Legal Aspects of Business Continuation Planning

This article is the second in my series on what’s involved in planning for the worst. In the last one I gave an overview on who and what is involved in the process. This time I’ll lay out some of the legal work that may need to be done in order to put your plan into effect. The goal here is for your business to continue relatively smoothly if you die or are incapacitated. The most obvious benefit is that you or your beneficiaries will have a chance to receive the value of the business – which could be lost if you’re not there to run the business.

There are a bunch of great resources out there, largely from insurance companies and banks, about business continuation planning. Though it may seem like a lot to wrap your head around, the legal side is fairly simple. The first step is to identify what the essential parts of your business are. What’s the bare minimum that must be done in order to keep the doors open? Who’s capable of doing those things? What’s to become of your control of the business, and your share of the profits? Once you’ve figured that out, your business advisers can help you to get the paperwork done. That paperwork typically includes:

Continuation Plan

While not necessarily a legal document itself, it becomes enforceable when the directors or officers of the corporation resolve to adopt it. The continuation plan should include who is to assume what responsibilities, who is to oversee the transition, what is to happen with loans that are personally guaranteed, key contacts at customers, suppliers, service providers, advisers, and creditors, insurance policy information, where business records are kept, and any other information that someone taking over your role will need to know about the business.

The continuation plan should be kept in the company’s minute book.

Shareholders’ Agreement

A shareholders’ agreement is a contract between the owners of a company as to how they’ll run the corporation. It can also force those who become shareholders in the future – perhaps resulting from your death or incapacity – to do certain things in running the business. I’ve talked about why you should have one for your business in an earlier article. I’ll write another one soon about what should go in to one… but the continuation plan for the death or incapacity of key people should be part of the shareholders’ agreement. If you have one in place already, work with your lawyer to make sure it jives with the continuation plan. If you don’t have one in place, it’s a good idea to make one.

Insurance

Though it’s not a purely legal issue, insurance is an enabler for most continuation plans. It’s common for the company or your co-owners to take out insurance on you, and the other main players in the business. There are a number of different types of insurance, each with strengths and limitations. The goal is to ensure that there’s cash available to tide the business over and find someone to fill in for the person that’s been lost. Each business will be different, and a good insurance agent can give you the full slate of options, and help you to choose one that works for your company.

It’s important that your insurance agent and lawyer get in touch to discuss the policy you’ve selected so that the legal documents mesh with the policy. Your lawyer can also help you to understand what’s covered, and what’s not under the policy. Once you understand where the gaps are, you can come up with ways to minimize the risks that remain.

Corporate Documents

Picking someone to step into your shoes is one thing. Giving them the lawful authority to make decisions in your place can be another one altogether. You should consider appointing the chosen one as an officer of the corporation, and giving them conditional authority to speak and sign to bind the company in legal documents. They should know where the corporate records are kept, and be put in touch with key advisers including the corporation’s lawyer, accountant, and insurance agent.

When the continuation plan is made, you should ensure that your business books and records are up to date and complete, including the minute book, government filings, and accounting records. Your successor will have enough to deal with already, without having to deal with figuring out what state the company is in first. The corporate minute book should also include a resolution approving the contingency plan, which will prove useful in dealing with outside institutions – banks in particular.

Wills & Domestic Contracts

Not only should you have a will in place that deals with your interest in the company, but it should be in harmony with the continuation plan. If the corporation has decided that your control of the business should pass to one person, but your will passes all of your property to your spouse, there’s a huge potential for conflict. Many people use separate wills for their personal and business assets. Domestic contracts – while painful to negotiate – can be used to protect control of the corporation as something that’s not included in the marital assets in the event of separation or divorce.

Powers of Attorney

A Power of Attorney for property is a legal document that authorizes someone to act for you in making decisions in the event that you’re incapacitated. Banks and other creditors will want to see this, possibly along with the resolutions authorizing the contingency plan and granting signing authority before they’ll deal with someone they don’t know. These are usually made or updated at the same time as your will.

Employment Contracts

Many owner-operators work without a written contract of employment in place with their company. It’s generally understood that as an owner-operator, your responsibilities and risks are almost indefinite. It is a good idea to put an employment contract in place with yourself – a description of duties, salary, and benefits at a minimum. This will help to set expectations for what’s expected of and given to your replacement.

A current employee who steps up into your role will be taking on a great deal more responsibility, and assuming more personal risk in the form of director or officer liability than they had before. This type of change to the employer-employee relationship is something that should be down on paper to protect both of you. Salary, responsibilities, and expectations may all change in the new contract. It’s also good practice to give some form of protection, called indemnity, to those who run the company.

If there’s nobody in your company who could step up to run it, a manager may need to be hired from the outside. If you want to have any say over their role, and any limits on their authority, you’ll have to set those out in advance. Again, the starting point could be your employment contract.

Again, insurance can be used to cover some or all of the expense of hiring, training, and paying a new employee.

Practicalities

Training your possible successor is the most important piece of the puzzle. They may show the potential to run the business by having the right skill set, but will probably need time to be brought up to speed on how the business works. It’s never too early to start. The up-sides of having someone who’s capable of running the business are many – you may even be able to take a holiday for once!

It’s also important to be mindful of avoiding trying to run the business from beyond the grave. A properly trained and equipped successor will still have their own ideas, and should have the flexibility to see them to fruition.

Conclusion

When a thorough continuation plan is made, it’s a major step towards peace of mind for you and your dependents. If you’re laid up with an injury or illness and the business founders without you, you may not be able to pay for your own care. If you pass away, and the business you’ve worked so hard to build follows closely behind, your dependents may be left high and dry. If the business goes under, your employees and others who rely on it for their livelihood, could be in dire straits. While it’s an uncomfortable thing to talk about and plan for, it’s the responsible thing to do.

I’m happy to help you start the process, and I’ve got a good team of specialists who can guide you through the finer points of tax, employees, insurance, and financial planning should you want the help. The next article, on how to plan for your retirement, will be on its way soon!

Now, to counter all those gloomy thoughts I’ve put in your head, here are some very cute animals trying to look tough.

See you soon…

 

 

Mike Hook
Intrepid Lawyer
http://intrepidlaw.ca
@MikeHookLaw

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Contingency Planning for Small Business

Owning your own business is kind of like giving birth to a needy child. It will fill your days with all manner of excitement, some good, some bad. There also comes a time when you need to start considering what happens to the child if and when you’re not around to take care of it anymore. What happens if you get sick? What if you kick the bucket? What if personal or family problems prevent you from running the business day to day? How the hell are you ever going to retire? None of those things, save perhaps retirement, are pleasant brunch conversation, but they must be had. They’re the first step in making contingency plans. Without such plans, the well-being of your family, employees, and company may be left in limbo – legally, financially, and business-wise. Contingency plans are certainly not decisions that should be made hastily, nor should they be made alone.

This is the first in a series of three articles I’ll be writing on the topic of contingency planning for your small business. This first one will be a general overview of who and what steps are involved in the process. The next two will touch on:

  1. Business continuation planning – if you become sick or incapacitated unexpectedly, and
  2. Business succession planning – how to retire and get the value you grew in the business out of the business.

Goals

Each business owner will have a different view of what they want out of “retired” life, but there are a few overarching goals that should be built into any succession plan:

  1. to make a smooth transition to a successor;
  2. to see the business in good hands going forward; and
  3. to have financial security in retirement or during illness or incapacity.

Timeline

When I say not to make the decision hastily, I mean it. There are a bunch of hard decisions that you’ll need to make. Your decisions will affect the people you care about the most – friends, family, employees, collaborators, customers/clients, suppliers, and so on.

For business continuation planning, give yourself a couple of months to put the plan together. This will give you time to have those tough discussions, get meaningful feedback and advice, gather the appropriate information, and get all the paperwork done. You want to ensure that the plan you’ve made is feasible, and will work even if the worst case scenario happens. You may also have to start training your staff to do what you do, which can take considerable time as well.

For business succession, allow several months to make the plan, and at least 3-5 years to ease the plan into effect. All of the same steps for business continuation planning apply here, but with a different end-game. So, if you’re a baby boomer who’s looking to make a slow, graceful exit from the business, the time to start planning is now…

Who’s involved?

It’s one thing to decide who you want to carry the flag for you, and another thing altogether for them to want to pick it up and run with it. There are two rounds of consultation to do – one with those affected by the plan, the other with the advisers that will help you piece it together.

In the first round of talks, you’re trying to figure out who’s willing and able to take over the business. At the end of the day, it’s up to you and your co-owners to choose, but I pity the fool who tries to pass their affairs on to someone who doesn’t care to take over, or doesn’t have the ability to run the business effectively. The folks you should talk to include:

  • Family members – particularly your spouse, children, and others who could be beneficiaries in your will
  • Business partners/co-owners/other shareholders
  • Friends with an interest in the business
  • Managers and senior employees
  • Major creditors

After those talks, you should have a pretty good idea of who’s willing to take over, what knowledge gaps need to be filled to get them ready to do your job should you not be able to. Then it’s up to you and your co-owners to choose who will take over, and when.

Once you’ve got a plan, it’s time to figure out how to put it into action. This is where your advisers earn their keep. You should talk to your:

  • Tax planning accountant**
  • Lawyer
  • Insurance agent
  • Banker, and
  • Major creditors

I put two of these bad boys – ** – next to the tax planning accountant for a reason. Many small businesses have an accountant who does their books and prepares tax returns each year. This accountant may be great, but they’re not necessarily a tax planning expert. A CA who focuses on tax planning can help you to get your money out of the business with minimal taxes. Your accountant will take the lead in planning how it’s to be done, your lawyer will do the grunt work to set up all of the structures, and your insurance agent will help you figure out how it’ll all get paid for.

The People Factor

As you well know by now, a successful business is only as good as the people who run it. If your business is doing well enough to prompt you to make contingency plans, then it’s also doing well enough for you to start grooming your employees to take more responsibility in it. When the employees are running a bigger piece of the company, you’re able to phase out gradually. This means training them to do what you do, allowing them to make mistakes and correct them, and developing their leadership skills. This learning curve may take years, so start doing it right away.

There’s a saying in the army that “no plan survives first contact with the enemy”, meaning that every plan looks great on paper, but things rarely ever go according to plan. It’s wise to build contingencies into your contingencies. Pick more than one worthy successor, or have more than one option. That way if your #1 choice jumps at a different opportunity, falls ill, or turns out not to have the leadership skills needed to take the business forward, you’re not up a fecal watercourse with no means of mechanical locomotion.

Conclusion

This was a very brief overview of the contingency planning process. In the next article, which you can find here, I’ll dive a little deeper into business continuation planning, and some of the legal stuff that’s involved in it.

If you’re looking for a more in-depth discussion of contingency planning, the Canadian Federation of Independent Business has an excellent guide up for free. The Government of Canada has published a quick online guide, and most banks and insurance companies have similar publications.

See you again soon!

Mike Hook
Intrepid Lawyer
http://intrepidlaw.ca
@MikeHookLaw

What is a Joint Venture?

Many folks in business bandy about the words “partnership” and “joint venture”, or even a “JVP” (short for joint venture partnership – a made up term like “Leafs playoff tickets” or “government transparency”), without understanding that partnerships and joint ventures are different legal animals. Though the two have much in common, there are a few important differences that, if not understood from the outset, could affect your work together in strange and not-at-all-wonderful ways. If it walks, talks and acts like a partnership it will likely be treated as one, even if the intention was to create a joint venture. Ergo, it’s important to be clear and precise when creating a co-owned business, in order to avoid unexpected complications with tax, ownership of property, or liability.

What’s the diff?

Partnerships and joint ventures are both agreements to do business together between two or more individuals or corporations, with the goal of making a profit. Both are formed and governed by contract between the parties.

Joint ventures usually are usually used for one-off projects. They’re limited in time and scope – you’re not working together on everything, and they’ll often have an expiry date, which allows parties to renew or eject. They’re particularly useful when you’ll all be putting in different skills and assets, in different quantities. Joint ventures don’t create a separate business entity, and generally are not registered with the government. You work together to the extent that’s agreed to in the contract, and that’s it.

Partnerships, which I talked about in this other article, create an ongoing business relationship through a partnership agreement. Partnerships must be registered as a business entity with the government, and are governed by the rules in the Ontario Partnership Act.

Key terms in the contract

Terms common to both joint ventures and partnerships include:

  • Length of the agreement and conditions for renewal
  • What the business will and will not do
  • What money, assets or skills each party is contributing
  • Share of profits and losses, salaries, and expenses
  • Calculation of profits
  • Duties and responsibilities of each venturer
  • Management structure
  • Indemnity between the venturers
  • Dispute resolution

Terms of a joint venture agreement – or JVA – include:

  • Limits on time or scope of work
  • Termination, including how to divide up assets
  • Ownership of co-created assets and intellectual property
  • Assigning liability for actions of the other venturers
  • Accounting between the venturers, record keeping,
  • Bank accounts, and insurance
  • Division of expenses and revenues

Ownership of property

Ownership of property contributed to a joint venture remains the property of each joint venturer. The party who owns the asset may use it for other purposes without the consent of the joint venture unless it’s otherwise agreed.

Assets contributed to a partnership are considered the property of the partnership and not of the individual partners.

Tax consequences

 Your accountant will care a great deal about this stuff, and the tax consequences of the business structure you choose could be substantial. Make sure to ask before you choose one or the other…

Income Tax

The distribution of profits in both is governed by the agreement. Joint venturers assess their taxes based on their own expenses and share of the revenues from the joint venture. Partners in a partnership are taxed based on the net profits of the partnership. The net profits are distributed to the partners according to their share of the partnership, and taxed at the partners’ normal income tax rate.

The choice between partnership or JV makes a big difference if one party is spending more than the others. In a partnership, a party with higher expenditures would not be able to claim that amount individually.

Capital Cost Allowance

Capital cost allowance is a tax deduction that allows a business to account for the depreciation of capital property. Joint venturers may each claim the capital cost allowance individually to maximize their own tax benefits for the depreciation of the assets they put in to the joint venture. In a partnership, the capital cost allowance claimed must be the same for each partner because only the net profit of the partnership is distributed.

Fiscal Year

Joint venturers report their share of income and losses based on each venturer’s tax year. A partnership will have its own fiscal year end.

Corporate partners in a partnership are required to claim income (but not losses) for the period between the end of the partnership’s tax year and the corporation’s tax year.

Liability

Joint venturers are liable for their own debts and obligations, and can limit their liability based on the joint venture agreement. That way a creditor can’t go after one joint venturer for the debts of the other. The venturers can agree to share responsibility for liabilities taken on in the course of the project, or can split them up however they see fit.

Partners in a partnership, on the other hand, are “jointly and severally liable” for the debts, obligations and misconduct of the partnership and the other partners. “Joint and several liability” is a legal term meaning a creditor can go after the other partners to settle one partner’s debt. The liability can be limited by creating a “Limited Partnership” where a “general partner” takes the excess of any liability that the other partners can’t cover. Each other partner is only on the hook for their own debts or misconduct up to a fixed amount. I’ll get into Limited Partnerships in a different article later.

Both joint ventures and partnerships can agree to assume only their own liability, but there is more risk involved in a partnership if the at-fault partner cannot cover the loss.

Summary

Where two or more parties want to join forces together for a one-off project rather than becoming co-owners of a business, a joint venture is typically the way to go. Whichever business structure is chosen, the choice should be clearly set out in the agreement between all parties involved. Though joint ventures and partnerships may have many characteristics in common, the legal differences between the two warrant taking the time to talk to a lawyer and figure out which structure is right for the business at hand.

I’m indebted to my awesome law student intern, Claudia Dzierbicki, for her work in putting together the guts of this article.

 

Mike Hook
Intrepid Lawyer
http://intrepidlaw.ca
@MikeHookLaw

Lawyer Stuff 101 – Contract Negotiations

It’s one thing to have professional advisors – lawyers, accountants, etc. – to point you in the right direction. It’s a whole other thing to know how to use them properly. I’ve found it’s a pretty steep learning curve for most entrepreneurs to figure out how to receive advice from, and give instructions to their lawyer. So, this is the first in a new feature I’m calling “Lawyer Stuff 101” – what a lawyer can do for you in different situations, and how the process should work.

I’ve been harping a lot on contracts lately – generally, and for record labels – since it’s a big part of my practice, so the process of birthing a contract seems a logical place to start. Signing a contract without a lawyer is like doing your taxes without a calculator – just because you can do it doesn’t mean that you should. Get your lawyer involved early in the process, as our kind know more about the points that should be covered in different kinds of deals. It’s easier to ask for something from the start than to go back to the drawing board when you realize that your deal has gaping holes in it.

Lawyers do three main things with contracts – writing them (drafting), reviewing them, and help in negotiating them. I’ll touch on each in turn.

Writing Contracts

Usually the party that’s offering the goods or services is the one who draws up the contract. The way your company does business will dictate a lot of the terms of the contract – how goods are ordered, packaged, shipped, and paid for, for instance – so it makes sense that you’d spell that out for the other party first.

It may seem odd, but it’s usually cheaper to get your lawyer to write a whole contract for you than to go through and tweak something you’ve written yourself. In order to “tweak” your contract, the lawyer’s got to review it first (see reviewing, below), and then rework it to say what you want it to say.

I usually send my clients a list of the things that they should consider for the type of contract they’re writing up, and ask them for a list of the things that they want in it. This often involves talking to the other party and figuring out the who, what, when, why, where, and how of the deal. Once that’s done, I’ll put together a first draft of the contract and send it to the client to review it.

Once you’ve read the draft, there’s usually a phone call or an in-person meeting to go through it, clause-by-clause, to make sure it says what you want it to say. Sometimes just talking through an issue raises other points that need to be added or changed in the contract. I make the changes and send an updated draft. It may take some back & forth to get it just right.

Once you’ve got a contract, it goes to the other side. Depending on what the contract’s about, there may be some negotiation involved before you can put pen to paper. The end goal is for you to have a contract that everyone understands, and says what it’s supposed to.

Reviewing Contracts

Any time you’re presented with a contract, it’s important that you understand what it says before you sign it. Contracts are binding legal agreements, and there can be major consequences – like lawsuits – for breaking them.

It’s up to you, the client, how thorough of a review you want. The thoroughness of review depends on a bunch of things – your budget, and the size of the deal tend to be the biggest factors. A review and legal opinion will be more expensive and more thorough than a general overview and flagging of key issues. The bigger the commitments being made, the more important the deal, or the more money involved, the more important it is to get it right.

When my clients send me a contract for review, I’ll ask them to tell me in their own words the deal that they think they’ve made – so I know whether or not the contract actually says that. For a thorough review, my work starts with a quick read-through, to get familiar with the structure of the contract, and its general terms. I may ask a few follow-up questions at this point, or for copies of other agreements or documents that are referred to in the contract.

The next step is a thorough read-through – word by word, clause by clause – to understand the finer points of the deal. I’m looking to make sure that the contract doesn’t contradict itself (consistency), that it ties in with other documents or agreements, that it’s fair and matches the deal you think you’ve made, that there’s nothing illegal, and that there are no significant or unusual risks (liability) that you’re taking on.

The last step is to give a written legal opinion on the contract. In the opinion I’ll explain how the deal works as written, and point out differences from the deal you thought you’ve made. I’ll flag unusual or particularly risky clauses, inconsistencies, and illegal clauses. The amount of detail in the opinion depends on the thoroughness of review you’ve asked for. Once I’ve sent you the opinion, and you’ve had a chance to read it through (a couple of times, at least), we’ll set up a call or a meeting to discuss it, which often leads to….

Negotiation

Most business contracts have room for negotiation, as both sides want a fair deal that will grow their business. The negotiation process is where you try to add as many of the things that you want to make the deal better for you, and to get rid of the things that expose you to unnecessary risk. That said, risk is inherent in business, and usually each side will take a share of it. How much risk you’re willing to accept is up to you. My job is to let you know that it’s there, and recommend a course of action – but it’s up to you to make the decision. Once you know the risk’s there, you can take steps to minimize its potential impact.

The first step of contract negotiation, which is usually tied in with the discussion of my legal opinion, is figuring out what you want. What are your must-haves, nice-to-haves, and things you don’t care about one way or the other? Then we try to figure out what the other side wants and why they want it, and brainstorm ways to work through potentially sticky negotiating points.

I usually recommend that the business people talk directly, before getting the lawyers involved in negotiations. It could be a quick phone call or email to discuss the main points, and get an agreement in principle on the proposed changes. This “meeting of the minds” between the business decision makers helps to keep the lawyers on track when sussing out the details.

Whoever is proposing changes will then have their lawyer make the changes they want to the contract, and send you back a clean copy and a “black line” version with the changes highlighted. The other lawyer will review those, advise on any variation from the agreement you made with the other party, and any new risks. The contract may get bounced back and forth like this a few times to hammer out the finer points, and the lawyers may need a phone call or two to finish it off. Any changes from the deal you’ve instructed me to get will have to be approved by you.

Conclusion

Putting together contracts can be a drawn out process, especially for complicated business deals. Most lawyers will use some variation of the above process. Start planning well in advance, and get your lawyer involved at an early stage. When it’s all said and done, you’ve got a contract that you can live with, and rely on in case it goes south.

Mike Hook
Intrepid Lawyer
http://intrepidlaw.ca
@MikeHookLaw

Record Label Contracts

Few artists would want to be considered to be “in business” for doing what they do, but like it or not, as soon as you get paid for it, you’re a sole proprietor. For artist-entrepreneurs, the art lies in the creative process – those endless hours working your fingers to the bone, trying to get that sound out of your head, and into others’ ears. Everything else is business. For a record label, owning the rights to do what you need to make your business viable is the key… and ambiguous contracts will come back to bite you in the long run. In this post, I’m going to talk about one of the first high-stakes legal issues a label and recording artist will face – the record label contract.

Contracts, generally:

A contract is a binding agreement where two parties exchange something of value, called “consideration”. The artist gives up certain rights to their creations, while the label helps you get it to market, and hopefully you both make money. Contracts are rarely an issue when everything goes according to plan… but if things go sour, you can bet your bottom dollar (or, pay it to a litigation lawyer…) that the label will use the contract to get as much for itself as it can. So, it is soooooo frickin’ important to understand what you’re signing, and agree to all of it before you sign it.

Contracts are a two-way street – a business relationship that relies on trust, and common interests to succeed. Therefore, there’s almost always room to negotiate – to remove things that you don’t like, and add in things that you want. You may be really good with keys and chords, but not so slick with the legalese – so it’s a smart idea to get a lawyer to help you interpret and negotiate the contract. The best time to look for a lawyer is at the start of your career, before you go too far down the road on the business side of the game. A little money spent at the outset can save you a ton of heartache, expense, and lost income down the road.

More on contracts in this other blog post…

Record label contracts

Every record label contract is different. Major labels may use a 50-100 page document, while indie labels might be as short as 5 pages. The gist of them is the same – the artist sells rights to exploit their songs for profit to the label, in exchange for a cut of the profits. In return, the label puts its money and influence into recording and promoting the album. Record label contracts typically include:

  • Term & territory
  • Rights & exclusivity
  • Money – royalties & recoupment
  • Cross-collateralization
  • Creative control
  • Rights
  • Release commitment

I’ll explain each of these in turn.

Term

The duration of the contract. It’s usually a fixed term (perhaps one year), during which time the artist must produce a certain number of tracks or albums to a reasonable standard.

Multi-album, multi-year deals are usually not set in stone. Typically the contract will cover the first year and first album, and give the label the option to extend it for successive terms. If the first album does well, the label will likely use its option to extend for another. If it tanks, the label probably won’t extend, and may drop you. Most labels won’t make a firm commitment to release anything beyond the first album.

It’s a good idea to set a “long stop” – or a maximum number of years the contract can run for. This gives a successful artist (as labels will likely only keep successful acts) a chance to negotiate a better deal down the road. Six or seven years is advisable.

Even after the term of the contract ends, the record company must continue to pay royalties for the artist’s work it sells.

Territory

This is the geographic area that the label has the right to exploit the work for profit. Most deals these days are “worldwide” or “universal” thanks to the internet. Smaller labels may buy only North American rights, or for certain countries.

Just because the label has rights worldwide doesn’t mean it has to release the work worldwide. Think practically about the reach of the label, and whether or not it can actually push the work in the whole territory. If not, it may be worth carving some areas out of the territory in favour of a local label or distributor, or having the label give up its rights where, after a period of time, it doesn’t release the work.

Rights & Exclusivity

Rights are what the artist sells – or rents – to the label. These may include:

  • Assignment of copyright
  • Ownership of masters and unreleased tracks/versions
  • Use of name and likeness; merchandise
  • Mechanical rights – who owns the underlying work?
  • Profits from off-stage sales

An exclusive right to the work means the label may exploit any recorded performances during the term of the contract – albums, concert videos, live recordings, etc. The artist (or any member of the group) may not record any material for another record company.

Some acts may sign under a specific stage name, which could leave them free to contract with other labels under a different pseudonym.

If the artist wants to do outside projects, such as making guest appearances with another act, a “sideman” provision should be negotiated.

Show me the money!

For the artist, the financial terms of the contract are some of the most important. They can get pretty complicated, so this is where your lawyer and accountant earn their keep. 80% of acts never sell enough albums to see a cent of artist royalty payments, so understanding the math how much will need to be sold for the artist to earn a profit is ever so important.

At its simplest, the math is:

(Artist Royalties) – (Recoupment) + (Mechanical Royalties)

Royalties

Royalties are the act’s cut of the profits. There are two types:

  • Artist Royalties – money paid to the act for its recorded performances – usually defined as a percentage of the sales price (typically between 9-18% of retail)
  • Mechanical Royalties – paid to the publishers/songwriters for the underlying composition

Royalties for music videos, secondary uses (like commercials or movies), and live performances are sometimes included as well. If you want to be certain who owns them, put it in writing.

Artist Royalties

The money paid to the artist when albums are sold, usually a percentage of the wholesale or retail price. 9-18% of revenue sounds alright… but that’s a gross percentage, not net. The label will deduct every expense that it can – recording costs, reserves against returned albums, free goods, packaging costs, and often pay only reduced royalties for foreign, discounted, and TV sales. The artist is usually expected to pay the producer royalty as well, which is usually around 3% – but shouldn’t be on the hook for income advances paid to the producer.

After all of those deductions, the artist has to pay back the label’s costs out of the artist royalties, known as “recoupment”. Once the label recoups all of its costs, the artist gets paid the excess. I’ll talk recoupment in a bit… but long story short, 80% of acts never see a penny of artist royalties.

Mechanical Royalties

The record label has to pay the songwriter for the use of their songs. Mechanical royalties are not recouped, and shouldn’t be cross-collateralized either (below). That means the songwriter gets paid on every song or album sold. For most singer-songwriters, this is the only payment they’ll ever see. Outside writers get paid first.

Mechanical royalty clauses usually limit the number of songs mechanical royalties are paid on, and the per-song amount the label will pay.

Recoupment

Record labels often spend a bunch of money to get an album to market, which the artist pays back through its artist royalties. Once all of the costs are paid, the artist royalties start being paid to the artist. These costs include:

  • Advances – money paid by the label to the artist up-front to cover cost of living, management commissions, legal fees, etc.;
  • Recording costs, which are either a budget or a fund to cover studio time, production, mixdown/mastering, etc.:
    • Budget – a guaranteed minimum amount. If it’s not spent, the label keeps the money; or
    • Fund – an amount is set aside for recording, and anything left over is paid to the artist when the album’s done;
  • Tour support – money spent by the label to promote the tour;
  • Video production costs – are typically paid 50% by the label, and 50% recoupable from artist royalties

These costs are “non-returnable” – which means that if the album doesn’t earn enough artist royalties to pay for the costs expended, the label takes a loss. The label’s other costs – manufacturing, advertising, promotion – should be wholly paid by the label. That’s why it gets its 82-91% cut of every album.

Some labels reach outside of industry norms to find creative ways to get the artist to reduce the label’s risk on an album, including:

  • A clause in the contract that makes the money “returnable” – meaning that the artist must reimburse the label for the entire cost, and
  • Recoupment from other sources – such as mechanical royalties or through cross-collateralization (below).

Both of these are exploitative, and certainly not standard industry practice.

Now, musical interlude:

Cross-Collateralization

Cross-collateralization allows the label to use royalties from one contract (such as publishing, production, other mechanical licenses, or a separate album-by-album deal) to recoup its costs from another.

Creative Control

How much can the label tell the artist what to do? Usually singer-songwriters have more creative control, while groups assembled by a label will get less. Creative control could mean the right of approval, the right of consultation, etc. Creative control rights include:

  • Videos – song choice, concept, budget, editing
  • Producers and remixers – who, costs, royalties
  • Song selection – what gets recorded, and what goes on the album
  • Use of the act’s name and likeness
  • Marketing & merchandise
  • Artwork
  • Secondary exploitation – commercials, movies, etc

Unless it’s stated otherwise in the contract, once the contract ends, so to does the artist’s creative control over the rights they’ve given up.

Release Commitment

What’s the use of putting together an album that nobody will ever hear? It’s often worthwhile for the act to get a firm commitment from the label to make a meaningful release of the album in the territory of the contract, including a minimum budget. If not, the artist may buy back the masters.

Conclusion

So, those are the nuts and bolts of record label contracts. Often there’s a lot more to them, and there’s a ton of little things that can come back to bite you – whether you’re a label or an artist. As with any contract, it’s a smart idea to get a lawyer to help you write or review it, and most importantly to understand what it is that you’re signing. I happen to know a guy… 😉

Rock on.

 

Mike Hook
Intrepid Lawyer
http://intrepidlaw.ca
@MikeHookLaw

The Basics of Contracts

One of the fundamental skills for a business owner is the ability to deal with contracts. Every day in Ontario, thousands of contracts are entered into for thousands of different reasons…. Quite often by people who don’t really understand what they’re agreeing to, and the consequences of not living up to their end of the bargain.

A contract is a binding agreement to exchange value between two or more entities, called “parties”. A contract can be either written or oral, so long as it has all of the essential parts discussed below. Oral agreements are more likely to end up in a he-said she-said if there’s ever a dispute. Most commercial contracts will be in writing so that there is a clear record of what was agreed upon. If there’s a dispute later on, the parties can look at the contract to see exactly what was meant. Certain types of contracts, such as those for the sale of land, are required by law to be in writing.

It’s good business practice to have your key agreements – with suppliers, distributors, franchisees, employees, contractors, and creditors – in writing. It’s also smart to let your lawyer do the writing, or at least review and edit what you wrote to make sure it’s sound. The more money or business risk that’s involved if the contract is broken, the more important it is to have a legally sound agreement from the start. The legal fees up front are far cheaper than a damages award. I’ve seen companies fail because they didn’t get legal help with their major contracts, and when push came to shove, their agreements weren’t binding, and didn’t say what they thought they did.

The essential parts of a contract

  1. Offer and acceptance. To form a contract, one party must make an offer to enter into a legal relationship, which at least one other party must accept. Both parties must willingly enter into the contract, and have the mental capacity to enter into and understand the terms of the agreement. The subject matter of the contract must also not violate any laws… so don’t come to me if you haven’t been paid for your work as an assassin…
  2. Consideration. Each party to the contract must gain value from it. In business this often boils down to the exchange of money for goods or services. The need for consideration is what separates bargains from gifts, which are when one party gives value and gets nothing in return. Gifts and contracts have different legal rules around them.
  3. Meeting of the minds. Both parties must intend to make a contract in the first place, and have a “reasonable” common understanding of what they’re actually agreeing to. This way, misunderstandings or vagueness can be cleared up by interpreting what a reasonable person in the situation would have thought they agreed to.

What does a contract look like?

You’ll usually find the following things in most written contracts:

  1. Identifying the parties to the agreement. Full legal names of who is entering into the contract.
  2. Definitions of important or frequently used terms. This keeps everyone on the same page about what’s being talked about in the contract, makes it shorter, and easier to read.
  3. Intentions or reasons for entering into the agreement. Though it’s usually not a binding part of the contract, it becomes a “guiding light” for anyone reading or interpreting the contract. It shows a meeting of the minds. If there’s a dispute, a judge will resolve vague terms, or unexpected problems with the parties’ intentions in mind.
  4. Representations and Warranties. A representation is a statement of an existing fact that makes the other party to want to contract with you – such as, that you actually own the thing you’re selling.A warranty is a guarantee that you’ll do certain things if things don’t work out as you’ve planned – such as, if the part you sell breaks in the first year, you’ll replace it at no charge.
  5. Terms of the deal. The responsibilities of each party, details about the money to be paid for a good or service, quality expected, delivery schedule, etc.
  6. General terms.  The legal framework of the contract itself – how to end it, what law governs it, dispute resolution, how to give written notice, indemnity, and so forth.
  7. Signatures of both of the parties. Evidence that both parties agree to what’s written in the contract.

What if the contract is broken?

A breach of a contract occurs when one of the parties fails to perform one or more of the responsibilities agreed to in the contract. In situations such as these, the other party will want to be compensated for the losses suffered.  Some remedies include:

  1. Damages. This is the usual solution to a broken contract – called a breach of contract. If the other party breaches a contract, you’re entitled to be put in the position you would have been in had lived up to their end of the deal. This usually means an award of expectation damages – monetary payment to make up for the losses directly resulting from the breach – or sometimes an order for the other party to do what they promised to – specific performance, discussed below.Consequential damages may also be awarded where your losses are not a direct result of the breach, but could have been reasonably foreseen by the party that broke the contract – such as business profits that you didn’t make because they didn’t send you the parts as promised.Punitive damages are additional compensation to punish the breaching party for being really really naughty. They’re rare, and only awarded in cases where a party, such as an insurance company, breaches a duty of “good faith” or acts unethically towards the other party.
  2. Reliance interest.  In cases where the expectation damages are difficult to calculate, the court may award the expenses spent in reliance on the contract going through as promised instead. You can’t have both, as then you’d have been compensated for both lost profits and expenses.
  3. Specific performance. A court order to do what was promised under the contract. It can occur where goods or services are unique, not readily available from other sources, or where money isn’t enough to compensate for your losses.
  4. Rescission. If representations (above) turn out to be false, and the whole contract can be set aside, and the parties will be returned to the position they were before they struck the deal. As in, “I never would’ve signed the contract if I’d known that…”

That’s the quick & dirty on the basics of contracts. I’m indebted to my student intern, Claudia Dzierbicki, for her work in putting together the guts of this article. I’ll get in the process of how to use a lawyer to help you draft and negotiate contracts in another article soon.

 

 

Mike Hook
Intrepid Lawyer
http://intrepidlaw.ca
@MikeHookLaw

New Anti-Spam Law and your Small Business

For almost every small business, Canada’s new anti-spam law will be a game changer. Unfortunately the changed game will be tedious and more expensive for most of you. It started out as a law to stop people and companies from spamming Canadians with unwanted messages. The way the law turned out, however, is using a hand grenade to get a squirrel out of your bird feeder. It will have a huge impact on the way your company can do its business online.

ImageThe law covers almost any electronic messages you send for business purposes – including email, text messages, and direct messages on social media, but not phone or fax. The basic premise of the law is that businesses must get the recipient’s consent before sending business messages to them. Simple enough, right?

The rest of the law is a rats-nest of exceptions, conditions, and legal grey areas. This blog will map out said rats-nest, without taking too much of the magic out of what I do. Practically speaking, your two main concerns are getting consent to send messages to the recipient, and having the right content in the message itself. That’s what this blog will focus on.

The penalties for businesses that ignore or break this law can reach up to $10,000,000, so it’s kind of a big deal. It’s also an offence to aid someone in breaking this law – so social media marketers, IT, and CRM dudes, beware!

The law will come into effect in three phases:

  • Most parts of the law will be in force on July 1, 2014
  • Parts dealing with the unsolicited installation of computer programs – January 15, 2015
  • Right for individuals to sue for damages caused by spammers – July 1, 2017

In this blog, I’m only going to talk about the parts of the law that come into force this year.

 

 1. Consent

The recipient must actively and voluntarily give consent to you sending them business messages. This consent can be express or implied – which I’ll tackle below. You don’t need consent:

  • from friends and family
  • from employees, representatives, consultants or franchisees of your organization
  • from foreign recipients – though your message must comply with that jurisdiction’s anti-spam laws
  • if you’re
    • answering an inquiry, request, or complaint
    • giving notice of a legal right or obligation
    • giving them factual information about an ongoing relationship like a subscription, membership, or loan
    • providing information about an employment relationship or benefit plan that they’re in
    • delivering updates or upgrades
    • a charity or political party
  • if the message is solely an inquiry about the products or services the recipient provides

 Express Consent

This is when the recipient takes a positive action to approve of you sending them business messages. Once given, express consent remains valid until withdrawn. More on withdrawal below. The guts of express consent are:

  • The message or form asking for consent must:
    • explain why you’re asking for consent
    • give the name of the organization or person seeking consent (or identify who you’re getting consent for, if it’s not you)
    • give valid contact information – including at least one non-electronic means
    • let them know they can unsubscribe at any time
  • If consent was expressly given before this new law, you don’t have to go back and re-confirm
  • The recipient must “opt in” (as in, checking a box), rather than opt out (unchecking a box), or the consent isn’t valid
  • Keep a record of who consented, when, and how – as it’s up to you to show that you got it, not the other way around

 Implied Consent

This is a little trickier, as most types of implied consent have an expiry date. Express consent is more practical for you to get, because it doesn’t expire, and is easier for you to keep track of. That said, if your contacts aren’t big on clicking through links in email, implied consent may still cover you. Implied consent can be found:

  • in an existing business relationship, meaning that you and the recipient have
    • in the past two years,
      • bought, sold, or leased goods, services or land from each other
      • were bound by a written contract with each other
      • bartered goods, services or land with each other, or
    • in the past six months, made an inquiry about doing any of the above
  • an existing non-business relationship
  • if the recipient has published or disclosed their email address, they have not stated that they don’t wish to receive unsolicited messages, and the message is relevant to their business or role

 

2. Content

So once you’ve got consent from all of your adoring fans, and you’re dutifully keeping accurate records of who has consented, your work is still not done. From July 1, 2014 onwards, every business message you send must have certain content, except messages

  • to recipients you have a personal or family relationship with, or
  • which are an inquiry about the business products or services the recipient provides

All of your business messages must contain information that:

  • identifies the sender, or on whose behalf it’s sent
  • sets out contact information for the sender, including at least one non-electronic means
  • has a way to unsubscribe or withdraw consent

The unsubscribe mechanism must:

  • operate at no cost to the recipient
  • allow the recipient to unsubscribe by the same means the message was sent, or give another electronic means to unsubscribe
  • give a link to a webpage that allows them to unsubscribe

Once they unsubscribe, you’ve got 10 business days to take their name off the list, or else.

 

3. Conclusion

Like I said, game changer… though how it changes the game will differ from business to business. There are a few best practices that I’d recommend you start implementing now:

  • Vet your contact lists now to determine who you will need consent from
  • Before July 1, 2014, send a message to your existing mailing lists asking them to opt in, and create a new mailing list of those who do
  • After July 1, 2014, you’ll have to get consent the old fashioned way – by mail, phone, or other non-electronic means
  • Keep records of information showing consent
  • Put together a new email signature that meets the content requirements
  • Build an “unsubscribe” link into your website, and make sure the unsubscribe mechanism works

Most IT service providers should be CASL-compliant by now, and companies like my friends at Response Magic have developed simple and thorough systems to help you colour within the lines. Of course, every business and every situation is different, and applying a general rule is no substitution for consultation with an intrepid lawyer. You know where to reach me if you’ve got questions.

There. I just saved you $10,000,000. You can thank me later.

 

 

Mike Hook
Intrepid Lawyer
http://intrepidlaw.ca
@MikeHookLaw

Crowdfunding in Ontario

On May 8, 2014, I presented a webinar for http://www.SmallBusinessSolver.com on the legal ins and outs of crowdfunding in Ontario.

Crowdfunding is a game changer for small business finance. Between $3-5 billion has been raised in crowdfunding efforts worldwide, through over 300 portals. 45 of those portals are available to Canadians. Traditional crowdfunding works by donation or reward.

The latest and greatest is that crowdfunding will soon be available in Ontario to sell equity to the general public. This is going to make selling equity less expensive and simpler to do.

Enjoy!

Outlook for Canadian Small Business

The Bank of Canada released the results its 2014 “Small Business Outlook” survey on Monday. I’ve plowed through that report and some other market research on the small business climate in Ontario, and found a couple common themes that may affect your business:

Export market strong, domestic market weak

A weaker Canadian dollar ups the profit margin for exports. This is a big help for manufacturing businesses in particular. Manufacturing, agricultural, and construction businesses are having trouble meeting production demands as it is. Savvy manufacturers are eyeing the increased profits as an opportunity to buy more machinery and equipment to increase production. It’s a particularly well-timed strategy, as most major banks and investors have eased their lending criteria. Overall, this means there’s more cheap money available to finance expansion.

The weaker dollar can hurt businesses that rely on domestic sales to drive them. This is amplified for companies that import a lot of goods – it costs more and more to buy the same ingredients or components. Hospitality and professional services businesses are often the canary in the coalmine for economic slowdowns – with less cash flow, businesses spend less on services. Small business owners are feeling the crunch, and worry that any more price increases will hurt their business. Many are considering absorbing the loss, rather than passing the added expense on to consumers. This is particularly so in Ontario, where a crowded marketplace is putting more pressure on businesses to keep prices down.

Business is good enough to hire

A majority of businesses are hoping to hire new employees in the coming year – many on a full-time basis. While most small businesses report no shortage of workers, many are finding it tough to find suitable new hires, particularly in niche businesses. This may be due in part to the continuing trend of baby boomers retiring, and not enough young workers to replace them. Therefore, employers are competing for talent. A more competitive hiring market can drive up wage and benefits demands – leaving many small businesses unable to compete. Good for talented young workers, not so good for business owners.

On the up-side, small businesses have a great deal more flexibility in tailoring employment to suit the employee – flexible working hours, work from home, opportunity for growth, employee stock options, etc. Well worth it, if you land the right employee!

Here’s the link to the full Bank of Canada report.

Hopefully this article gives you a little perspective on the environment you’re running your business in!

Mike Hook
Intrepid Lawyer
http://intrepidlaw.ca
@MikeHookLaw