ROBS Transactions as a Financial Investment Tool: Legal Traps for the Unwary

Over the last few years, ROBS transactions have dramatically increased which means that the funds being used to capitalize these transactions has significantly increased too. I wrote about ROBS transactions last June in a post called “ROBS transactions: the Department of Labor and IRS Regulation.”

Recently, Mr. Alan Lavine interviewed me for an article in Financial Advisor Magazine about ROBS transactions with regard how they are being used as financial investment tools and whether investors should participate in this type of transaction. The article, “Rolling Over, Starting Up,” appears in the in the December 2010 issue. The article’s subtitle is: Clients can tap into retirement savings to start new businesses, but there are legal traps for the unwary.

It was an honor to be quoted by Mr. Lavine who is an accomplished author and syndicated columnist. Mr. Lavine and his wife, Gail Liberman, wrote Rags to Riches which was featured on Oprah and hit two best seller lists.

With U.S. Exports on the Rise, Distributor Terms Increase in Complexity: Some Things to Watch For

Part of a series on issues related to Manufacturers, Distributors and International Trade

Recent figures released by the U.S. Bureau of Economic Analysis show there was a 17% increase in U.S. exports of goods and services during the first ten months of 2010.

In an effort to increase their profitability and growth, many U.S. businesses are taking advantage of the export initiatives launched by the U.S. administration to achieve its goal to double U.S. exports by 2014—a goal that President Obama announced last year and reiterated in his State of the Union address last month.

There are numerous options for U.S. businesses to structure the export of their goods and services internationally.  One of them is the appointment of international distributors to market and sell their products.

 An essential ingredient for the successful distribution of U.S. products internationally is a well formulated distributor agreement that takes into account the laws of the country or region where the products are distributed.  Surprisingly, many businesses skip this step when appointing distributors to represent their products overseas.

 Some U.S. businesses choose to operate under oral agreements with their international distributors, mistakenly believing that termination of the distributor will be easier if the relationship does not work out or that they will not be subject to a foreign judgment. Other businesses, when entering into an international distributor agreement, use a standard distributor agreement that was written for their U.S. distributors. However, when establishing an international distributor agreement, U.S. businesses should be aware of foreign legislation that may protect distributors, competition laws of a country or region that may void standard distributor agreement provisions, and other foreign law and cross-border challenges.

 Below are a few of the key considerations and issues that apply to international distributor agreements.

Competition Laws and Regulations

U.S. businesses exporting their products overseas frequently want to limit an exclusive foreign distributor of their products from selling competing products.

 In drafting a provision restricting such competition, it is critical to establish whether and to what extent the laws of the country where the goods are being distributed limit or prevent such a restriction. For example, in the European Union, this type of non-competition clause violates European Commission (EC) competition laws and is void from the outset if the restriction from selling competing products is for an indefinite period or exceeds five years. A non-competition obligation that is tacitly renewable beyond a period of five years is considered of indefinite duration.

 Additionally, certain territorial restrictions contained in a distributor agreement that prevent a distributor from selling a supplier’s products outside of a territory may invalidate the entire agreement, if the restriction is not limited to active sales into territories appointed to other distributors or the territory reserved to the supplier. For example, EC regulations control the ability of a supplier to restrict a distributor from making passives sales of its goods to customers outside a distributor’s appointed territory.

Choice of Law

Some countries have mandatory provisions of law that govern distribution agreements.

 If a choice of law clause in a distribution agreement states that U.S. law (or a particular U.S. state’s law) exclusively applies to the agreement, a U.S. jurisdiction clause in the agreement may not be respected if an action is brought by the distributor in the foreign country where the product was distributed. In order to avoid this unwanted consequence, a better alternative is to draft the choice of law clause to state that U.S. law exclusively governs the agreement, except with respect to any issue involving application of such mandatory foreign law.

Termination Compensation

Some countries have protective legislation or principles established through case law that may make termination of the distributor relationship difficult and costly if the agreement is not structured properly.

 Upon termination or expiration of an exclusive distributor agreement, it is not uncommon for distributors outside of North America to make a claim for termination or goodwill compensation. The requirements for termination or goodwill compensation are country specific, as is the ability to contract out of this type of compensation through choice of law and other contract provisions.

Fixed Term Agreements

In most cases, agreements of fixed duration terminate automatically at the end of the period specified in the agreement. However, some countries have laws that protect distributors, and unless the agreement has been terminated with a requisite period of notice before the expiration of the agreed contract term, the agreement is automatically renewed. 

 Under Belgian law, this requisite period of notice is between three and six months. Additionally, Belgian distributor legislation provides that an agreement that is renewed more than twice becomes a contract of indefinite duration. A distributor agreement of indefinite duration may only be terminated with reasonable notice or payment of an indemnity in lieu of notice.  What constitutes reasonable notice may not be determined by the parties in the distributor agreement, but must be agreed upon by the parties after the agreement is terminated.

These are a few of the additional considerations for U.S. businesses seeking to export their goods through international distributors. One-size-fits-all distributor agreements simply won’t work.

Beware the Trojan Horse that is Social Media

While establishing and maintaining an organizational presence on popular media websites and blogs (Facebook, LinkedIn, etc.), businesses need to be aware of the legend of Troy and its supposed downfall due to a Trojan Horse. Greek mythology states that Greek warriors concocted a scheme whereby they built a wooden horse and offered it as a gift to the Trojans. The Trojans, in their greed and arrogance, accepted the gift and brought it within their gates. Then, at night as the Trojans slept, the Greek warriors emerged from the belly of the Trojan horse and defeated the Trojans changing the course of a ten-year siege.

Today, a Trojan Horse is more often thought of as a destructive software program that disguises itself as a helpful application. Similarly, although social media may be helpful for your business, be aware what could be lying in the belly of that Trojan Horse.

Line Between Private vs. Public Blurred

According to the Socialnomics web site, Generation Y will outnumber baby boomers sometime this year and 90% of them have already joined an online social network. For many young people, and even 50 year-olds, the line between private and public has disappeared as they tweet, blog, text and share the minutiae of both their personal lives and everyone around them – including their employer. Social media users are under the mistaken assumption that they own the web content they are generating and can retrieve it and delete it if needed.

They are also under the mistaken impression that what they say is protected by some cocoon and that the content they generate is private. This is not true, as evidenced by a Detroit hospital worker who was terminated after she posted a comment on Facebook about a man she treated who was accused of killing a police officer. She was fired for violating strict patient privacy rules under the federal HIPAA law. A Massachusetts 54 year old high school teacher also learned this lesson when posting negative comments about her school community, students, and parents even though she had set the privacy setting on her Facebook account. Moreover, cases are clear that locking a profile from public access does not prevent discovery in litigation either.

Disclosure of Company Information at Risk

Given the fact that technology is moving so fast and disclosure is instantaneous, worldwide and permanent, companies need to train their employees on the dangers of purposeful or inadvertent disclosure of company information. What is at stake for the employer is the loss of confidential information and trade secrets, disclosure of protectable third party information or medical information, suits from other companies for disclosure of secrets, and discrimination suits. For instance, companies recruiting and hiring managers often use social media in order to obtain more information on a candidate than they otherwise could. Continue reading »

Condominium Assessments and the Recession

Why Bankruptcy and Foreclosure Aren’t Always the End of the Line in Missouri

The past decade saw a surge in condominium, loft, town home, and other multi-unit developments, in both urban and suburban areas. Urban revitalization resulted in renovated commercial and industrial buildings for loft developments, and baby boomers and empty-nesters have been drawn to the convenience of maintenance-free living provided by multi-unit developments in cities and suburbs. The recent recession and ensuing economic climate has impacted the real estate market and construction industry particularly hard, and many unfinished developments suffered as a result. However, the down turn in the economy poses problems for existing, fully occupied, and even well-managed buildings too.

Traditionally, the payment of condo fees or assessments by a unit owner was a priority, just like the payment of a mortgage. As increasing numbers of unit owners face job loss, reduction in pay, or other financial hardship, this tradition is falling fast, and payment of condominium fees and assessments has become less of a priority.

Other than headaches for building management and board members, delinquent condo fees and assessments pose a variety of dilemmas for multi-unit developments. Legal and practical ramifications of increasing delinquencies include the inability to obtain loans for capital improvements, a loss of services for the buildings and grounds, and an obstacle to sales of existing units.

Condominium associations and boards have long relied on collection lawsuits to compel delinquent owners to pay, and, ultimately threaten the sale of the unit by foreclosure of the condominium’s assessment lien. Increasingly, this litigation option is becoming less viable. The recent and continuing onslaught of foreclosure sales and personal bankruptcies strip the building management of the power to collect through litigation. However, all is not lost when a unit is subject to foreclosure or an owner files bankruptcy, and it is important that associations and boards are aware of their rights in these situations.

Foreclosure

In Missouri, and in approximately half of the states, lenders have the right to foreclose on a delinquent borrower through a non-judicial “power of sale.” Power of sale gives the lender the right to provide notice of foreclosure proceedings and sell property on the courthouse steps. Foreclosure sales by lenders threaten to extinguish assessment liens against a condominium unit that are imposed by operation of the building’s governing documents and Missouri law. In most cases, the lender will buy the property back and will become the new owner of the unit. In these cases, the sale price at foreclosure will likely be less than the loan value, and there will be no surplus for other lien claimants, including condo associations.

It is important for the board to know whether the foreclosing lender made a purchase money loan, that is, a loan used by the owner to purchase the property from a previous owner, or rather a refinance loan. The Missouri Condominium Act gives different treatment to condominium assessment liens and their priority over purchase money loans as opposed to refinance loans. In some cases, building associations can assert priority over the lender for all or part of the unpaid assessment lien. This means that the lien may survive the foreclosure and can be enforced against the lender or other subsequent owner. In any event, the subsequent owner is responsible for payment for fees accruing post-foreclosure.

It is also imperative that building management and the board are mindful of the building indenture and bylaws, and ensure that the provisions concerning assessment lien priority are consistent with those protections provided by the Missouri Condominium Act.

Bankruptcy

A unit owner’s bankruptcy, while initially causing collection problems, does not always result in the removal of an assessment lien. Most personal bankruptcies in the United States today are Chapter 7 cases, meaning that the owner’s assets are liquidated in order to pay creditors. As soon as a Chapter 7 case is filed a condominium association must cease collection activities against the property owner for the past debt. However, the assessment lien against the unit may remain as an encumbrance against the property. This means that in the event of a subsequent sale or refinance after the bankruptcy, the delinquent assessments may be paid at closing, even though the association cannot pursue the owner for those delinquent assessments directly.

Depending on the equity in the unit after a mortgage, the assessment lien, and any other liens against the property, the Bankruptcy Court may allow an assessment lien or other liens to be reduced or eliminated all together, in order to provide value to creditors. Of course, many lenders will begin foreclosure proceedings after an owner has filed bankruptcy, with permission from the Court.

It is also important to remember that even when an owner files a Chapter 7 bankruptcy case, monthly fees and assessments payable after the date of the bankruptcy filing may be collected from the unit owner, and may result in an assessment lien which can be enforced through litigation.

Some individuals file Chapter 13 bankruptcies, which are reorganizations of their financial affairs. These owners will propose a plan to the Bankruptcy Court to repay their debt over a period of three to five years. In many Chapter 13 cases, the delinquent assessments will be paid to the building over time.

Bankruptcy cases can vary widely, and building managers must keep abreast with the status of the case, the effect on the unit, and whether or not a claim for assessments should be filed.

Conclusion

Bankruptcies and foreclosures can seem ominous to building managers and boards seeking to recover delinquent assessments from owners. However, these circumstances do not necessarily preclude the recovery of unpaid accounts. Multi-unit developments are not always doomed to the fate of helpless victims in these scenarios and the management should respond to bankruptcy and foreclosure notices with an investigation of the circumstances in order to evaluate the options that remain and how the building’s rights can be enforced both in the immediate and long term future.

Cash-for-Keys Strategy Gaining Momentum in St. Louis

Interesting article in today’s St. Louis Post-Dispatch on the Cash-for-Keys program. The Cash-for-Keys program is designed to entice tenants residing in bank-owned, foreclosed upon properties to willingly vacate the property for a pre-negotiated sum. The tenant receives some amount of money for leaving, the bank saves money by avoiding litigation to remove the tenant. What the article fails to mention is that the bank needs to properly document the Cash-for-Keys transaction to ensure the tenant actually vacates by the agreed upon date.

Workers Can Now Sue Each Other for Negligent Acts Committed Against Each Other

There are some unfortunate unintended consequences of the August 28, 2005 Missouri Workers Compensation Reform.

I wrote Workers Can Now Sue Each Other for Negligent Acts (just published by Associated Industries of Missouri) because I believe the case (mentioned within) sets a terrible precedent from a public policy standpoint.

Do we really want employees suing each over simple negligence when there is a remedy for the injured worker via workers compensation?

Employees probably have no insurance to protect themselves over these types of issues. This could have a devastating effect on small and medium size businesses so I believe it needs to be overruled by the Missouri Supreme Court or the legislature and the Governor need to fix this issue quickly.

Mergers and Sales – Trade Secrets & Confidential Information

Who Owns the Salesperson’s LinkedIn Account?

Owners/shareholders own businesses for many reasons, including selling the business at a value higher than the investment cost. However, when a business owner goes to sell his or her business and attempts to obtain the highest price available, it is important to understand where the value of that business lies and how to maximize that value to any potential buyer.

In many instances, a significant part of the business’s value is found in the intellectual property possessed by the employees.

Part of that intellectual property is found in the trade secrets and confidential information that the company develops to provide its services and products faster, cheaper, and better over time. A very critical component is the customer networks that its sales/marketing people developed over time.

Who owns those networks, especially LinkedIn, and the data associated with them? Continue reading »

Stepping Back. US MicroLending with Kiva: Raising Capital + Raising You

When the usual suspects are rounded up to determine the reason for the decrease in start-ups and/or business failures in 2009/2010, in this author’s view, some blame must be placed on the business owner’s own failure to have introduced himself to his “better self” in the words of Napoleon Hill.

Bob Calcaterra recently noted this problem in the August 2010 Missouri Venture Forum Newsletter.

In Ralph Waldo Emerson’s essay “Experience,” he posits that all of us have an iron wire which he calls “Temperament” upon which the seeds of the individual are strung. He further argues in his essay “Compensation” that “strength grows out of our weakness and that indignation which arms itself with secret forces does not awaken until we are pricked and stung and sorely assailed.”

This veto or limitation power of adversity is the theme in the Summer 2010 Wilson Quarterly article “What Next for the Start- Up Nation” where the author speculates as to what attributes Israel start-up founders have that create so many successful start ups (persistence, mission critical focus, etc.) .

In twenty-seven years of counseling small businesses, I have found that the business owners who are the most successful are self disciplined, incredibly focused, hungry and have an iron will.

When one reviews the evidence of successful start-ups, one sees so many first and second generation Americans who will not give up. So, for those of you with the iron will or who want to develop that iron will by apprenticing at the bottom or “start where you are and build”, please check out the Microlending article in the New York Times. You will be introduced to Kiva.org, who has just started a pilot program lending to business owners in the United States. Remember, Microsoft was created in 1975, at the end of the first great recession since the Depression.

Who knows what will happen, you may become a Bill Gates.

There are Fewer Accredited Investors Now: “Dodd-Frank Act”

Wednesday, July 21, 2010, the number of investors available to entrepreneurs dropped significantly. On that date, President Obama signed the Dodd-Frank Wall Street Reform and Consumer and Consumer Protection Act (the “Dodd-Frank Act”) into law.

As we pointed out in the February 2010 Enterprise (Missouri Venture Forum), the legal requirements for raising capital from investors requires that either the offering of the investments be registered with the Securities and Exchange Commission, or that an exemption be available for the offering. The exemption which has become far and away the most used, and the most useful, to entrepreneurs is that for “accredited” investors under Regulation D.

Regulation D allows an investor to be “accredited” by having a net worth of only $1,000,000, or have an individual annual income exceeding $200,000 or $300,000 if investing with one’s spouse. Most users of this exemption qualified for it simply by assuring that all investors met the net worth requirement of $1,000,000.

And in calculating that net worth, until last Wednesday, essentially all of the investor’s assets could be included, including the investor’s primary residence. This is important because many, if not most, such investors’ $1,000,000 net worth consisted primarily of his or her primary residence.

But the Dodd-Frank Act excludes the value of an investor=s primary residence from the calculation of net worth for determining the accredited investors status (Section 412(a)).

Some persons in the entrepreneurial community predict that this will significantly reduce the number of persons who can qualify as “accredited.” (Other proposals were made in the legislative process leading to the Act which arguably would have effectively eliminated the usefulness of the exemption completely, but they were not adopted.)

Entrepreneurs seeking to raise capital, or in the process of doing so, must now use the new standard in determining compliance with the accredited investor status.

The changes emanating from the Act will eventually likely not be restricted to this one adjustment. The Act authorizes the Securities and Exchange Commission within one year to review and promulgate rules amending the definition of “accredited investor” (which amendment will likely require some showing of experience in “angel” investing). Within three years, the Government Accountability Office is required to submit a report to Congress regarding income, net worth and other criteria for accredited investor status, and within four years the SEC must review the accredited investor exemption in its entirety.

Released by permission of the Missouri Venture Forum newsletter ENTERPRISE (August 2010).

NFL: American Needle and the Collective Bargaining Agreement

Recently, the United States Supreme Court ruled 9 – 0 in favor of American Needle and against the National Football League (NFL). America Needle sued the NFL alleging anti-trust violations of Section 1 of the Sherman Act wherein “every contract, combination in the form of a trust or otherwise, or, conspiracy, in restraint of trade” is made illegal. The lawsuit raised the questions of whether the NFL is capable of engaging in a “contract, combination in the form of a trust or otherwise, or, conspiracy, in restraint of trade” as defined by Section 1 of the Sherman Act or whether the alleged activity performed by the NFL “must be viewed as that of a single enterprise for purposes of Section 1” of the Sherman Act.

If all thirty-two NFL teams could act as one entity, then provisions with respect to collusion could be severely eroded or exterminated altogether. This could allow the NFL to establish salary caps for players which would normally be illegal. This is significant given the pending labor dispute between NFL owners and the NFL players association (NFLPA). The United States Supreme Court held that each of the NFL teams is “substantial, independently owned, and independently operated.” Moreover, the court noted that the NFL teams compete with one another, not only on the playing field, but to attract fans, for gate receipts, for contracts with managerial and playing personnel and when it comes to licensing decisions even if it is through a joint venture known as the NFLP. With regard to the American Needle case, the court found that the NFL teams compete in marketing for intellectual property in terms of pursuing interests of each “corporation itself.” The court held that decisions by the NFL teams to license their separately owned trademarks collectively and to only one vendor are decisions that “deprive the marketplace of independent centers of decision making and therefore of actual or potential competition.”

NFL owners for the most part are smart people. Do you really believe that NFL owners expected to prevail with regard to American Needle’s allegations of anti-trust violations? Do you really think NFL owners believed that just because they organized the NFLP they would be insulated from Section 1 of the Sherman Act? Do you really believe that NFL owners thought the American Needle case was their golden ticket to increase their power over the NFLPA? NFL owners and the league knew there was a high probability that their position in the American Needle case would not prevail.

As a result of the American Needle case, the NFL is not going to be able to establish salary caps for players unless they have the approval of the NFLPA. One major issue with respect to the upcoming labor negotiations is a rookie salary cap. Right now, rookie salaries are not capped. NFL teams who pick at the top of the first round of the NFL draft do not necessarily want these picks even though they are in prime position to obtain the finest talent. These teams do not want these picks because of the amount of money they must guarantee (e.g. $40 million) to a player who has never played a single down in the NFL. The NFL draft is as much art as it is science and with this comes high risk in return for substantial gains or loses, e.g. JaMarcus Russell, Ryan Leaf, etc. NFL owners do not want to guarantee so much money to an unproven player. Can anybody really blame them? Would you put up $40 million for an unproven player? Is it reasonable to expect an owner to make that type of investment in a player who has not enhanced the value of the team?

Many so called experts claim that the American Needle case allowed the NFLPA to gain leverage at the bargaining table with respect to a new collective bargaining agreement (CBA) so that:

1. A lockout is less likely; and
2. NFL owners will put more effort into executing a new CBA to avoid a lockout.

Did the NFLPA really gain any leverage at the bargaining table? NFL owners are for the most part billionaires and have access to substantial sums of money to cover any debt service associated with facilities or costs with respect to operating their franchise. Moreover, the NFL has a television contract with DirecTV which is to pay $1 billion per year from 2011 – 2014. Even if there are no games in 2011, each NFL team will earn about $31 million per team during a lockout just with respect to the DirecTV deal. NFL owners are not hurting for money and will still eat three meals a day, live in their same homes and drive their same cars.

On the flip side, the average career for a NFL player is 3.5 years, the players’ contracts are not guaranteed and the vast majority of NFL players do not make millions of dollars in a year let alone over a career. Despite not earning large sums of money over their NFL career, most NFL players live well beyond their means in terms of homes, cars, clothes, entertainment, etc. NFL players need to remember who cuts their paychecks, why the have the privilege of playing in the NFL and who has incurred the debt to run a NFL franchise. The players have the privilege of being in the NFL because of the owners. Without the NFL and its owners, the vast majority of NFL players would be working a forty hour a week job earning a marginal income. The NFLPA and its members always want more money and benefits but they never want to take on any debt or risk associated with running a professional sports franchise. May be the NFL players should personally guarantee some of the corporate debt associated with the thirty-two NFL teams since they want to share in the profits.

The vast majority of NFL players cannot earn the same or similar salary in any other industry that comes close to what they can make in 3.5 years in the NFL. Since the average NFL career is 3.5 years, any time missed as a result of a lockout or strike would take time away from a playing career since any NFL player can always be replaced by a younger player. When NFL players were on strike for fifty-seven days in 1982, many of them wanted the strike to end so that they could get back to work and make their usual salary as opposed to earning strike pay. Although, one difference from 1982 is that the NFLPA has built up a large war chest for a long lockout and owns its own building which it can borrow against if in a pinch. However, NFL players know that they can be replaced as they were in 1987 with so called scab players. Even though the term “scab” paints a picture of lesser quality, fans have to realize that the NFL draft used to have many more rounds than the current seven rounds, i.e. Johnny Unitas taken in the ninth round, and every year players who are not drafted make NFL rosters, i.e. Kurt Warner, London Fletcher, etc. Thus, there are plenty of talented former college football players who are waiting to play in the NFL to show a team what they can do. While there may be a drop off in terms of the elite NFL talent, there surely is not much of a difference between high caliber scab players and the average NFL player.

The NFL has the best professional sports product in the United States with an $8 billion business which continues to grow. The NFL has never been more popular inside and outside of America. NFL owners and the NFLPA are well aware of the numbers and are not eager to ruin their product. NFL owners and league officials are well aware of what happened during the 1982 fifty-seven day long players strike and the 1987 strike which introduced fans to scab players for three weeks. Based on all the totality of the circumstances:

1. NFL owners are not eager to ruin their product with or without a victory in the American Needle case;
2. A lockout is not more or less likely given a NFL loss in the American Needle case;
3. NFL owners have the same motivation to avoid a lockout today as they did before the American Needle case; and
4. The leverage is still with the NFL owners when it comes to negotiating a new CBA.