Nivi · December 30th, 2007
Summary: When lawyers defer their legal fees, they expect equity for the risk of not getting paid. If their risk is low or they’re not deferring fees, you can say no. In any case, offer them the right to invest $25K-$50K in your financing instead of giving them free equity.
A reader asks:
“I wonder if I could pester you briefly for lawyer advice. We are talking to a law firm and I’ve got their standard letter of engagement which asks for the right to purchase 1% of common stock at the same price as founders. Their other terms seem reasonable but this term seems pretty tough. What do you think?”
This is a common ‘ask’ by lawyers.
It’s also an example of a negotiation axiom: you get what you ask for. Particularly when one side is relatively clueless about industry norms, the other side’s strategy is to ask and expect their clueless opponent to say yes.
Lawyers want equity for deferring their legal fees.
If your lawyers are not deferring their legal fees, you should just say no. You’re already paying them for their services, right?
If your lawyers are deferring their legal fees, they can ask for whatever they like: equity, backrubs, your car, whatever. They want compensation for the risk of never getting paid. That’s fair.
But if your financing is imminent or nearly certain, the risk of not getting paid is low and you can still say no. Or give them the minimum equity you would give an advisor: roughly .1% vesting monthly over 1-2 years with no cliff.
Equity doesn’t incent lawyers to work on your case.
Most law firms spread the equity to (1) just the partners or (2) across the entire firm. In either case, the partner on your case receives nearly zero equity and the associate who does all the work receives even less.
Unless you hire a one-man law firm, equity doesn’t incent lawyers to work on your case.
Let your lawyers invest instead of giving them free equity.
In any case, if your lawyers ask for a piece of the business, you can offer them the right to invest $25K-$50K in your financing instead—don’t give them the equity for free. They get equity, you get money.
This unfortunately incents your lawyers to drive down the share price of your financing, but this conflict of interest is small relative to their existing conflicts of interest:
Most law firms do a lot more business with VCs than they’re likely to do with you. VCs hire law firms. VCs refer new clients to law firms. Lawyers make money by executing transactions and your investors simply provide more transactions than you do.
So don’t sweat this minor conflict of interest.
Image Source: My Cousin Vinny
Our corp lawyers ( a top 5 silicon valley firm ) don’t ask for equity – they get right-of-first-refusal on all financing transactions (and at a slightly higher billing rate) until we’re a regular customer.
A lot of firms won’t do equity because it creates a conflict of interest; some set up weird holding companies on the side, but its still considered ethically questionable. The conflict of interest isn’t just on VC firms, but also on potential acquirers or licensees. Because of various conflicts in different legal areas, we have 5 firms representing us – and different arrangements with each.
That said- any law firm that works for free/equity isn’t giving you their full attention, and you should be wary of that. Not surprisingly, their responsiveness is tied to how much money they get from us up front. If you want emails answered within hours not days, and more phone time – you’re going to have to pay.