In the past few years, my private company clients have been flocking to online, cloud-based cap table services, such as Capshare and Carta (formerly eShares), as a platform to manage the company’s back-office functions for their capital structure. Aside from presenting an online cap table for reference by potential new investors and others, these sites provide a number of other services, such as being an online repository for documentation like stock option agreements and facilitating company valuations under Section 409A of the Internal Revenue Code.
William D. Cohan, writing in the New York Times’ DealBook, characterizes the third-party valuations of private companies under Section 409A of the Internal Revenue Code as Silicon Valley’s “dirty little secret” and a “shell game.” Especially in the aftermath of the financial crisis, there has been plenty of populist rhetoric about practices in the business world, and much of that criticism has had basis in fact, but this take on 409A valuations seems awfully strained.
As described in Cohan’s article, Section 409A and the related rules require that companies obtain independent valuations in connection with their issuance of equity-based awards to employees, and failure to comply results in tax penalties. Cohan details the fact that various service providers charge significant fees to undertake these valuations, using words like “supposed” experts to make the whole enterprise seem like a racket, but the reality is that the rules do exist, and these valuations have to be done. If it was possible for just anyone to make up a valuation for a bargain-basement fee, heck, I would consider doing it as a side gig from my legal work. But the rules actually go into detail as to the required qualifications for firms providing these services. Cohan notes in the article that the SEC would not comment on these practices, but this is really more of an issue of tax law than securities law. What constrains companies and their hired valuation help from simply making up numbers out of thin air is the fact that their decisions are subject to later IRS scrutiny and sanctions.
The Financial Samurai personal finance blog posted an argument against angel investing, based in part on the writer’s own experience with a seemingly successful investment that really wasn’t so great, upon reflection. Toward the end of the post, the author says that if you do angel investing, you should devote no more than 5-10% of your funds towards it, and don’t expect anything good to come of it. But who is really advocating for devoting half or more of your nest egg to illiquid, speculative investments, even if you have a lot of financial leeway? There are legitimate reasons for wealthy individuals to want to participate in angel investing, like the satisfaction of helping a founder with a promising idea to realize a dream. As long as these investors aren’t blowing their whole fortune on it, what is the harm?
My law firm recently joined Select Counsel, a new and fast-growing network of law firms with profiles like mine: small firms founded by attorneys with significant sophisticated large law firm experience. The resulting network is not itself a law firm, but it provides a way for both lawyers in the network and interested clients to quickly locate highly qualified attorneys in appropriate jurisdictions and practice areas. The network has also established an active LinkedIn group enabling participating attorneys to run questions past other members.
When I am speaking to potential new clients, my pitch is pretty simple: I’m the same guy that would have handled your matter when I was with a big firm, but without the big firm infrastructure, I’m able to offer those same services at more reasonable rates and with more personal service. Fortunately, I’ve found that appeal works more often than not, and I’ve built a nice practice. Sometimes, however, potential clients will elect to go with a larger firm. Certainly, there are matters that are better handled by teams at large firms (multi-billion dollar merger, IPO underwritten by first-tier investment bank), but there are certain transactions that I’m capable of handling, where the potential client makes what seems to be the safer choice of a larger firm. (I don’t want to come off as too harsh about big firms, where there are many fine lawyers – and they’re a significant source of referrals for me!)
The Select Counsel arrangement has the potential to eliminate a lot of the queasiness that some potential clients have about small firms, in particular that their expertise is too narrow to handle anything but discrete projects. With the ability to quickly locate the right kind of attorney, it’s easy to quickly assemble a team to collaborate on a matter. Of course, even before this network started, I had assembled my own ad hoc go-to team of specialists (tax, etc.), and I continue to rely on them. But the ability to fill in any gaps through the network will allow me and others in the network to replicate the geographic and practice area scope of a big firm, benefitting both me and my clients.
It’s always entertaining to tell younger attorneys about the inefficient ways that lawyers did their jobs back in the day, without modern technology (and probably extremely boring for the younger attorneys to hear those stories). For example, as a junior attorney, I recall that email was just starting to come into common usage, and the job of the paralegal often involved early evening distributions – sending out FedEx distributions of revised drafts of documents before the 9pm overnight delivery cutoff. One aspect of current legal practice that will likely be looked at in the coming years as equally antiquated is the obtaining of manual signatures on contracts.
This Slate Explainer has a short but informative history of the use of signatures on legal documents. Technology has made the process somewhat more streamlined (fax machine, then PDFs), but signatures remain a practical impediment to quick completion of agreements. In 2016, there are still delays when a party cannot immediately sign an agreement as a result of being, for example, traveling without access to a scanner. Attorneys with good organizational skills know to obtain and hold onto signature pages from a client who is about to travel ahead of a closing, but there is more stress and scrambling than there needs to be.
Fortunately, the technology is improving further, as we speak, via electronic signature services like DocuSign. The federal ESIGN Act, enacted in 2000, provided broad recognition of the validity of electronic signatures, which paved the way for these types of services. They allow parties to sign agreements easily via any internet-enabled device, without a scanner or fax machine, so really the only time an agreement can’t be signed is if the signatory is on a plane and doesn’t want to spring for wi-fi or is deep in the wilderness. My clients are increasingly requesting that these services be used, and I expect them to be widely adopted in the coming years. And the coming generation of new corporate attorneys can laugh at the likes of me for having spent time chasing down manual signatures.