Challenges of Negotiating a Licensing Deal with a Start-Up

I recently gave a webinar on Negotiating License Agreements with Start-Ups, and wanted to follow up on that program with some comments for Silicon Valley IP Licensing Law Blog readers on some of the challenges that companies may face when negotiating an IP licensing deal with a start-up.

In the years that I have worked as a tech transactions attorney in Silicon Valley, I have represented a large number of start-ups in negotiating deals with large companies, and I have found that there is a tendency of large companies to approach deals with start-ups with the expectation that the deal is going to be really easy to close due to the perceived imbalance of negotiating power between the two companies.  While there is no question that this imbalance of power clearly exists in this type of negotiation, companies who approach these types of deals with the expectation that the negotiation is going to be a cakewalk may be setting themselves up for failure.  The very act of entering into a negotiation with a start-up brings to the table a set of unique complications that must be dealt with by the company on the other side of the table.

One of the first issues that a company negotiating with a start-up must contend with is the fact that the start-up on the other side of the table is likely to have a very low tolerance for negotiation.  While large companies enter into negotiations as a normal course of business, start-ups often have absolutely no experience with negotiation, which may even rise to the level of outright aversion to negotiation.  In some cases this is because they are relying on friends and family with law degrees to advise them who have absolutely no experience in deal negotiation themselves.  In other cases, they may have skilled counsel that they rely on but just are unwilling to allocate the necessary financial resources to procure the assistance.  It may also be simply due to a lack of comfort with the negotiating process generally.

A second issue that a company negotiating with a start-up will have to overcome is the inexperience factor, which can have a huge impact on the negotiation process.  In my role as IP transactions counsel, I often find that an important aspect of my job in working with a start-up involves educating the business on the business model and even the standard terms that would be found in the type of transaction they are negotiating.   More often than not, I find that start-up clients have never been involved in a negotiation of the type of deal they are engaged in and that they have never even seen a well-written contract for such a transaction.  The lack of familiarity with deal terms may prompt start-ups to negotiate deal terms that are not even appropriate for the type of deal they are doing, and to even remove deal terms from drafts that are essential to the type of transaction they are negotiating.  For example, I ran into a situation recently where a client removed  a license grant clause from a draft being negotiated in a licensing deal on the grounds that the other side would never agree to it.  The inexperience factor often results in start-ups being unable to make decisions in a negotiating context, or reversing their position on critical negotiating points mid-way during the negotiation.  It also is not unusual for them to be unsure about where they want to involve outside counsel in the negotiation, including him or her in non-essential conference calls with the other side and excluding outside counsel altogether on calls at key points in the negotiation.

A third issue that a company negotiating with a start-up will often have to address is its confusion over how to manage the negotiation process.  It has been my experience that a start-up may put all its energy and focus in lining up the prospective deal partner to do the deal but then find itself unclear on how to proceed and get the deal closed.  This uncertainty can put the party on the other side of the negotiating table in a bind, prompting the more sophisticated larger company to take charge of driving the negotiation if it serious about pursuing the deal.  However, taking over the deal management role for a start-up you are negotiating with will not necessarily move the deal forward either, since critical negotiation steps may be trampled over in the interest of deal management, and the larger company may put a standard template on the table that has no semblance to the deal that the start-up was proposing to the larger company.  To make matters worse, the start-up may then be advised by friends, family, or trusted advisors with no deal negotiating experience that they should just sign whatever the larger company puts in front of them, which often leaves the start-up even more confused and the deal at a complete stand-still.

Of course, there are a number of other issues that may come up in the start-up licensing deal negotiation, but the bottom-line is that they are far from "easy" deals to close and they inevitably present their own unique challenges.  Does that mean that as a larger company you should shy away from these types of deals?  Absolutely not.  Most of the innovation in this country--and even the world--is coming out of start-ups who are uniquely able to nurture and develop new technologies and business models.  The level of innovation that I see among the entrepreneurs I have the privilege of working with consistently amazes and inspires me.  So, as a large company, it makes a tremendous amount of sense to look to start-ups for innovation and corporate growth.  Having said this, in pursuing deals with start-ups, successful companies should approach negotiations with their eyes wide-open about some of the challenges they are likely to face in moving forward with the deals.  Appreciating the considerations of the start-up can go a long way to getting your deals closed with early stage companies.