Topic of the Week: NDA Aversion
Non-Disclosure Agreements (“NDAs”) are common practice in private equity. No NDA, no info. It’s simple.
The majority of the venture capital industry doesn’t buy into this practice. In fact, most prominent VCs publically state they won’t sign an NDA. By asking for one, you look like an amateur who doesn’t understand how to raise capital. Their words, not mine.
Maybe I’m an old-school curmudgeon, but I take issue with this stance. Regardless of stage, entrepreneurs work incredibly hard to build their businesses and deserve basic legal protections when opening up the kimono to investors.
Today, I thought I would dissect several of the top reasons why an investor won’t sign an NDA and provide perspective for why I disagree.
Opinion #1: They are a hassle
NDAs are a hassle. Having to go back and forth over tiny details and get sign off from lawyers is a pain. It takes time. Doing this for the hundreds or thousands of investments each year is an expensive nightmare.
However, there is this handy tool called a template NDA. It is great. Your legal counsel blesses it, and you insist on adhering to it. We have one, and I bust it out every time I see an NDA that won’t fly. It’s reasonable, protects us, and rarely does anyone insist on changes.
Opinion #2: NDAs open investors up to legal issues
Most of this concern is due to the fact that investors evaluate multiple competing businesses at the same time. It’s an important step in due diligence to ensure you make the best possible investment.
By signing an NDA and then investing in a competitive business, an entrepreneur may try to sue you for sharing information to benefit your new investment.
First, this can happen regardless of whether or not you sign an NDA. An overly litigious person is going to be a pain in your side regardless.
Second, see response to #1. Your template NDA should account for this. In clear terms, it should state that you are in the business of making investments. You could be evaluating similar businesses and nothing in the NDA prohibits you from doing it as long as your not sharing confidential information.
Here’s a brief excerpt in legal language to give you a flavor for what I’m talking about:
The terms of confidential information under this Agreement shall not be construed to limit any party’s rights to make investments or develop independently or acquire products without use of the other Party’s Confidential Information. The Disclosing Party acknowledges that the Receiving Party may currently or in the future be developing information internally, or receiving information from other parties, that is similar to the Confidential Information. [this section goes on for another five sentences, covering every legal angle, but you get the hint]
Opinion #3: NDAs are just a piece of paper and rarely enforceable
This one is my favorite. In theory, this is correct. An NDA is just a piece of paper or digital blip, and it is difficult to prove someone violated an NDA.
However, if NDAs don’t matter, why do most VCs have confidentiality provisions within their fund documents? If the VC firms business model, results, investments, etc. warrant legal protection, so does an entrepreneur.
Second, you could make this argument for a host of common legal provisions. Why do VCs insist key management members sign non-competes when they are unenforceable in many cases?
It’s because legal documents are there to protect you in the worst case scenario and to inhibit bad actors. Just because something isn’t easy to enforce, doesn’t mean it can’t protect you.
Opinion #4: Confidentiality is an investor’s business.
As an investor, your reputation is what helps you win deals. If you have a reputation for being an open book with trade secrets, entrepreneurs will find out, and they won’t like it.
However, anyone who has even dipped a toe into the deal industry knows that there are leaks. It could be you, a junior employee, your dog, an advisor. Information has this weird way of getting out.
Not having an NDA makes it perfectly legal for someone to send whatever information they please to your closest competitors.
Always get an NDA in place, when possible. However, please do not start with an incredibly restrictive NDA. No one worth talking to will sign it.
If someone is unwilling to sign an NDA, you have to decide whether or not it’s worth taking the risk to work with that person. The reality is most prominent VCs won’t sign an NDA. It’s a fact.
As a general rule, don’t ever share your secret sauce or highly sensitive information in preliminary stages of a discussion.
PS – It took all my willpower not to make a few lawyer jokes while talking about NDAs.
Have a great weekend everyone!