For many start-ups, intellectual property (IP) is their most valuable asset. Yet founders often make the mistake of assuming that their company automatically owns the intellectual property associated with their business. Unfortunately the laws in this area are much more complex than founders realize and this leads to mistakes that could have drastic consequences for your startup’s long-term value.
First, it is important to understand what is meant by the term “intellectual property”. It is not just patents, trademarks, and copyrights (but it does include those things). It can also include your company’s domain name, the look and feel of your products or applications, trade secrets, and any other intangible property that your company might claim to own, such as images, words, or sounds that distinguish your business from others in the marketplace.
It is advisable to protect your intellectual property by filing patents, trademarks, or copyrights whenever possible to ensure that no other business can use them without your company’s permission. However, before you can protect your IP, you will need to make sure that your firm legally owns it. For instance, if you pay an independent contractor to develop intellectual property, such as computer code for your website or a jingle for your advertising, it is often the case that the intellectual property does not legally belong to you unless the contractor assigns the rights to you or your business. Determining IP ownership is essential for an effective assignment.
Another potential surprise could result from a founder thinking that they own their creations only to discover that they legally belong to the founder’s former employer. If a founder develops their new product or invention while still employed at another job, there is a possibility that the former employer could claim ownership rights to the creation. This is a particular concern if the founder made use of company equipment such a prior employer’s computer or telephone in connection with the new venture. Therefore, it is often advisable to have a founder’s previous employment agreements reviewed by an attorney for potential issues or conflicts. Each founder should carefully review any agreements with his or her prior employer (e.g., an offer letter/employment agreement, a confidential information and inventions assignment agreement, a stock options agreement, etc.) and the employee handbook to determine if there are any provisions that may give the prior employer rights to the startup’s IP. Founders should also make sure that when they leave their prior employer they don’t take anything with them (e.g., electronic files, prototypes, customer lists, etc.).
It is also important to distinguish between what is owned by the company and what legally belongs to the founders. A common mistake startups make is not assigning to the company in writing all of the IP that was created or acquired by the founders prior to the company’s incorporation. Any IP created or acquired by a founder (e.g., code or a domain name) prior to incorporation is typically assigned to the company as part of the founder’s restricted stock purchase agreement or subscription agreement. A problem arises, however, if any of the founders leave prior to incorporation and take their rights to certain IP along with them.
Furthermore, any failure to assign IP to the company must be cleared up prior to seeking investor funds, as this issue will arise during due diligence. The investors will want to protect themselves against the possibility of a founder being able to walk away from the venture with the property the investors are supporting. It also gives some value to the corporation for liquidation purposes.
Answering any questions about IP ownership is better addressed early on. Otherwise, these questions might not arise until the due diligence phase of an angel investment or VC transaction. At that point, not having the answers or not being able to quickly resolve ownership issues could scare away investors and cause the deal to fall through.