New York Private Equity Lawyer & Attorney : Geoffrey Parnass : Corporate & Business Law

A lawsuit places the outcome of a dispute in the hands of a third party. That party may be a judge, jury, or an arbitrator in binding arbitration. Regardless, it transfers ultimate power to make a final decision over a dispute from the parties directly involved to a person who has no stake in the outcome of the dispute. The outcome of litigation under these circumstances is unpredictable, to say the least. 

Litigation also places final control over the dispute in the hands of someone much less familiar with the problem at hand than the parties themselves. Many civil courts handle everything from tort claims to family law matters to business disputes. While judges may be knowledgeable in a specific area of law, they will have no prior experience in the facts of a particular case. The judge may also have little or no experience in business, and lawyers often have to educate a judge in complex legal and factual circumstances that may be foreign to the judge.

Litigation is not an efficient method of problem solving. The rules of civil procedure governing pre-trial matters and the rules of evidence at trial are complex and arcane. Courts move from one dispute to another rapidly and it is difficult for even conscientious jurists to stay familiar with the parties and their disputes between appearances. Companies that have attempted to operate through a court procedure, such as a receivership or a bankruptcy, know that this is a very cumbersome and inefficient way of making complex business decisions.

Litigation of course is also very expensive. There is no natural limit on the cost of litigation. The $50,000 legal dispute can be as complex legally and factually as the $5,000,000 business dispute. Once commenced, litigation acquires a life of its own.  It is not a simple matter to cancel a lawsuit after it has acquired a certain momentum. Once this critical mass is reached, lawsuits tend to move in a glacial manner toward an unpredictable resolution. Especially in high stakes matters, it is likely that the parties lose control of the cost of the solution.

Finally, litigation typically destroys whatever relationship existed between the plaintiff and defendant. It may also require a considerable effort to collect or enforce a judgment, which increases the intensity of the hostility. Successful businesses operate in an atmosphere of good will and trust. Those companies that are known to handle problems in a fair manner may do better over time than those who are litigious and hostile.

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Buying another company is a tried and true growth strategy. Making an acquisition can achieve economies of scale, increase a customer base or product line, expand into a new territory or eliminate a competitor. The cost of acquiring a company with a new product or technology may be less than the cost of creating it internally. In addition, an acquired business may be more profitable as part of a larger organization with greater resources than as a stand-alone business. 

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All companies look to forge strong relationships with their distributors. These affiliations are particularly important in industries where distributors add value through education, showrooms, installation or other service elements.

The first question in any distributor affiliation is how much control the supplier should exercise over the relationship. This question often turns on whether the manufacturer produces a commodity product or a proprietary one and the relative size of the parties. Distributors usually will not accept efforts to control the distribution of a product that can be obtained from a number of sources. However, a manufacturer that produces a proprietary product that is in demand has the ability, if it wishes, to exercise important controls over its distribution network.

Some manufacturers build a distribution control system into their marketing plan by setting up franchise systems or exclusive distributorships from the start. Whatever the name, these systems share a common goal from the point of view of the manufacturer: to shape the way its products are distributed in the marketplace.

The past 20 years have seen a marked increase in the control exercised by manufacturers over their products. Antitrust law and policy have adopted the view that consumers benefit when a manufacturer exercises control over its network of distributors in certain ways. Of course, it remains illegal to control pricing policies. That said, there are a wide variety of measures that manufacturers can adopt to shape the way their products get to market.

Perhaps the simplest measure is to grant a customer the exclusive right to sell products in a territory. This is often necessary to entice a well-capitalized distributor to take on a new product line. Other permitted controls include customer restrictions, advertising and trademark policies, stocking requirements for inventory or samples, and full line or exclusive requirements.

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Sherman Act

The Section 1 of the Sherman Act states that every contract, combination in the form of trust or otherwise, or conspiracy, in restraint of trade or commerce is illegal. There must be an agreement or conspiracy among two or more people and the restraint of trade must be “unreasonable”. Examples of agreements that result in an unreasonable restraint of trade include price fixing; allocations of customers or territories; group boycotts; and certain tying arrangements.

The requirement of an “agreement” in Section 1 means that the law does not apply to actions taken by a company unilaterally. However, the courts over the years have been liberal in the interpretation of the agreement or conspiracy requirement. An agreement or conspiracy has been inferred from circumstances such as:

• Meetings attended by competitors followed by collective action (without evidence of discussions).

• An aura of secrecy surrounding meetings among competitors.

• Actions taken by competitors that appear to go against normal self-interest.

• Simultaneous adoption of identical practices by competitors.

The law assumes, cynically perhaps but with some justification, that when competitors get together, they will try to eliminate or reduce any competition that exists between them.

That said, there is no agreement under antitrust law if a company simply announces a policy and independently carries it out. It is also legal for a company to receive complaints and act on them. Further, a corporation cannot combine with itself or one of its subsidiaries. The line between unilateral action and collective action can get blurred in the real world.

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Although office and manufacturing leases are generally recorded on the books as a liability, they are in fact critical business assets. Substantial investments are made in preparing an office or manufacturing center for occupancy. Also, a company generates good will associated with its location.

When leasing office or manufacturing space, an initial matter to consider is the difference between rentable and usable square footage. Prices are usually quoted on an annual square foot basis, so it is important to know whether the quote is based on actual useable space. Tenants should verify the square footage number provided by the landlord before signing the lease.

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No one cares about the law of sales and collections until something goes wrong.   When disputes arise, the parties dust off the “boilerplate” provisions printed on the back of their purchase orders and invoices. Often these provisions are in conflict with one another or do not cover the issue that actually exists. In these circumstances, where the contract involves the sale of goods, the parties must look to the provisions of the Uniform Commercial Code for answers. This Code, adopted in every State, provides a uniform body of rules for sales of goods. For sales of services, the common law of contracts applies. 

The success of the Uniform Commercial Code in regulating the sale of goods has crossed over into general contract law, and many provisions of the Code have influenced the development of general contract law.

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A trade secret is any information that derives its value by virtue of remaining secret and is in fact the subject of efforts to maintain its secrecy. A trade secret is a secret piece of information that provides a competitive advantage over those who do not know the information. A trade secret can be virtually anything: a formula, pattern, program, method, technique, process, sources of supply, customer lists, business and marketing plan, or new product under development. Once the secret is disclosed, it ceases to be a trade secret.

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Copyright law protects "works of authorship."  This means that there must be an author—a human being—and work created by the author. Works are typically thought of as pieces of literature, music, drama, choreography, photography, graphic arts, sculpture, motion pictures, videos, architecture, and computer software, although virtually any other work that is fixed in a tangible medium can be protected by copyright law.

To receive copyright protection, a work must be "original" and must be "fixed" in a tangible medium of expression. The originality requirement is easy to satisfy. A work is original for copyright purposes if it owes its origin to the author and was not itself copied. A work can incorporate preexisting material and still be original. When this happens, the copyright on the new work covers only the original material contributed by the author.

A work is "fixed" in a tangible form when it is made sufficiently permanent or stable to permit it to be perceived, reproduced, or otherwise communicated for a period of time.  It makes no difference what the form, manner, or medium is.  An author can "fix" words, for example, by writing them down, typing them into a computer, dictating them into a tape recorder, or scratching them on a tablet. A live television broadcast is "fixed" if it is recorded simultaneously with the transmission. But a Homeric bard, reciting The Iliad around an ancient fire, does not fix his work in a tangible medium, and therefore is bereft of copyright protection.

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Trademarks are an important tool for companies that develop and maintain brand names. Well-known brand names are used to forge direct ties with consumers or a diverse distribution system. Brands reduce the marketing costs of companies as end users rely on the reputation for quality embodied in the brand.

A trademark is any word, name or symbol used by a manufacturer to identify and distinguish its products from those manufactured by others. A trademark identifies the source of the product rather than the product itself. For example, DELL is a trademark for a generic product—the computer. The DELL trademark indicates that the Dell Corporation is the source of the computer bearing the trademark, which serves to distinguish it from computers manufacturer by others.

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A patent is often compared to an agreement between an inventor and the United States government. The government gives the inventor the exclusive right to practice the invention for a period of time, generally 20 years. In return, the inventor discloses all the details of the invention to the public through the patent application process. The inventor gets to exploit the invention for 20 years without competition. After that, the invention can be freely used by the public. 

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A private placement is a process, not a source of funding. A private placement simply means that the stock is sold in the private market, and cannot be resold in any public stock markets. As a practical matter, no private placement can occur without a placement agent, underwriter or direct source of capital, such as a venture capitalist. Although a private placement is not itself a source of capital, the phrase has become a shorthand way of referring to capital that is provided by private investors, rather than the public stock market.

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Companies that have burned through what cash friends and family have been willing to provide, and still can’t get a bank loan, turn to strangers for money. These strangers go by many names, one being “venture capitalists”. 

Venture capitalists provide money when other sources are not available. Most venture capital financing goes to companies in a narrow band of industries:  technology, information services, life science and telecommunications. Because so many start-up ventures fail, venture capital tends to adopt a collective mentality, flocking toward those deals and industries that are perceived to have the greatest chance of a quick and profitable exit.

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A company with stable growth, revenues and cash flow and assets to serve as collateral can usually get bank financing. This is the least expensive form of capital. Banks charge interest rates keyed to various indexes. Interest costs have been low recently, and look to remain that way for the foreseeable future.

Bank financing documents can appear lengthy and complex, although the lending relationship is quite simple. After providing the funding, the lender is primarily concerned with receiving scheduled payments of interest and principal. The many protective clauses in the loan agreement are designed to maximize the lender’s chances of getting repaid in the event of a default and giving it an early warning if financial problems start to develop before an actual payment default occurs.

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LBO deals are typically done through limited liability companies, while venture capital deals are typically done through corporations. The difference is governed by tax considerations and the expected exit strategy.

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The limited liability company, or LLC, is by far the legal entity most favored by private equity. LLCs enjoy the distinct tax advantage of passing through tax attributes, such as income, loss and gain, to owners. At the same time LLCs are infinitely flexible, offering the ability to create a private world of terms and conditions governing the relations of the members. Only the limits of human imagination restrict the scope of provisions that the LLC agreement can contain. Limited partnerships, which LLCs have largely replaced, have the same flexibility, but they also have a number of annoying structural and capital requirements in order to pass tax scrutiny. 

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