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What are the key parts of a privacy policy?

Generally speaking, privacy policies are statements that disclose information about the type of personal user data that your application or website is going to collect and what will happen to it. Every privacy policy is going to be slightly different, but they should all contain basic information about the personal data that is collected. It is critical that everything in your privacy policy, especially the practices you claim to undertake, is true. If you misrepresent your practices—even accidentally—you could land in hot water later. Minimum disclosures include: (1) what information is collected; (2) how the personal data is used; (3) who the data is shared with; (4) methods used to collect the data; (5) any third parties who are allowed to collect the data; (6) methods that third parties use; and (7) how a user can access, manage, and change the information and whether it is collected.

Common privacy policy pitfalls include: (1) being incomplete with disclosures; (2) doing things in practice that do not reflect the policy; (3) forgetting to update your policy; (4) creating subsequent products that collect data and not adjusting your practices; (5) materially changing your policy but not telling anyone about it; and (6) failing to comply with local or EU privacy law. In short, the key to complying with privacy laws is to provide adequate disclosure, follow the practices in the policy, and inform individuals (in easily comprehensible language that avoids “legalese”) what rights they have to exercise choice in the data collection process.

What is venture debt and what are the key negotiating points?

Venture debt is a specialized source of enterprise financing for growth-phase technology and life science companies that may not yet have sufficient cash flow or liquid assets to support more traditional debt financing. Certain commercial banks and debt funds specialize in making these loans based on the company’s ability to raise venture capital to repay the loan. Venture lenders bargain for interest and fees in addition to the borrower’s promise to repay the loan at a fixed maturity date. In exchange, borrowers receive the lender’s agreement to lend cash proceeds that can be used for acquisitions, value-adding capital expenditures, and other working-capital needs—fuel for growth that generally comes at a lower cost of capital than the costs and dilution associated with selling equity interests in the company. Among the key negotiating points to consider:

• How big will the loan be (principal) and how long can the borrower keep the money (maturity date)?
• How much will the loan cost in interest and fees, and are those paid up front or at maturity?
• Is the borrower required to issue warrants to the lender as further consideration for the loan?
• Will the loan will be secured by a lien on the company’s assets, and will any assets, such as IP, be excluded?
• Will the borrower’s parent, founder or subsidiaries be required to provide credit support in the form of a loan guaranty?
• Must the borrower repay the loan gradually over time (amortization) or in a lump sum at maturity (bullet payment), and what circumstances would trigger prepayment of the loan earlier than anticipated?
• Will the availability of the loan be subject to a borrowing base?
• What conditions must the borrower fulfill before the lender is required to fund the loan? 
• What are the covenants—particularly financial covenants—that the borrower will have to comply with during the life of the loan?
• What events trigger a default and obligation to repay the loan? Will the loan have a “MAC” default or an “investor support” default?
• Is the consent of existing investors needed to incur the loan?

How do employees earn stock in a startup company?

Equity is a crucial tool for compensating startup employees. It is also an area where companies often make mistakes. Problems with employee equity awards can raise concerns for investors, have negative tax consequences for employees and the company, and affect grants of future awards. Two common pitfalls involve possible violations of minimum wage laws and inadvertently setting a value on the company’s equity.

California and most other states have strict laws that require employers to pay employees a minimum wage in cash. Employees, even founders and officers, cannot waive this requirement. Independent contractors are not employees and are not subject to minimum wage requirements, and may receive equity as compensation in some cases—so long as the equity is issued in compliance with securities laws and regulations. However, a service provider who functions as an employee will still be an employee (even if the provider has signed a document agreeing to independent contractor status) and will be subject to minimum wage laws. Courts and agencies gauge independent contractor status based on a multifactor test, but two of the key factors will be (i) whether they have significant freedom regarding the manner in which they provide services and the hours they work and (ii) whether they truly are running an economically independent business for themselves. Startups sometimes make the mistake of tying the issuance of stock to a dollar value of services from an employee or service provider, creating an implied valuation of the stock that does not reflect its actual value. For example, if a consultant’s agreement provides he or she works at the rate of $100 per hour, and the company agrees to pay the consultant 10 shares per hour in lieu of cash, the company has provided evidence that its stock is worth $10 per share. In this example, if the company were later to grant options to employees with a strike price of less than $10 per share, it may create tax issues for both the company and the employee if tax authorities take the position the option was granted at below fair market value. 

Startups can avoid the valuation pitfall by not making awards in shares based on a specified dollar amount. Instead, a company may determine the number of shares to award based on the relative value of the services provided by the recipient, the reserve of shares available for all service providers, the expected future value of the stock, and anticipated dilution from financing rounds. Also, it may be desirable to issue an option to purchase shares as compensation, rather than issuing shares directly for services.

What is “Series FF” stock and how is it used?

Series FF stock (aka Class F stock) is a special class of common stock with more founder-friendly provisions. Class F stock has become increasingly common in recent years as the time from formation to exit has lengthened. The stock typically contains a mechanism intended to facilitate a future sale of the stock as part of a company's equity financing. It may also be structured to include governance rights that are intended to maintain founders’ control of a company.

Upon sale to a third-party investor, the stock will convert into the preferred shares that the company is selling in the financing, thus allowing the holder to sell the Class F stock at the price being paid to the investor. After the conversion, the transferred shares are for all purposes identical to the preferred shares the investor purchased from the company. With respect to governance and control rights, the stock may include “super voting” protections (ten votes per share for every one vote of the traditional common or preferred stock) and require the consent of the holders for a sale of the company or to amend the charter in connection with a subsequent venture financing.

What are your tips for protecting a startup company’s IP?

IP is an essential part of your company’s value that will affect growth and investment. Even with a limited budget, there are ways to begin protecting IP right away. First, identify your core assets, whether they are trademarks, copyrights, trade secrets, patents, or all of these. Second, consider the IP that most distinguishes your company from competitors, and prioritize protecting those assets first. Part of this analysis will involve considering tradeoffs between protecting your trade secrets and pursuing patent or copyright protections that may require public disclosures. Third, establish internal systems to document and track your IP assets, and craft employment policies that help develop and protect your investments. Fourth, evaluate litigation and licensing activity in your industry to identify potential opportunities and threats. Fifth, regularly assess your business plans, product road maps, and the changing competitive landscape to determine potential expansion of your portfolio or ways to realign your assets as your goals shift.

Experienced counsel can help every step of the way, tailoring an IP strategy to fit your technology and business needs, protecting your company against competitive threats, and guiding your evolving strategy as your company grows.

What is important to include in a “Terms of Use” for an internet company?

An effective terms of use agreement should incorporate the following key provisions: 

• inform users of what they can and cannot do with the website or services, what happens if they abuse the website or services, and rules for posting content; 
• include provisions addressing user-submitted content, such as terms about who retains ownership and how you plan on using the content; 
• add a clause notifying users that the owner is free from responsibility for issues such as inaccuracy of information or damages incurred by users while using your website;
• insert a disclaimer of warranties informing users that you are not bound by any warranty guarantees and denying any other warranties that may otherwise apply; 
• in case legal issues arise, it is important to have a provision governing how disputes will be resolved; and 
• make clear that you reserve the right to terminate a user’s access to your website or goods and services at any time, without prior notice and at your discretion, especially if there is a violation of the terms of use. 

Keep in mind that “terms of use” is a binding contract between you, the website or online services operator, and your users. User consent to the terms can be obtained implicitly through the language of the terms, binding a user to the contract simply through use of the website. However, the best practice is to obtain affirmative consent through “clickwrap agreements” or agreements requiring the user to perform an action such as clicking “accept” or scrolling through the terms in order to confirm assent and avoid unenforceability in the future. And before you begin drafting, also consider what the scope of your terms of use will be: does it govern your website only, or does it also include terms for utilizing any related products or services? Some companies will maintain a comprehensive terms of use that applies to accessing all aspects of their business, including websites, applications, services, and stores.

What are the top labor and employment traps for startup companies?

Becoming an employer subjects a company to a host of federal, state, and local regulations. While it is impossible to detail or even summarize all of these regulations here, startups should be aware of the following: 

• General Mindset: Don’t think that because your employees are highly paid and/or highly educated that you don’t have to worry about employment issues. Virtually all employment regulations will apply equally to a migrant farm worker and to a software engineer earning a six-figure salary. 
• Agreements Don’t Always Matter: With minor exceptions, an agreement between you and your employee, even if well-intentioned and completely voluntary, will not supersede protective regulations. For example, a service provider who agrees to be an independent contractor can still sue for employment protections and benefits if the law regards them as an employee, and employees who agree to a salary can still sue for overtime if they don’t meet the test for salaried status. 
• Employee vs. Independent Contractor: Employment regulations in most jurisdictions are drafted to favor employee status. Courts and agencies gauge independent contractor status based on a multifactor test, but two of the key factors will be (i) whether they have significant freedom regarding the manner in which they provide services and the hours they work, and (ii) whether they truly are running an economically independent business for themselves.
• Salaried vs. Hourly: In most jurisdictions, the law assumes that employees are entitled to an hourly wage for all hours worked and then overtime for hours in excess of 40 in a week. An employee who is paid a salary can sue for unpaid overtime on the theory that she should have been paid on an hourly basis, and often it is the employer’s burden to prove that a salary was appropriate. In some jurisdictions, such as California, hourly employees are entitled to many other protections as well (such as meal periods, rest breaks, and detailed wage statements). 
• Overtime Calculations: Many startups think that overtime is always 150% of an employee’s hourly wage. In reality, many other forms of compensation (such as a non-discretionary bonus) must also be factored into overtime calculations. 
• Commission Plan: Startups shouldn’t assume that sales people don’t need to be paid overtime or a minimum wage—the answer to that question will depend greatly on the specifics of the situation. 
• Leave Obligations: Although specifics vary from jurisdiction to jurisdiction, leave for medical issues (the employee’s own or a family member’s), new child bonding, and military service, among other things, are protected at the federal level. States and local jurisdictions often add many other requirements. 
• Disability Accommodations: An employee who is disabled (a term very broadly defined in most jurisdictions) is not only entitled to protection from discrimination, but is also entitled to reasonable accommodations from the employer to allow the employee to perform the job. What exactly constitutes a “reasonable accommodation” will vary from case to case.
• Expense Reimbursement: California law obligates employers to reimburse employees for reasonable and necessary expenses they incur while performing their job.

What are some structures for angel and seed financing rounds?

Angels and seed investors typically choose between two options for structuring their financing—non-priced or priced rounds. A non-priced round does not place a value on the company at the time of the investment. Often that means using either convertible notes or convertible equity instruments called equity certificates or SAFEs (Simple Agreement for Future Equity). The convertible notes are typically unsecured and have a nominal interest rate. In exchange, the angel will receive a discounted conversion rate at which his or her principal and accrued interest converts into equity. To guarantee the angel will get a certain amount of equity in the event the price-per-share at the preferred financing round is higher than anticipated, the angel and the company will sometimes negotiate a valuation cap above which the convertible note cannot convert. The valuation cap allows the angel to convert his or her principal at either the discounted price-per-share or the negotiated capped price-per-share, whichever is lower. It seems, inevitably, to take longer than parties realize to raise an initial venture financing so companies and angels negotiating convertible notes should agree to a maturity date for the notes that is realistically distant. Equity certificates generally operate the same way as convertible notes, but they are equity instruments instead of debt instruments, which means that they are typically structured to have neither an interest rate nor maturity date.

A priced round refers to early-stage financing in which preferred stock is sold to investors based on an agreed upon valuation of the company. The valuation translates into a fixed price per share of the equity security that is purchased by the investor. Whereas a convertible note or SAFE does not set a value on the company, the sale of equity for cash does. The valuation of the company is important: any future issuance of equity will be valued for tax and other purposes by reference to the price in the priced round. The first step in an equity round is for the company and investors to negotiate a valuation, which will determine the price of the preferred stock. The company will need to balance a desire to raise a sufficient amount of capital with the amount of dilution it is willing to take. Presumably, the seed financing round will be the lowest priced of the company’s financing rounds. Also, investors and the company may seek to establish an option plan reserve for future employee options. If so, they will need to negotiate how big a reserve, and how much dilution the founders are willing to take for the initial employee pool.

What type of entity should I form for my business?

In the US, businesses may be conducted through a sole proprietorship, partnership, C corporation, S corporation or limited liability company (LLC), among other forms. There are a number of factors for a founder to consider in determining the proper form of entity, such as the type of business, the founder’s goals for the business, the contemplated management structure, limiting personal liability and the type and number of potential owners. In general, there is no single factor that will dictate selecting one entity type over another, but founders should be particularly mindful of the business’s tax status and its anticipated capital needs.

C corporations, one of the most common entity types, are subject to double taxation. Income generated by the C corporation will be taxed at the entity level, and if the C corporation distributes that income through dividends to its stockholders, the income will also be taxed at the individual level. In contrast, some entities (partnerships, LLCs and S corporations), often referred to as “flow-through” or “pass-through” entities, avoid double taxation. Under these entities, income and loss from the business are not taxed at the entity level, but flow through to the entity’s partners, members or stockholders, as the case may be.

If a founder anticipates that the business will require capital from outside investors, some entity types may not be feasible. S corporations, for example, are only permitted to issue one class of stock, making them an impractical entity to raise capital. In addition, venture capital funds generally prefer not to or, in some cases, are prohibited from investing directly in partnerships and LLCs to avoid the flow-through nature of those entities. Instead, venture capital funds typically prefer to invest in C corporations, often requiring any portfolio company formed as a flow-through entity to restructure itself as a C corporation prior to funding.

What is a benefit corporation?

Benefit corporations are a newer form of business entity permitted in several states, including California and Delaware, which enjoy the advantages of a traditional corporation with the social purpose of a non-profit. Benefit corporations are for profit entities in which the board of directors is required or permitted to consider more than simply maximizing stockholder value in its decision making process.

To become a benefit corporation, a company must either include appropriate public benefit language in its original certificate of incorporation or obtain board and stockholder approval to amend its existing certificate of incorporation to include the public benefit language. Benefit corporations must also comply with certain additional obligations going forward, including stockholder reporting and periodic assessments against a third party standard. Further, benefit corporations in some states must meet higher shareholder voting thresholds for certain matters.

Some companies choose to keep their current business organization form and obtain “certified B corporation” status, which they obtain by meeting the requirements set out by B Lab, an independent certifying organization. Companies that want to show commitment to social purpose without changing their corporate structure may choose this route in lieu of organizing or reorganizing as a benefit corporation. However, obtaining this certification without changing corporate form does not provide the fiduciary duty protections for the board that are provided to benefit corporations.

How should our company prepare for a potential M&A exit?

Before entering into a deal with your company, a buyer or investor will want to know exactly in what it’s buying or investing. It will want to know more about your assets, your liabilities, your rights, and especially your obligations. The process for collecting and analyzing that information is referred to as “due diligence.” More often than not, a potential investor or acquiror of your company begins the process by sending you a due diligence request. The due diligence request can take several forms—it can be a list of specific questions and document requests or it can be an exhaustive set of blanket requests set forth on a form the potential investor or acquiror could use in just about any transaction. In the event no request is submitted, you can work with your legal counsel to determine what information should be provided.

Where does all this information come from? The bulk of due diligence review involves lawyers poring over your business’ documents. These documents are typically kept in an online “data room” like Google Drive, Dropbox, or Firmex. These data rooms are usually password protected and access is limited. Your legal counsel and you should work together as early as your incorporation to collect over time the important legal documents of your business so that when a financing or acquisition opportunity arises, the needed diligence documents can quickly be provided in an organized form to a potential investor or acquiror.

How can diligence help make decisions regarding potential acquisitions?

One of the most fundamental considerations in evaluating an acquisition transaction is determining the value of the target company. While this analysis is often driven by non-legal considerations, legal due diligence can also play an important role in setting the right acquisition price. In addition to other legal considerations, in determining the target’s value, a potential acquiror will want to understand:

• if a significant customer contract is set to expire in the near term or can be terminated at will, ultimately putting into question whether the revenue generated thereby will continue for years to come;
• whether there is an unclear or contested chain of ownership for the target’s intellectual property or other assets; and 
• the probability of potential litigation claims against the target and whether the target is subject to uncapped indemnification obligations. 

Legal due diligence conducted prior to entering into the acquisition transaction can surface such potential risks, as well as others, equipping the potential acquiror to accurately assess and, if necessary, modify value.

How can I bridge a gap in perceived valuation between buyer and seller?

Valuation gaps between buyers and sellers are common in the M&A context, as sellers seek to maximize upside and buyers seek value. Company valuation is necessarily an imperfect art that involves consideration of historical performance data, limited due diligence, and assumptions about future performance, which typically rely on seller financial projections. Market-based processes, such as auctions, can help narrow or eliminate valuation gaps but are not always available. In these situations, the use of contingent consideration may be a useful strategy to help bridge a valuation gap and move a transaction forward.

One common form of contingent consideration is an earn-out, which provides that the seller will obtain additional future compensation based on the business achieving certain future goals or milestones. Earn-outs can be especially useful where the seller has a short or unrepresentative operating history, operates in a volatile industry or choppy economy, has promising but unproven technology, anticipates one or more key milestones, or its success is dependent on its ability to retain key personnel. Earn-outs are also often tied to the achievement of certain operating milestones or revenue goals, which allows the seller to share in the post-acquisition growth of the company.

Where the valuation gap is primarily driven by concerns over undiscovered liabilities of the seller, another form of contingent consideration that can be especially useful is a holdback, which provides that the buyer retains a portion of the purchase price for a certain period of time to cover future indemnification claims.

How can we determine the best transaction structure for a successful merger or acquisition?

The acquisition or sale of a company can be one of the most exciting yet challenging events facing management. Choosing the proper merger or acquisition structure can go a long way in allowing both the acquiror and the target to achieve their respective goals. Further, many of their concerns may be alleviated by the proper structure.

Choosing the best transaction structure is heavily fact-based and depends on a number of factors, including commercial considerations, legal and tax considerations, third-party and corporate consents, and timing. Moreover, a company’s interests may change depending on whether it is the acquiror or target. Generally, there are three types of acquisition transactions: (i) a merger, (ii) a stock sale, and (iii) an asset sale. An honest and in-depth conversation with a corporate lawyer concerning the company’s goals, concerns, and motivations is necessary to determine the best of these structures to ensure a successful merger or acquisition while minimizing risk.

How can due diligence help structure my acquisition?

The parties to an acquisition will want to structure the transaction in a way that maximizes efficiency and certainty from a tax, business, and legal perspective. The parties will want to consider, among other things:

• the rights of the target company’s stockholders, including, for example, whether the target’s majority stockholders could “drag” along the minority stockholders so the bidder is able to acquire the entire company; 
• whether any regulatory approvals may impact the timing for the acquisition’s closing; and
• the target’s tax assets to ensure they are utilized efficiently in, or maintained following, the acquisition.

Legal due diligence can help to shape an efficient transaction structure by surfacing the presence and potential implication of any such issues, thereby allowing the parties to optimize the structure taking into account such circumstances.

How can due diligence help get my transaction to closing?

A significant consideration in assessing a potential acquisition is determining whether any road blocks have to be navigated to get to closing. Among the issues to consider are:

• “change of control” provisions contained in a target company’s contracts, which grant a counterparty a right to terminate such a contract should the target be acquired; 
• rights of first refusal or first offer over the entire target company or a target’s specific businesses or assets; and
• governmental or regulatory notice, consent, approval, or clearance requirements.

Conducting legal due diligence prior to entering into an acquisition can bring such issues to the surface so that they may be addressed in definitive documentation through appropriate representations, indemnification, and conditions, thereby enabling the parties to avoid or mitigate any potential road blocks to closing.

How can due diligence help me run my business post-acquisition?

When evaluating an acquisition, it is crucial for the acquiror to consider the legal implications of owning the target company following closing. A potential acquiror will want to understand, among other things:

• whether any of the target’s agreements could bind the potential acquiror, such as a non-competition provision that applies to target “affiliates” or indenture covenants that restrict the incurrence of debt or dividend payments; 
• if any of the target’s agreements grant the counterparty termination rights upon the closing of a target’s “change of control” transaction (i.e., the acquisition); and
• whether the target is party to any “springing” or existing licenses that include intellectual property of target “affiliates”.

Legal due diligence can be an important tool in ensuring that the potential acquiror understands the implications of owning the target company following the closing of the acquisition—particularly in regard to potential risks and liabilities—and, as a result, avoiding surprises during the target’s integration and management.

How can I limit my company's potential liability in a definitive acquisition agreement?

One of the key issues in an M&A deal is how to assign risk between the buyer and the seller. One way this is done is through the representations and warranties section of a definitive acquisition agreement (a merger agreement or stock purchase agreement, for example). There, the buyer requires the seller to attest to the truth of a number of statements. The seller also has the opportunity to disclose facts that are contrary to the statements asserted as a way of excluding those facts from the related assertion. A breach of or inaccuracy in a representation and warranty may give the buyer a cause of action against the seller.

The indemnification section of the merger agreement sets out for how much and for how long the seller may be liable to the buyer for any breach or inaccuracy of a representation and warranty. Most merger agreements will also contain an exclusive remedy provision, which says that indemnification is the buyer’s sole remedy for breaches of the representations and warranties. However, it is not uncommon for the buyer to ask for an exception to the exclusive remedy provision if there is fraud by the seller. This means that if there is fraud by the seller, the caps to the liability negotiated in the indemnification section are no longer applicable, and the seller could be liable for much more than what they thought they had negotiated.

While one might think that fraud is easy to avoid as long as one is not intentional or willfully untruthful, the legal definition of fraud is broad, and certain types of fraud do not require a showing of intentional untruthfulness. For example, it is possible for a court to find fraud when one makes an assertive statement that one believes to be true but may not have absolute knowledge of its truthfulness. Courts may also find fraud when the circumstances or conditions of the agreement are extremely lopsided, regardless of the truthfulness of the seller. It is even possible that minor comments about future plans may be considered fraudulent if those plans are not eventually undertaken.

Thus, it is important to work closely with your attorney when reviewing the representations and warranties your company is making, and to define fraud in a way that does not unintentionally leave your company subject to uncapped liabilities.

Should we require potential acquirers to sign an NDA?

It’s important to ensure that an appropriate nondisclosure agreement (NDA) is executed very early in the M&A process. As discussions progress and diligence is conducted, a potential acquirer will obtain access to detailed business, legal and financial information concerning the company. An NDA ensures that the prospective buyer is bound to keep the company’s proprietary information confidential, and protects valuable information from misuse. For instance, a typical NDA will restrict a party from using confidential information other than for permitted purposes, require the party to safeguard the protected information and will often include non-solicitation provisions ensuring that the party may not solicit customers or employees identified during M&A discussions for a specified period of time.

There are many significant points in NDAs that require consideration and negotiation. Parties will often negotiate whether the agreement will protect both parties (a mutual NDA), or just one party (a unilateral NDA), the definition of confidential information and exclusions from the definition, the term of the restrictions and the inclusion or timeframe of non-solicitation provisions, among other details. There are various forms of NDA, which are appropriate in different contexts. Companies should involve counsel in preparing and negotiating an effective NDA and should always be wary of signing a standard form without having it reviewed.

What is CFIUS and how does it impact a startup?

Deal certainty is crucial for startups when raising capital or being acquired. An often unexpected factor that can frustrate deals involving foreign investors or acquirers is the Committee on Foreign Investment in the United States (“CFIUS”), which is authorized to review foreign investments in US companies to determine and address national security risks. Given CFIUS’s authority, it is important for any startup to know the basics about CFIUS to avoid surprises during critical stages of a deal. When a company considers a financing or M&A opportunity involving a foreign entity, it should work with an experienced legal counsel early on in the deal process to identify and mitigate any potential pitfalls and avoid unnecessary risks.

Traditionally, CFIUS was authorized to review foreign investments that conferred control of a US business to the foreign investor. The Foreign Investment Risk Review Modernization Act of 2018 (“FIRRMA”) expanded CFIUS’ jurisdiction to non-controlling investments (acquisition of 10% or less of a company’s equity plus a board seat, access to material nonpublic technical information, or involvement in substantive decision-making) in US businesses involved in “critical technologies,” “critical infrastructure,” and “sensitive personal data.”

Of particular note for startups, while loans are generally not covered by CFIUS (unless the lender obtains governance rights), convertible debt may be considered acquisitions of control in certain cases. Factors that CFIUS takes into account when assessing a convertible note include: the imminence of conversion, whether conversion depends on factors within the control of the acquiring party, and whether the future voting interest can be reasonably determined at the time of debt acquisition.

CFIUS’ interest and focus on technology has led to increased scrutiny of investments in or acquisition of early-stage technologies by entities from countries that pose a national security threat. Early-stage investments are critical for the success and growth of startups, and the inherent need for funding makes startups particularly vulnerable to cash infusions or acquisition by foreign entities.

CFIUS is particularly interested in “foundational technologies,” such as semiconductors, and “emerging technologies” (which are both the subject of an expanded export control regulatory regimes). Examples of emerging technologies include automated and connected vehicles, machine learning, artificial intelligence, IT processing and storage, mobile computing, communications, social networking, synthetic biology, wearable technology, robotics, cloud computing, big data, and neuroscience. Apps that collect facial images and other biometric information have also become a growing concern.

If your company is considering an investment from or acquisition by a foreign investor, you should consider CFIUS as early as possible. Legal advice is critical in avoiding unnecessary delays, or even worse, blocking of a deal by CFIUS.

How can our company expand its operations outside the US?

There are a variety of legal structures that you can use to enter a new market, offering flexibility to meet the needs of your organization and the market segment you are pursuing. The various alternatives involve a number of considerations and trade-offs.

Greenfield Investment: A “greenfield” investment is the building of a subsidiary or branch in a foreign jurisdiction from the ground up. Such cross-border expansion offers the highest degree of control, but in exchange for a slower start up.

Mergers & Acquisitions: If a suitable target can be identified, M&A can be the most impactful way of jumpstarting market entry, but can be expensive, complex and depends on successful integration.

Joint Ventures: JVs are a popular means of initial expansion into a new market. A local partner can be instrumental in navigating cultural, regulatory, and business challenges and allows sharing of resources; but shared control can lead to decision-making challenges and potential disputes.

Licensing: A licensing agreement is often an expedient way to get a service or product to a new market in jurisdictions with strong property rights laws and where the product or service is adequately documented and protected in that jurisdiction.

Franchising: A franchise agreement resembles a license agreement in the risk/control profile, but franchises center around a brand and a trademark as opposed to a set of IP rights bound up in a service or product.

Piggyback Marketing: A low-cost strategy where firms with complementary, but non-competing, products share a marketing channel. The arrangement can be mutual—each firm representing the other in their respective domestic markets, or unilateral—with a smaller firm joining with a larger firm already present in the foreign market.

Distributor/Re-Seller Arrangements: Identifying an appropriate distributor or reseller in the foreign market who will buy your products or services and resell them in their territory is a fast and inexpensive option for entering a foreign market.

How can my company access capital from Chinese investors and market opportunities in China?

Many US startups have increasingly looked to China as a source of capital or as an important market for their products. For a number of reasons, these can be complicated propositions because the Chinese legal environment is so different from the US, including issues around foreign currency controls, government restrictions on foreign participation in certain areas of the economy, and enforceability of contracts and intellectual property rights. There are almost no one-size-fits-all solutions for these issues where China is concerned. However, while it is important to consider the specific dynamics of the startup’s business (e.g., is the startup in an area restricted to foreign investment, such as operating a commercial website), these are issues that can often be successfully addressed through careful structuring.

Differences in the Chinese business environment can also create stumbling blocks for the unwary. Most business in China is subject to government licensing and approval regimes that can be time-consuming and opaque. While there are pockets within China that are accustomed to international styles of negotiating—e.g., US-style documentation, exchanges of mark-ups as a precursor to face-to-face negotiation, avoidance of re-trades on points—the majority of business in China follows its own set of rules. This can be extremely frustrating for US companies with a structured work plan and potentially unrealistic timing assumptions based on US norms. At least some of this frustration can be avoided by a realistic appreciation of China’s unique demands—and the related timing implications—up front.

Chinese companies are increasingly flush with cash and eager to make investments in technology companies overseas. This can be a very high value investment for a number of reasons. Not the least, because of high multiples on Chinese stock markets, Chinese investors have typically been willing to offer generous valuations. Further, to the extent a Chinese partner can offer access to China’s market, this can be valuable beyond any investment received. However, it is important to approach any China project with careful planning.

How can I expand my business through investment in Israeli startups?

If you are interested in expanding your business in Israel, you won’t face many legal roadblocks. Israel encourages investment by individuals, venture capital firms, and multinational corporations from around the globe. There are few restrictions on foreign investors, no screening of foreign investment, and no regulations regarding acquisitions, mergers, and takeovers that differ from those that Israelis otherwise must follow. In addition, Israel offers supportive conditions for inbound investment including maintaining a reliable legal system to provide investors with rights and remedies, encouraging capital and R&D investment, and providing incentives and benefits such as grants, reduced tax rates, tax holidays, and other tax-related benefits.

In many ways, dealmaking in Israel is similar to Silicon Valley’s with terms, conditions, documents, and structures tracking closely across markets. Both places also share a global outlook, a strong risk taking culture, a diverse immigrant population, and an informal, close knit community with access to key decision makers.

Important variations do exist such as corporate/securities issues related to the Israel Companies Law, the treatment of options, and limitations imposed by Israeli government grants and subsidies. And while most Israelis are bilingual, and most company documents are in English, Israelis are generally more comfortable conversing in their native Hebrew language.

Investors and corporates alike would therefore benefit from hiring a US law firm familiar with the technical legal issues, cultural nuances, and trends in both markets.

What are some of the primary considerations for a US startup looking to enter the Japanese market?

US startups attempting to crack the Japanese market must keep in mind several key issues involving company structuring and staffing. As an initial matter, most Japan-based startups are formed as a kabushiki kaisha (KK). All Japanese VC’s and international VC’s with local teams in Japan will invest into a KK. It is very difficult to raise money with a KK structure from international VCs lacking a local Japanese team. As a result, Japanese startups that want to raise money from VCs outside of Japan increasingly incorporate in Delaware.

Market entry may be made easier by forming a joint venture with a larger, established startup. Netflix, for example, launched in Japan through a partnership with SoftBank. If a more informal approach is preferred, a startup may receive substantial market entry assistance from a Japanese company that has participated in a financing round.

Attracting local talent with bilingual proficiency will not be easy. Success often depends on finding an able country manager who can quickly build a local team, typically by hiring away staff from well-known Japanese internet companies or already established US startups. Also, startups should think twice when hiring full-time employees. Terminating bad hires can be difficult and expensive so careful screening of potential hires is critical, and consider using probationary periods before full-time employee status begins. For employees who are hired, unlike their US counterparts, they typically do not expect or seek stock options or other equity incentives as a substantial part of compensation.

What data privacy concerns should a startup company have when considering expanding internationally

Depending on the country, privacy laws run the gamut from fairly laissez-faire all the way to extremely restrictive, as is the case in China, for example, where a national security law aims to make all key network infrastructure and information systems “secure and controllable.”

The type of business that a company plans to engage in overseas may impact whether international expansion is possible given existing privacy regulations. Internet service providers, for instance, would face unique challenges, as would any company that plans to offer online content that the host government deem sensitive or otherwise subject to scrutiny for various domestic reasons. In addition, companies embarking on an overseas expansion to countries with tighter restrictions should consider where to store and how to manage its data. Data may be stored and accessed in the country where the company plans to expand or transferred outside that country to the United States and back again. Another alternative is to set up internal controls in which data is kept outside the restrictive country to minimize potential privacy issues. Each option has its advantages and disadvantages.

What mistakes can founders make that impact later financing opportunities

Founders’ decisions early on can have significant repercussions for a company’s financing opportunities down the road. One of the most common mistakes is deviating from a company’s core product or service offering. Founders should solidify the company’s primary product or service and customer base before taking steps to diversify its offerings. Failure to do so can often lead investors to infer a lack of focus from the primary company objectives.

Taking the wrong approach to fundraising is another common pitfall. With the prevalence of angel and seed rounds, founders can raise money from multiple sources on different terms. Entering into different investment instruments with different capitalization table effects and valuation thresholds can throw up roadblocks for institutional investors who prefer simple cap tables and structures in early stage investments.

Founders can create another potential problem by failing to determine vesting arrangements among the co-founders, which are designed to protect the company when a co-founder leaves. If one of the principals exits without an existing agreement as to the vesting of equity ownership, disputes can arise as to each individual’s proper ownership level, which can lead to disputes over the company’s future direction or otherwise deter future investments.

What US laws or regulations should a company consider before expanding internationally

Before expanding internationally, it is critical to consider various US laws and regulations that US companies remain bound by when operating overseas. US prosecutors increasingly rely on the US Foreign Corrupt Practices Act as well as laws concerning international transport in aid of fraudulent activity, money laundering, and even immigration offenses to target potentially corrupt overseas activities by US companies. Understanding FCPA requirements is particularly important for a business that interacts with government officials or works with so-called state-owned enterprises.

FCPA issues can arise in operations as basic as sales. In certain countries, sales networks often include distribution companies affiliated with the government—a set up that is rife with opportunities for bribery and fraud. To properly address issues arising from the FCPA and other laws, companies must establish effective compliance programs that divide responsibility and reporting among different departments (legal, compliance, human resources, data security, etc.). Setting up such programs will allow a company to be in a strong position to resolve any problems that do arise.

When should companies prepare for enforcement of the EUs General Data Protection Regulation

With the GDPR set to become enforceable in May 2018, now is a good time for companies to determine whether they’re subject to its provisions and, if so, to evaluate personal data collection and processing practices to ensure compliance. The GDPR will govern the collection, processing, use, and storage of personal data—i.e., almost anything relating to an individual resident in the EU that can identify the individual. Even a company based in the US, with no operations whatsoever in the EU, may nonetheless be subject to the GDPR if, for example, the company sells a product available to EU residents and it collects their information as part of its marketing or sales process.

The new regulations impose significant substantive requirements that may compel companies to transform the way they handle personal data. Among other things, it requires a “data protection by design” and “privacy by default” approach to companies’ development of new systems and products offered to EU residents. It also imposes requirements to notify Data Protection Authorities and affected individuals of data breaches; requires companies to obtain affirmative consent before processing personal data, and explicit consent for particularly sensitive categories of data; and grants individuals new rights with regard to their personal data, including the “right to be forgotten” and the right to correct errors in the data.

Potential penalties for violating the GDPR are severe: companies can be punished by fines as high as €20 million, or four percent of a company’s annual worldwide revenue, whichever is greater, even if worldwide revenue is largely unrelated to the EU. To mitigate the risk of regulatory enforcement and significant penalties, companies need to ensure they have a robust compliance program in place by the start of the enforcement period.

For more information, see our client alert and GDPR Toolkit.

What is CFIUS and how does it impact a startup?

Deal certainty is crucial for startups when raising capital or being acquired. An often unexpected factor that can frustrate deals involving foreign investors or acquirers is the Committee on Foreign Investment in the United States (“CFIUS”), which is authorized to review foreign investments in US companies to determine and address national security risks. Given CFIUS’s authority, it is important for any startup to know the basics about CFIUS to avoid surprises during critical stages of a deal. When a company considers a financing or M&A opportunity involving a foreign entity, it should work with an experienced legal counsel early on in the deal process to identify and mitigate any potential pitfalls and avoid unnecessary risks.

Traditionally, CFIUS was authorized to review foreign investments that conferred control of a US business to the foreign investor. The Foreign Investment Risk Review Modernization Act of 2018 (“FIRRMA”) expanded CFIUS’ jurisdiction to non-controlling investments (acquisition of 10% or less of a company’s equity plus a board seat, access to material nonpublic technical information, or involvement in substantive decision-making) in US businesses involved in “critical technologies,” “critical infrastructure,” and “sensitive personal data.”

Of particular note for startups, while loans are generally not covered by CFIUS (unless the lender obtains governance rights), convertible debt may be considered acquisitions of control in certain cases. Factors that CFIUS takes into account when assessing a convertible note include: the imminence of conversion, whether conversion depends on factors within the control of the acquiring party, and whether the future voting interest can be reasonably determined at the time of debt acquisition.

CFIUS’ interest and focus on technology has led to increased scrutiny of investments in or acquisition of early-stage technologies by entities from countries that pose a national security threat. Early-stage investments are critical for the success and growth of startups, and the inherent need for funding makes startups particularly vulnerable to cash infusions or acquisition by foreign entities.

CFIUS is particularly interested in “foundational technologies,” such as semiconductors, and “emerging technologies” (which are both the subject of an expanded export control regulatory regimes). Examples of emerging technologies include automated and connected vehicles, machine learning, artificial intelligence, IT processing and storage, mobile computing, communications, social networking, synthetic biology, wearable technology, robotics, cloud computing, big data, and neuroscience. Apps that collect facial images and other biometric information have also become a growing concern.

If your company is considering an investment from or acquisition by a foreign investor, you should consider CFIUS as early as possible. Legal advice is critical in avoiding unnecessary delays, or even worse, blocking of a deal by CFIUS.