Investors in startup companies need to learn as much about those companies as possible to make an informed decision. You do not want to go in blind before you put money into a startup a company. Still, the company in which you seek to invest needs to protect its confidential and proprietary information; otherwise, it stands to lose the benefit of introducing an innovative solution to the market. In order to put both sides at ease at the initial stages of the engagement, investors and startups generally turn to non-disclosure agreements (NDA’s). These agreements are designed to protect confidential information, while providing investors the information they need in order to make a determination whether to invest in a given startup.
As with any contract, an NDA must define who the parties are. An investor may have interests in related companies and the agreement will spell out whether any information can be shared within a larger network, specific entities, or just specific individuals employed by the investor or acting as the investor’s consultants. It is important to define the party receiving the confidential information in a way which provides the startup comfort that any confidential information revealed to the investor will not end up in the hands of a potential competitor, as well as limiting the investor’s exposure by spelling out clearly to whom the confidential information may or may not be disclosed.
Defining Confidential Information
The parties must also carefully define what confidential information is protected under the NDA. For startups, this can provide particular challenges; products and services may be developed over the course of the term of the NDA. The definition of confidential information must be broad enough to cover variations and emerging confidential information, while still maintaining a definition which is focused on the concrete engagement between the parties. Both parties benefit from clarity here; too broad a definition of confidential information can potentially expose the investor, while a narrow definition can leave the startup unprotected.
The NDA should also set certain exclusions to protected confidential information in order to limit the investor’s obligation to safeguard certain information which may already be in its possession or which may become insignificant to the startup in the future. Typical exclusions will include public information or any information which the investor already knows at the time of disclosure. In the high-tech industry this exclusion is of specific importance as sophisticated investors often have a detailed understanding of a startup’s industry and will not want to be penalized for any pre-existing knowledge. On the other hand, startups need to make sure that the exclusions are not drafted too broadly as to negate their confidential information.
The rest of the agreement will include terms for both sides to follow: how information is to be protected, permissible use of the information, the parties’ duties after the agreement expires and what actions the disclosing party may take in the event it reasonably believes its confidential information has been jeopardized. The two sides have diverging interests, so negotiating terms fair to both sides helps create conditions that allow the sides to work together.
Creating well drafted, effective NDA’s allows startups and investors to start working together towards a future investment. Contact Barnea’s experienced team to help you start your relationship on the right foot.