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Entrepreneurship LawBrowse a collection of resources on intersections of law with entrepreneurship and entrepreneurship education relevant in several settings, whether you are an educator, a student, an inventor, a business owner, or a lawyer or other advisor to entrepreneurs.

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The materials in this part, including the textbooks referenced,[1] focus on the legal dimensions of entrepreneurship, as broadly defined by Harvard Business School Professor Howard Stevenson: “Entrepreneurship is the pursuit of opportunity without regard to the resources currently controlled.”  Thus, the materials are relevant not just to founders and financiers of start-ups but also managers of medium and large enterprises. Even the largest companies have to constantly review their value propositions and adjust to changing market conditions.

These materials are designed to help students develop the managerial capability of legal astuteness. “Legal astuteness” is the ability of entrepreneurs and other managers to work effectively with counsel to solve complex problems and to protect and leverage firm resources.[2]  It requires a set of value-laden attitudes, a proactive approach, the exercise of informed judgment, and context- specific knowledge of the law and the appropriate application of legal tools. Like information technology, the legal dimensions of business should not be treated as an after-thought or add- on to the business strategy development process. As Tim Hinthorne explained, “[C]orporate leaders who understand the law and the structures of power in the U.S.A. have a unique capacity to protect and enhance share-owners’ wealth.”[3]  Conversely, managers who lack the ability to integrate law into the development of strategy and of action plans can place the firm at a competitive disadvantage and imperil its economic viability.

Ideally, entrepreneurs and managers work with counsel as partners to craft business solutions that maximize value while minimizing (and eliminating entirely all unnecessary) legal or business risk. Just as a lawyer needs a sufficient understanding of how business operates and the strategies for success to be an effective partner, entrepreneurs need to have some knowledge of legal nomenclature and the legal principles most relevant to their business.[4]

Legal matters are too important to delegate to persons who may not understand the broader business objectives. Managers need to understand the fundamentals of the law just as they need to understand the fundamentals of accounting, finance, and human behavior. As managers rise in the corporate hierarchy, they increasingly face legal issues they are ill equipped to handle. Most managers do not have a legal background.  They often do not know the right answers or even the right questions to ask. If an entrepreneur is not sensitive to what legal issues might arise, he or she will not know when to call in the lawyers or how to factor their advice into a business decision. Once the issue has turned into a problem, it is often too late to do anything other than damage control.

Moreover, entrepreneurs often do not have the resources to seek legal advice on every matter. They may have to act quickly to realize market opportunities and will not have time for a self- taught tutorial on the law every time a legal issue arises.  For example, an entrepreneur planning to leave his or her current employer needs to know enough law to be sensitive to whether their activities violate trade secret laws, their fiduciary duties, or contractual restrictions on post-employment competition.

Consider an entrepreneur starting a new software company. That person will have to decide whether to bring a contact list from the prior employer and whether to hire an engineer employed by a key competitor. The wrong choice could result in the inadvertent misappropriation of trade secrets and derail a future venture capital round or an initial public offering. The public disclosure of an invention in Japan or the European Union before the filing of a patent application can result in the loss of the ability to charge monopoly rents in those jurisdictions. A start-up that issues stock to individuals or firms without regard for federal and state securities law requirements will, at best, be required to give purchasers a put option. At worst, the company will be fined and its founders imprisoned. As Judge Easterbrook explained when he affirmed the criminal sentences of two founders, “States are entitled to give corporate managers incentives to learn the law. No one with half a brain can offer an opportunity to invest in our company without knowing that there is a regulatory jungle out there.”[5] Entrepreneurs who think that they can deal with all of these issues later, once the company has enough money to hire a good lawyer to handle all that “legal stuff,” are sorely mistaken.

Because a failure to comply with applicable laws can subject a firm to crushing government fines and ruinous damages awards and land its top executives in prison, any discussion of law and management must begin with the baseline of what constitutes illegal behavior.  The criminal conviction of former executives at Galleon Group, Rite- Aid, and WorldCom; the payment of record fines by Wall Street firms and other companies; and the demise of former high-flyers Enron and Adelphia Communications all serve as stark reminders of the consequences of failing to comply with the law. A company’s reputation and brand equity can be severely impaired by the lawsuits and ill-will generated by poor legal choices. The courts now expressly require directors to oversee the company’s compliance with law; they may not passively rely on company counsel.  The practice of strategic compliance management4 reduces the likelihood of compliance failures and ethical lapses.

The law is rarely applied in a vacuum and its application to a given set of facts is often not clear- cut.  Most significant legal issues cannot be readily resolved by a binary approach, 0 for illegal and 1 for legal. There are often shades of gray and degrees of legal risk. A successful manager needs to be able to assess that risk (often with the advice of counsel) and to factor it into the ultimate business decision the same way that other risks, such as currency exchange risk, are taken into account.

At the same time, proper use of the law and the legal system can increase realizable value and limit the downside risk. First, understanding law helps entrepreneurs and their financial backers position enterprises in the legal posture most suitable for their business. Many legal organizational structures and governance models are available. The structures offer different degrees of flexibility and freedom for the parties to define their relationships. Second, law protects a business from destructive competition by others. Law encourages competition on the merits, not on fraud and manipulation. Third, law can protect innovations by granting the inventors or their firm’s limited property rights. Value in the Information Age is defined by what is proprietary and legally protectable. Microsoft Corporation’s market capitalism has nothing to do with the hard assets, the brick and mortar, on its balance sheet. It is based on its ability to use copyrights, patents, trade secrets, trademarks, and contracts to sell software at margins approaching 90%.  The market capitalization of Amazon reflects not only its current earnings but also the value of its brand and a loyal customer base. That value would dissipate if the firm was unable to prevent others from using the Apple.com name (a trademark) or current employees from selling designs for the next generation iPhone (a trade secret).  Finally, law offers managers the ability to make their own “private law” by entering into contracts enforceable by the power of the state.

The objective of these materials is not to teach business students how to think like lawyers, but rather to teach students how to become more legally astute so they can handle with confidence the legal aspects of entrepreneurship and management.  This includes developing legal literacy and learning what to look for when selecting an attorney and knowing when to call one.[6]

Although many of the materials focus on U.S. law, they are relevant to international students as American students.  First, the types of issues raised in materials are issues that every legal system will address. These include an employer’s responsibility for wrongs committed by employees and a firm’s disclosure obligations.  By sensitizing students to these issues, these materials help students become more adept at spotting legal issues before they become legal problems. Second, many of the legal tools addressed, such as contracts and intellectual property protection, are available (albeit to varying degrees) throughout the world.  Third, many international students will work for companies that either (1) have operations in the United States or (2) import products from, or export products to, the United States. Because the United States applies its laws extraterritorially to conduct occurring outside of the United States that has substantial effects in the United States, even managers based outside of the United States can find themselves sued or prosecuted under U.S. law. For example, two Japanese firms were criminally prosecuted in the United States for fixing prices for thermal fax paper that was ultimately sold by a distributor in the United States even though they reached their agreement to fix prices while in Japan. Finally, U.S. law has influenced other countries in areas such as environmental, product liability, and insider trading laws.

[1] See, e.g., Constance E. Bagley & Craig E. Dauchy, The Entrepreneur’s Guide to Business Law (4th ed. 2011).

[2] Constance E. Bagley, “Winning Legally: The Value of Legal Astuteness,” Academy of Management Review, vol. 33 (2008): 378-390.

[3] Tim Hinthorne, “Predatory Capitalism, Pragmatism, and Legal Positivism in the Airline Industry,” Strategic Management Journal, vol. 17 (1996): 251-270.

[4] Constance E. Bagley, “What’s Law Got to Do With It?: Integrating Law and Strategy,” American Business Law Journal, vol. 47 (2010): 587-639.

[5] Mueller v. Sullivan, 141 F.3d 1232 (7th Cir. 1998).

 

[6] Constance E. Bagley, Winning Legally: How to Use the Law to Create Value, Marshal Resources, and Manage Risk (2005).

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