to maintain a degree of control over the company, you will want to specify certain “reserved matters” which place restrictions on the decision making ability of the directors. If you ever want to bring in a venture capital or angel investor at any stage (and we haven’t yet met a tech startup that doesn’t) they will definitely demand some of these rights.  Thinking about these issues right at the start, and drawing up founding documents that reflect what you’ve agreed on, will put you in a stronger negotiating position later as well as saving you grief in the short term.

3. How do you want to tailor the provisions of the Companies Act to suit your needs?

The new Companies Act has been designed to accommodate the needs of a diverse range of companies, from the largest blue chip corporates to the smallest young startup. Primarily, it achieves this by way of a range of default, but “alterable provisions”, which can be adapted in a company’s Memorandum of Incorporation – but if you want to take advantage of these provisions, you have to do some work. An off-shelf memorandum of incorporation won’t cut it.

For example, the default in the Act is that a private company must have a minimum of one director. You can agree to set the minimum higher – but that must be specified in the Memorandum of Incorporation. 

4. What consensus is needed to make any changes to your agreements?

This is the stuff boardroom battles are made of and relates to amendments to the agreement.  They are always subject to certain requirements (voting thresholds, in the context of an MOI, and (usually) unanimous agreement in the case of shareholders’ agreements.

We’ve seen agreements, for example, which specify that ordinary shareholders don’t even have to attend shareholders’ meetings in order for it to be valid. So if your friendly venture capitalist, to whom you issued shares with certain extra rights attached, decides to hold an important meeting when you’re out of town, there’s nothing you can do about it.  It’s important to know all the options right at the start, so you can decide what your position is.

5. What will you do when someone wants to exit?

Three friends decide to start a company together. Two years later one of them makes a deal to sell his shares to someone else. Would you allow that? Would you want to insist that if one person exits, the others have a right to sell their shares to the same buyer as well? What if two people want to sell and one doesn’t? Can the majority force a sale, or not? The consequences of what you agree at the start can be very big indeed; the advice of someone who’s see it all a few times is indispensable.

On the face of it, company law is very dry stuff – a few minutes with the Companies Act will make the average entrepreneur’s eyes glaze over pretty quickly. But the specific dry legal clause you choose could have very dramatic consequences later on. Taking some time and spending a bit of money to get an expert to explain it all to you is an investment worth making.

 

Our law practice deals with a lot of startups – we love working with innovative, entrepreneurial teams of people. But we also, sadly, get to see some startups implode because their founders put off doing some of the boring-but-critical foundation work like drafting a careful, appropriate founding agreement (including a memorandum of incorporation and/or shareholders’ agreement).

 

Here’s one example scenario: Everyone starts off very excited about their new business, and the three founders of a startup agree to split the shares equally between them. At this point, after all, the shares are worth nothing. Six months later, the company lands its first big contract. With the prospect of actual money on the horizon, suddenly those same shares are valuable, and the two partners who’ve sweated blood for six months don’t feel at all happy about sharing the spoils with the third member who has yet to quit his day job. But he still holds a third of the shares, so he’s fully entitled to his third of any dividends.

 

Here’s another example scenario: The two founders of a startup fall out, and one leaves to start a rival company doing very much the same thing. But he refuses to sell his shares in the first company, entitling him to continue enjoying the rights attached to the shares in the original company while competing with the original company.

 

Once you’re in a situation like this, there’s no way out of it that doesn’t involve a lot of pain for everyone. But neither is it particularly unusual; it’s all happened before. If either company had spent some time exploring all the scenarios with an experienced lawyer before they signed their founding agreements, they could have anticipated the pitfalls and protected themselves against the worst consequences.

 

The founding agreements are particularly important in startups, because a shareholder can’t be passive in a company so small. If you buy shares in a publicly listed company, not much is expected of you. You can attend annual general meetings if you want, but nobody will insist on it; you are perfectly entitled just to sit back and enjoy your dividends.

 

In a startup, things don’t work like that. If I give you shares in my company, it will be in return for something valuable: Either you’re providing funding in some way, or you’re contributing your skills and expertise.  We have to thrash out exactly what is expected of everyone before we start, and establish some objective criteria for deciding whether each person’s obligations have been met.

 

This is never a comfortable conversation to have: It’s like trying to cut a cake that hasn’t been baked yet. Once it’s ready, of course everyone will believe they should get a large slice.  To avoid conflict, you need to agree the value of each contribution before you start: How much is it worth that I bought all the ingredients? What is the person who mixes it all up entitled to? And what about the person who provides the kitchen, the utensils and the oven? You are guaranteed to have these arguments sooner or later -- and it’s far, far easier and cheaper to choose the “sooner” option.

 

Taken together, the memorandum of incorporation and the shareholders’ agreements are the documents that regulate every aspect of your relationship with the company and your fellow shareholders. In general, there are no basic legal obligations attached to being a shareholder, so whatever you require of each other must be agreed and contracted.  It should include what happens if you don’t meet your obligations, and what happens if you want to sell. What process will you use to value the firm, what will the payment terms be, what happens if there’s no cash to pay you out with? These are all important questions to resolve upfront.

 

Spending time on this kind of thing while you’re trying to build a business can feel like a pointless distraction. But if you keep putting it off, it WILL become an issue at some point. So if you’ve never quite got around to sorting out that memorandum of incorporation and/or shareholders’ agreement – take a deep breath, clear some space in your week and call your lawyer today.

Few people are enthusiastic about engaging the services of a lawyer. As an entrepreneur, you’re almost certainly more interested in growing the business than in meeting with your attorneys – but getting from idea to reality invariably requires the involvement of a lawyer at some point or another, so it makes sense to get the most you can out of your lawyer. In fact, if you manage it properly, the attorney-client relationship can be one of the most useful and rewarding business relationships you have.

 

A good relationship always starts with choosing the right person, but once you’ve narrowed the list to a couple of candidates and chosen the best fit, there are five key things you need to remember to ensure the relationship works for you.

 

1.       Know what you want

You’ll get more value from a consultation if you’ve spent some time beforehand thinking about exactly what you need, and why. “Draw up X legal document” will get you the document and nothing more – if you can explain the background and articulate the problems you’re trying to solve or avoid, you give your attorney more space to come up with a creative, appropriate solution.  Giving a good brief is the first step towards a good relationship.

 

2.       Respect expertise

Once you’ve made your choice of attorney, trust their judgement and give them some room to work for you. Professionals who are constantly being second-guessed or micromanaged by their clients – whether they’re doctors, lawyers, accountants, architects or even software engineers – quickly lose the incentive to deliver their best work. If you’re genuinely unhappy with the results you’re getting, give detailed feedback fast – and consider hiring a new lawyer.

 

From the attorney’s side, this means respecting professional boundaries as well. A good patent attorney may know little about tax or contracts; and certainly a lawyer is not an accountant, business coach, therapist or banker. Your attorney should be frank enough to let you know when your needs require the advice of an expert in a different field.

 

3.       Don’t hold anything back

In the hit TV medical series House, the brilliant but troubled diagnostician at the centre of the story has a favourite saying: “All patients lie.” It’s invariably the one detail the patient was too embarrassed to mention that turns out to be the key to solving their baffling medical problem.

 

You’re not quite putting your life on the line if you forget to mention something to your lawyer, but non-disclosure is always a dangerous idea. If the sale agreement you’re negotiating includes a clause warranting that you are involved in no legal disputes, don’t assume anything is irrelevant. Rather disclose absolutely everything, even if it’s just an outstanding traffic fine, and let your lawyer decide.

 

4.       Invest in long-term relationships

It takes time for anybody to understand your business thoroughly, and most lawyers will admit that the clients they have known for years get more insightful and targeted advice than newer clients. The most rewarding clients are the ones who view us as long-term partners, not just short-term advisers, and who pick up the phone to bounce an idea off us whenever they need to. When this happens, we know we’ve succeeded in building up high levels of trust.

 

This cuts both ways, of course: When we meet a client we really like and want to develop a long-term relationship with, as attorneys we should also invest time and effort into learning about their business.

 

5.       Pay your bills

Money disputes can sour business and personal relationships very quickly. The golden rule here is always to be completely honest: Negotiate a fee you can genuinely afford (or find a less expensive lawyer), make sure you understand the terms of engagement, let the attorney know in good time if you’re about to hit a cash flow crisis and, of course, pay the bills when they’re due. Again, this cuts both ways: If your prospective attorney is uncomfortable discussing their fees upfront or the fee arrangement is unclear, then you should consider these matters to be a red flag for the relationship.

 

As always, the golden rule is “do as you would be done by”. Think about what characterises your own worst clients; now consider your best clients. Then copy the behaviour of the good ones, and you’re unlikely to go wrong.

As white consumers forego their rum truffles in protest against Woolies’ employment policies, HR law consultancy Turner & Associates Attorneys explains what is fair and legal, and what is not.

 

The recent uproar over Woolworths’ employment equity policies has brought to the fore several misconceptions about EE. Contrary to what many (white) job candidates may think, employment equity is not designed to serve as racism in reverse. Those who feel the Employment Equity Act guarantees them top posts they are not qualified for, are wrong too. The Act is intended to level the playing field, and the law is clear on how it should be applied.

 

The Act is neither a punitive measure nor is it sanctioned racism. The Act is intended to afford historically disadvantaged South Africans the opportunity to compete meaningfully against their white, historically advantaged brothers and sisters.

 

Unfortunately, some employers are misguided in their application of equity in the workplace.

 

Consider the scenario where Woolworths requires the services of a marketing manager and is battling to meet its equity targets. The proverbial Johan Buys has ten years’ relevant experience and applies for the job. The proverbial Floyd Dlamini has five years’ experience and does not have a Master’s Degree in Marketing like Johan. You’ve guessed it ...Floyd is given the job.

 

Johan would have been given the job, had there not been a need to redress the wrongs of the past. His appointment should not be race-based only, but rather one needed to give Floyd an opportunity to compete for a post against the likes of Johan, who, if Verwoerd did not have his way, would not have been as qualified and therefore not have had the edge over Floyd.

 

Sadly though, even those employers who appoint the Floyds do not understand why they have appointed a less experienced and qualified black job applicant over Johan. Floyd is appointed not only because he is disadvantaged, but also because despite his “inferior” qualifications, he is, properly assessed, capable of meeting the job expectations or would be able to do so with a reasonable level of training by the employer.

 

Where EE is discriminatory

Scenario 2 is what gets Solidarity’s knickers in a knot. The same Johan is again denied the job because Sipho was appointed. Sipho has no formal marketing qualification and was a call centre agent where he “marketed” mobile packages in his best whispering voice for the past three years. As much as the anti-colonial sloganeers hate to admit it, Afriforum and Solidarity have every cause to cry foul and spend their “white capital” donations on court actions in these cases.

 

In Scenario 2, Sipho is appointed only because he is black. There is very little prospect that he would meet the job expectations, and even with training, he would likely not remotely reach the professional standards on offer by Johan.

 

What the conduct of the Scenario 2 employer means is that white applicants are permanently barred from the advertised job. No matter what their qualifications or experience, it is obvious that they would never be appointed because they have previously been formally called whites.

 

Whether or not the advertisement states that the job is reserved for ‘Blacks, Africans or Coloureds’, it would still amount to job reservation and not employment equity. The scenario would become even more ludicrous if no black applicants applied for a post but a white applicant was still not appointed. This practice is all too common in the public service.

 

A realistic view

We often impose anecdotal evidence to feed our own morbid desire for gloom and we should be careful not to use the Woolworths incident to portray white South Africans as becoming extinct in the workplace.

 

The equity statistics still show that whites, and more so, white males, still share the lion’s share of management posts. I would also bet that mainly black people are still filling the queues at the UIF office. 

 

So, employment equity is a useful (and not optional) tool to level the workplace playing fields. It is not, however, meant to permanently deprive white job-seekers of employment for which they are qualified.

 

Stating in a post advertisement that a post is reserved for black candidates is unlawful. If a white candidate is better qualified than a black candidate, but the black candidate also meets the job expectation and is adjudged to be reasonably close to the level of skill of the white candidate, the employer must appoint the black candidate.

 

On the other hand, an employer must appoint a white candidate if his or her qualification and experience is far superior to that of black candidate. That’s the law. What is “far superior” is a matter which must be considered in each instance.

If you’re a small technology-based business and you want to grow, at some point you’ll need more money than you can raise from operations, or borrow from family and friends. That’s when you will need to turn to professional investors, in the form of a venture capital or private equity firm that will inject cash in return for a share of the business.
 
But which is the best option, and what are the risks and rewards of each?
 
The biggest difference is that a venture capital firm will typically invest, for the short to medium term, in companies at a relatively early stage of their development, when the risks of failure are higher.  Many investment companies will either fail, or just putter along without doing anything spectacular.
 
To compensate for that risk, the successful company had better do spectacularly well – and so the typical Venture Capitalist (VC) will want to exit within three years, for perhaps ten times their initial investment.
 
As a result, it’s an understatement to say that a VC investment comes with some strings attached; they’re more like heavy-duty industrial cables.  Strict performance requirements are standard, as are explicit dividends, determined upfront, which accrue until they can be paid. The VC will typically also demand the right to liquidate their investment – which may require the right to sell the company as a whole.
 
Also, don’t expect that as the founder you are automatically the right person to continue as MD or CEO. Part of the value a VC brings is to scale the business, and identify roles within the business (however senior) that need specialised managerial skills.  Successful VCs are not, in general, cuddly sorts of people. It’s their job to be hard-headed to the point of ruthlessness; there is, after all, a lot at stake.
 
So inviting and accepting a VC investment is not a step to be taken lightly, or because it’s some kind of start-up status symbol. The purpose of a VC is to provide the funds you need to grow, and so the investment is not a sign that you’ve made it – it’s the cue to work harder and more seriously than ever.
 
The typical private equity investor, on the other hand, has a slightly lower appetite for risk. They are more likely to take a five- to ten-year view, investing in a company that already has an established track record and can offer good turns – if not the spectacular ones demanded by the venture capitalist. A private equity investor will also bring a wider range of skills to the board.
 
On balance, if you can possibly afford to self-fund for just a little longer it may be worth hanging in there until you become worthy of the private equity funders’ attention. If you know that your growth ambitions are doomed to fail without that early cash injection, go for the venture capital option. But in either case, keep your eyes very wide open – and take all the experienced advice you can get.

Many businesses, especially in the technology sector, are started with the objective of selling them one day. Even if that isn't on the cards, it's a rare company that won't one day want outside investment to grow the business. Your task as a business owner will be immeasurably easier if you lay some basic legal groundwork early on. Corporate Finance Attorney Adrian Dommisse discusses the legal journey from attracting and negotiating investment to the growing pains of post investment.

The less complex your capital structure and financial statements, the more reassured a potential investor will be that they know exactly what they're getting themselves into. Consider the following before you ever need to open your doors, and books, to a potential investor:

1. Keep things tidy – especially in terms of shareholding!

Take action from the start by consolidating your balance sheet, especially your loan and funding as much as possible and maintain a clean shareholding structure to avoid uncertainty or confusion for investors:

- Allocate shares to your founders and anchor investors early on. The later you leave it, the more value they have, and the greater the tax hit will be.
- Beware of giving real shares to your employees (as opposed to phantom shares or other instruments that tract the value of the company). However, fundamentally, valuable members of the management team MUST have an equity incentive of some sort. This is especially relevant for software and other IT companies: determine who actually owns your fundamental means of production!

2. Make sure you operate within your legal limits

If you've built a product, be extremely careful that you own the "building blocks" and/or have a valid license to use those components. In the case of open source software, are you within the licence terms? Also make sure that your employees have all properly assigned to you the intellectual property rights to anything they develop in the course of their employment.

Pay attention to all the standard due diligence issues: Make sure all existing contracts (employment, supply, lease, etc.) are in place and up to date and not overly skewed against you, that your incorporation documents are up to date, and so on.

3. Do your homework and come prepared

Having your house in order is but one of many things to consider as the next crucial steps involves finding an investor with a strategy and values that align with your business; and finalising and negotiating the deal. "The devil is in the detail" and there can be serious ramifications if the details of the deal are not negotiated on level playing fields. To avoid the pitfalls you may encounter during a negotiation, consider the following:

A term sheet exposes the bare bones of the fundamental commercial terms of the investment. By requesting this document early on it allows you to view the essential details. Before putting pen to paper on the term sheet it is crucial to understand which parts are binding.
Always compare the terms on which different investors would invest - often an entrepreneur is focused on the valuation of the company, hoping for a higher valuation and therefore a higher investment. However – there may be a significant "negative" value such as founder restrictions, share claw back, rights of investors to sell (their shares and yours!)

4. Make sure that you hash out all the details prior to signing

Once the investor's attorneys draft the investment document the fees will be for your account (usually deductible from the advanced investment amount). Ensure the legal fees are capped and discuss who becomes responsible for costs should the deal not close.

5. Be prepared for the growing pains post investment

So, you've cleaned up your books, negotiated the dream investment and you're left with the glow of success. But be careful what you wish for as this success will bring growing pains. If you want to make it out of the world of plucky pioneers into the big leagues you're going to have to adapt. Think of it as building the infrastructure that will maximise profitability when growth comes.

Bear in mind the actual cash should be the very least of what an investor in your business should bring. Far more valuable in the long run is the active involvement of someone who has been there and done that: the strategic alliances, the operational know how, the connections and the experience and knowledge they bring.

Growing pains will most probably manifest along the way, but that's ok if you've chosen the right investor. The rewards of growth will far outweigh any sacrifices. If you can prove you have the strength and discipline to run a business in which you are the custodian of other people's money, not just your own, the world is your oyster.