Another Founder Fails

Posted on Posted in Investing, Legal, Mentoring

So, I’ve been in quite serious investment negotiation with a startup that I had previously mentored. They are doing well and are looking for an additional investment round to fund growth.

While competent with their own business and market, the primary founder is a little lacking in general business experience, so I have to date been helping write their business plan and advising them on dealing with investors. I had also advised them that they may wish to send a mutual NDA before they send me or anybody else the business plan, as their business is reasonably evolved and would not want their confidential information falling into competitors hands.

I wanted a mutual NDA to allow me to discuss my investment process which is unique and therefore has some confidential elements that are not in the public domain. So after some discussion, I was sent a one way confidentiality agreement along with a form combining an FCA declaration with an indemnity contract protecting the company from financial litigation.

Now, FCA declarations and indemnity clauses are necessary and required parts of legislation to protect both parties from financial exposure and are part of the legal process when investment talks are seriously underway. They are not, however, part of the courtship ritual that startups would wish to follow at the start of proceedings, in order to woo potential investors.

So the company chose, unnecessarily, to obtain legal advice prior to sending their business plans out. The lawyers were not aware of commercial protection, so did not suggest an NDA (let alone mutual), yet advised sending the FCA and indemnity declarations before sending any business plans. Now, I can’t blame lawyers as their job is to be ultra cautious and take care of the clients interests. But a lawyers view of their clients interests is to prevent them getting hurt, it is not their job to enable or facilitate trade or investment.

There is a reason why clients “instruct” solicitors and solicitors “advise” their clients. Clients all too often assume that the solicitor is instructing them, you can see more on my blog “Some advice on legal advice” http://mikehardcastle.com/2015/11/06/some-advice-about-legal-advice/

So, we now have a one way NDA when I explicitly asked for a mutual (2 way) NDA. If I’d signed this, I couldn’t have disclosed my investment process and therefore could not have proceeded with investment. I didn’t want to send my mutual NDA as I felt the founder would gain more confidence using an NDA that they had instigated.

We also have an ineptly timed FCA statement. The document itself was badly constructed, in fact it was legally invalid and harmless, so I could have signed it to give the founder surety, albeit false. But what I was more interested in was to observe the ability for the founder to understand proceedings, take control and make decisions using the legal advice, but not following that advice blindly. Common sense should tell them that business plans are sent all the time without any formal legal frame work being in place. It’s like a CV, its a companies “consider me for investment please” document.
My analysis of the reaction of the founder was critical to my decision on whether to invest. If you see point 5 from my blog on Guiding Principles for investing: http://mikehardcastle.com/2015/02/12/the-secrets-of-pitching-part-2/ you’ll understand how important my understanding of a founders ability to adapt advice is in determining investment potential.

Unfortunately, despite pointing out in intricate detail all the errors in the documents and the timeline problems and therefore suggesting that the founder had been guided incorrectly. And despite trying to point out the absurdity of the situation, it became clear that the founder felt at an impasse and could not make make their own judgements or trust their own decisions. I therefore solved the block their solicitors had constructed and declined to invest in the company.

As a foot note, the number of times I have seen business leaders use advice from accountants or solicitors as if it were instruction and allow it to placate them of all common sense is immeasurable and one of the main causes of business failure.

Take care founders, you don’t know what you don’t know.

Let’s hope the founder reads this blog and considers it when approaching the next investor. I’m easy in comparison to some investors who will use your inexperience to advantage themselves considerably at your expense.

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