Startups - Deferred Payment Models for Legal Fees

by Hinshaw & Culbertson LLP
Contact

In our “Startup Blog” series, How to Select New Counsel and Manage Legal Fees, we have been discussing the early stages of how to hire a lawyer for your startup. You should be aware that there are different payment methods available for legal fees. In this post we are going to focus deeper on deferred payment models.

One startup executive told us his story of shopping for legal counsel. He was so surprised and startled when a law firm offered him deferred billing that he decided to look for a different firm. He questioned the law firm’s motives since his startup was very capable of paying for its legal work. He wondered if the law firm was taking advantage of him and trying to make more money off of his company. Deferred payment models, including deferred billing, are not a deceptive practice and some startups should consider this alternative fee arrangement.

New Markets for Lawyers & Affordable Services for Startups

Deferred payment models provide startups access to legal services when they may not have the capital to afford legal services. Some startups require extensive legal work (such as complex intellectual property issues) before the startup has raised funds or is profitable. Deferred payment models also give lawyers access to a broader base of clients, and allow them to develop relationships with growing companies. There are a few deferred payment models that we will now discuss below.

Deferred Billing

A deferred billing model provides legal services with payment being deferred until a future date. The date could be a few months, or potentially longer. The fees may also increase or accrue interest as time passes. One advantage of deferred billing is that a startup does not have to give up any equity to a law firm. Also, law firms do not risk offending a startup by trying to gain an equity position.

Revenue Percentage Model

Some startups, such as social media companies, have relatively low costs. Therefore, they may be able to participate in a revenue percentage model and pay a monthly legal fee. Through the use of this model, a law firm will take a fixed percentage of the startup’s monthly revenue until the legal bill is fully paid.

Liquidity Event Model

Some law firms use a liquidity event model with startups. In this model, monthly legal invoices are issued but the startup does not pay legal fees until a liquidity event occurs (such as adequate financing is raised, a grant is secured, a buyout takes place or IPO is finalized). This model allows a startup to not pay legal fees until it has capital. However, this type of model may put pressure on a startup. Some startups have a long term view focused on product development without a big financial payoff in the near future (beyond monthly costs and salary). A liquidity event model may push the startup towards raising or taking money, resulting in a potential loss of strategic and operational control.

Equity Position

Another deferred payment model is an equity position. In this model, the law firm provides legal services in exchange for a percentage ownership of equity in the startup during the early stages of the company. Some startups may see the advantages of this model while others may view it as just “one more hand in their cookie jar” with another party receiving equity in their startup. This model can be especially risky for some law firms since they do not receive any monthly income from the startup and they risk receiving no future payment at all. Generally the equity position can be realized (cashed out) by the law firm during a buyout or IPO.

Venture or Incubator Model

Some startup groups and communities such as incubators, universities, non‑profit cooperatives, innovation and technical centers, startup boot camps and accelerators may participate in a deferred payment model where basic legal and business services are freely provided to a group of startups by a law firm. In this model the law firm is able to decide which startups have the best ideas that the law firm wants to support and invest in long term. The selected startups would have to give the law firm an equity position in the startup for continued long term legal services.

Compliance with State and Federal Securities Laws and American Bar Association (ABA) Model Rules

It is important to ensure that any deferred payment model involving equity comply with both state and federal securities laws as well as American Bar Association (ABA) Model RulesABA Rules 1.5, 1.7(b) and 1.8(a) generally deal with legal fees being reasonable, fully disclosed in writing to the client in a way that can be understood, and the client being given time to consult with independent counsel on the transaction. There are differing viewpoints on whether taking an equity position in a startup is completely ethical and free from conflict of interest.

Next Post – Retainer Fees

In the next blog post we will discuss retainer fees, including tips on negotiating the terms of the retainer and their basic structure.

Jeevan Subbiah also contributed to this article.

 

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Hinshaw & Culbertson LLP | Attorney Advertising

Written by:

Hinshaw & Culbertson LLP
Contact
more
less

Hinshaw & Culbertson LLP on:

Readers' Choice 2017
Reporters on Deadline

"My best business intelligence, in one easy email…"

Your first step to building a free, personalized, morning email brief covering pertinent authors and topics on JD Supra:
Sign up using*

Already signed up? Log in here

*By using the service, you signify your acceptance of JD Supra's Privacy Policy.
Privacy Policy (Updated: October 8, 2015):
hide

JD Supra provides users with access to its legal industry publishing services (the "Service") through its website (the "Website") as well as through other sources. Our policies with regard to data collection and use of personal information of users of the Service, regardless of the manner in which users access the Service, and visitors to the Website are set forth in this statement ("Policy"). By using the Service, you signify your acceptance of this Policy.

Information Collection and Use by JD Supra

JD Supra collects users' names, companies, titles, e-mail address and industry. JD Supra also tracks the pages that users visit, logs IP addresses and aggregates non-personally identifiable user data and browser type. This data is gathered using cookies and other technologies.

The information and data collected is used to authenticate users and to send notifications relating to the Service, including email alerts to which users have subscribed; to manage the Service and Website, to improve the Service and to customize the user's experience. This information is also provided to the authors of the content to give them insight into their readership and help them to improve their content, so that it is most useful for our users.

JD Supra does not sell, rent or otherwise provide your details to third parties, other than to the authors of the content on JD Supra.

If you prefer not to enable cookies, you may change your browser settings to disable cookies; however, please note that rejecting cookies while visiting the Website may result in certain parts of the Website not operating correctly or as efficiently as if cookies were allowed.

Email Choice/Opt-out

Users who opt in to receive emails may choose to no longer receive e-mail updates and newsletters by selecting the "opt-out of future email" option in the email they receive from JD Supra or in their JD Supra account management screen.

Security

JD Supra takes reasonable precautions to insure that user information is kept private. We restrict access to user information to those individuals who reasonably need access to perform their job functions, such as our third party email service, customer service personnel and technical staff. However, please note that no method of transmitting or storing data is completely secure and we cannot guarantee the security of user information. Unauthorized entry or use, hardware or software failure, and other factors may compromise the security of user information at any time.

If you have reason to believe that your interaction with us is no longer secure, you must immediately notify us of the problem by contacting us at info@jdsupra.com. In the unlikely event that we believe that the security of your user information in our possession or control may have been compromised, we may seek to notify you of that development and, if so, will endeavor to do so as promptly as practicable under the circumstances.

Sharing and Disclosure of Information JD Supra Collects

Except as otherwise described in this privacy statement, JD Supra will not disclose personal information to any third party unless we believe that disclosure is necessary to: (1) comply with applicable laws; (2) respond to governmental inquiries or requests; (3) comply with valid legal process; (4) protect the rights, privacy, safety or property of JD Supra, users of the Service, Website visitors or the public; (5) permit us to pursue available remedies or limit the damages that we may sustain; and (6) enforce our Terms & Conditions of Use.

In the event there is a change in the corporate structure of JD Supra such as, but not limited to, merger, consolidation, sale, liquidation or transfer of substantial assets, JD Supra may, in its sole discretion, transfer, sell or assign information collected on and through the Service to one or more affiliated or unaffiliated third parties.

Links to Other Websites

This Website and the Service may contain links to other websites. The operator of such other websites may collect information about you, including through cookies or other technologies. If you are using the Service through the Website and link to another site, you will leave the Website and this Policy will not apply to your use of and activity on those other sites. We encourage you to read the legal notices posted on those sites, including their privacy policies. We shall have no responsibility or liability for your visitation to, and the data collection and use practices of, such other sites. This Policy applies solely to the information collected in connection with your use of this Website and does not apply to any practices conducted offline or in connection with any other websites.

Changes in Our Privacy Policy

We reserve the right to change this Policy at any time. Please refer to the date at the top of this page to determine when this Policy was last revised. Any changes to our privacy policy will become effective upon posting of the revised policy on the Website. By continuing to use the Service or Website following such changes, you will be deemed to have agreed to such changes. If you do not agree with the terms of this Policy, as it may be amended from time to time, in whole or part, please do not continue using the Service or the Website.

Contacting JD Supra

If you have any questions about this privacy statement, the practices of this site, your dealings with this Web site, or if you would like to change any of the information you have provided to us, please contact us at: info@jdsupra.com.

- hide
*With LinkedIn, you don't need to create a separate login to manage your free JD Supra account, and we can make suggestions based on your needs and interests. We will not post anything on LinkedIn in your name. Or, sign up using your email address.
Feedback? Tell us what you think of the new jdsupra.com!