An unfortunately common problem that successful startup entrepreneurs have to deal with is outgrowing their first law firm or lawyer. The reason for this is two-fold:
- High-Growth – Unlike traditional “small businesses,” startups that seek angel/venture capital are by their nature meant to be very high-growth oriented: they start out simple and small with tiny legal budgets, but within a matter of a few years (sometimes months) they can be raising capital from sophisticated parties, striking complex commercial deals, developing valuable intellectual property, and otherwise requiring serious legal advice.
- Short-sightedness – Because startups start out so small and often with non-existent legal budgets, founders will often plan to go with an attorney or firm that markets itself as serving “small businesses” at very low rates. The problem, of course, is that a “startup” and a usual “small business” are not the same thing, because of the first point above.
My thoughts on the “go cheap at first” attitude are already articulated in another post. In a nutshell, I’m of the mindset that because of the high-quality DIY resources available online for startups, founders might often be better off going it alone, until they can afford real lawyers, instead of relying on a mis-matched provider whose mistakes can cost serious money to fix as the company scales.
But the goal of this post is really to emphasize a different, but related point: switching law firms can be a lot more expensive than you think. Put differently, you might think you’re saving money by going with a “starter” attorney, knowing you’ll just “upgrade” if you’re successful, but make sure you understand the full cost of staging your legal providers in this way. It’s likely substantially higher than you expected. Here’s why.
Diligence Cost – What’s in that “other lawyer’s” contracts?
Startup-focused legal practices, particularly at large firms built to serve startups at all growth stages, will have their own set of contract/agreement templates that they regularly work with. All of the attorneys at a particular firm will have deep experience working with those templates and know, without having to review them every time, what they do and don’t contain. So if a new transaction ever comes up and an attorney ever has to make a decision or answer a question that depends on what a historical contract does or doesn’t contain, they won’t have to fully review (and hence you won’t be billed for) having to re-diligence all of the Company’s history.
Naturally, when you switch firms, you bring with you all of the legal foundation that you’ve built on someone else’s contract forms, but are now using attorneys who have no idea what those forms contain. This means your new attorneys will need to fully review the work you’ve done in the past to be confident that the documents are kosher. On top of the cost of fixing any problems, this review process alone will carry a sizable bill.
Drafting Cost – Making everything fit.
On top of having standardized forms, properly run startup law practices draft their forms to integrate with one another. Defined terms, section references, and contract provisions are in sync between sets. Formation docs -> Seed Docs -> VC docs -> Acquisition Docs, etc. This integration saves a startup money by allowing an attorney to pick up a set of, for example, venture capital deal forms knowing that it it’s designed from the get-go to sync with the Company’s previously signed contracts. She can focus on the core deal terms instead of having to tinker with what should be standard language.
Introducing a foreign firm’s contracts into this “legal chain” produces a serious disturbance in “the force.” Everything on a going-forward basis will need to be tailored to fit the foreign legal docs that the Company executed with another firm. And, unfortunately, that tinkering won’t be pro-bono.
Conflict Risk – Something lost in translation.
It’s also worth mentioning that by requiring your attorneys to engage in all this diligence and custom drafting that they otherwise wouldn’t have needed to do if you’d used them from the beginning, you are automatically taking on the risk that something will be messed up. A provision in your old contracts might be missed (because your attorneys were working quickly to try to keep the bill low), or the “tailoring” to your old docs might not have been done perfectly (for similar reasons), and a straight conflict within your contracts will arise. Hopefully it’s a small one. But it might not be. Just know the risk is there.
Think Ahead in Hiring Your Startup Lawyers
So how much can all of these “transition” costs add up to? It depends. The longer you spend with your “starter” lawyer, the higher it will likely be, but it can easily reach 5-figures. Keep that in mind when making decisions about how to provide for your startup’s legal needs. For a successful startup that inevitably has to switch firms, the transition costs of staging, along with those of fixing the mistakes of “starter” lawyers, will likely eclipse what the startup would’ve paid if efficient and scalable legal counsel had been engaged from the beginning.