Non-disclosure Agreements (NDAs), are legal agreements between inventors and any person or entity that wishes to share confidential information. This includes trade secrets, proprietary information, and business financial records.
Inventions owners need NDAs to protect their creations from potential infringement by others. NDAs can also be used by inventors to protect their patent rights from being infringed by others.
A number of factors determine the scope of a Non-Disclosure Agreement (NDA). These include the information being disclosed as well as its intended use. A non-disclosure agreement (NDA) works best when both the parties are motivated to keep their information confidential and private. It’s often viewed as a sign that both parties are willing to protect each other’s business secrets in business circles.
An effective non-disclosure agreement must include certain essential details such as the identity and recipient of the material. It should also include a catchall clause, which summarizes key terms in an easy to understand manner. For example, the state laws that govern the contract, and what happens if one of them breaks it.
Innovators should consider the ethical and legal implications of disclosing their invention to potential licensing partners. Even if the disclosure doesn’t lead to major lawsuits it could cause legal problems in the future. These potential problems can be prevented by a well-drafted NDA.
Why are NDAs Important for Inventors?
When inventors meet with potential buyers, licensees, or investors to discuss their inventions and potential uses, they often sign NDAs. These agreements are important because the information you share may be crucial for protecting your invention and commercializing it.
As an attorney working with startups in Silicon Valley for the past 20 years, I have informally advised founders not to request NDAs from investors or at most send a one-page NDA to investors. Many newbie founders are puzzled at with that comment coming from an intellectual property attorney and I don’t make that comment lightly. The fact that potential investors won’t sign a Non-Disclosure Agreement (NDA) is often a problem for founders when sharing sensitive documents such as the business plan.
However, startups as a group have acquiesced to investors’ refusal to sign NDAs, so I make that recommendation because the NDA request can be a stopping point for investors, and for most founders, getting investments is the most important objective for the company. Founders can appear naïve to request NDAs when other founders have acquiesced to venture capitalists’ refusal to sign NDAs.
So what should founders do to protect their companies and still pitch to investors? Read on and see how these issues are neatly resolved through a combination of patent protection and layered disclosure to the investors.
Founders prefer the safety of NDAs
Entrepreneurs typically ask for and get signed NDAs from consultants and suppliers. Because the information supplied to investors are much more comprehensive than those provided to consultants and suppliers, founders rightly believe that investors should sign an agreement to protect their company’s business plan and confidential information. This is especially important for investors who have invested in competitors. However, most professional investors will almost always refuse to sign the non-disclosure agreements.
Entrepreneurs are naturally concerned due l overwhelmed and scared when pitching to VC firms. The fear is that VCs can steal their ideas because they have the resources and money. It would appear to be foolish for entrepreneurs to simply hand over the business details without any protection.
Reasons Provided By Investors for Not signing NDAs
A well-drafted non disclosure agreement can protect intellectual property of a company. It is a legal agreement between multiple parties. A party is subject to legal trouble if they sign the agreement. If they reveal any confidential information or use the information in unethical ways, they are subject to legal trouble. The agreement basically defines what information is protected and what isn’t.
VCs aren’t likely to sign NDAs because that is the industry stance. On average, VCs see 20-40 deals per week. This equates to 1,000-2000 deals per year. They could be prevented from looking at other investment opportunities by signing an NDA for every deal they make. Even if an investor signs the agreement, he/she must review it and keep track of compliance. Only a professional attorney can do this. Professional investors may find it difficult to justify the time and expense involved in completing this task.
One common reason as to why VCs won’t sign NDAs is they stand on their reputation. An investor who is successful maintains the trust and confidence of entrepreneurs. An investor who is known for revealing confidential business secrets to the market will quickly lose their trust. Investors need to have a good reputation. Investors who have a good reputation are more likely to be able to invest in great opportunities.
Another reason is that VCs want you to focus on the process of company building and not an idea. Entrepreneurs must understand that not every VC is interested to invest in their idea. They want entrepreneurs and their teams, not their ideas. Although an idea may seem simple, executing that idea takes hard work, dedication, and sweat. In their views, ideas are a dime a dozen, but only a few teams can make unicorns, and that is why NDAs are not needed.
Due to the acquiescence by startups to the refusal, an entrepreneur may appear naïve or inexperienced to potential investors when they request NDAs to be signed. This poses a dilemma for founders. We will discuss possible solutions to the VC’s refusal to sign NDAs next.
Protect The Company with Patents
Before you pitch to investors, you should file one or more patent applications. You can protect your invention with patent filings. Provisional patent applications are inexpensive and fast, and if you want. As discussed in our other blogs, you lose important patent rights when your technology is made public. If you plan to pitch your technology at public events where the recording may be made public, it is a good idea to file a patent application before you do so. These would be considered public disclosures. Investor pitches are usually done behind closed doors, so there is some implied confidentiality. This means that these disclosures don’t affect patent rights. It is important to file a patent application prior to meeting with investors.
After filing a patent application, you may be able to discuss your invention more freely with potential investors, as the patent application provides some level of legal protection for your idea. However, it is important to note that a patent application is not a guarantee of patent issuance, and there may still be risks associated with disclosing your invention before a patent is granted. Additionally, even after a patent is granted, it is still a good idea to have a non-disclosure agreement (NDA) in place to protect your interests.
It can help establish company credibility when you state that your product has a patent pending status. If you do this right, an inexpensive provisional patent application may allow you to state that your product is “patent pending” in the United States. Investors love it when you have an intellectual property strategy and they are more inclined to invest in companies that can get exclusive access to the market.
You can also pitch your products or services with a patent pending status. This allows you to talk openly to investors without worrying about them taking your idea. Investors won’t be able to evaluate your company if you don’t want to or can talk freely about your product. If you try to get them signed a non-disclosure contract, you might be branded as an amateur. You might not realize it, but both will result in your company receiving a polite “no thanks” from investors.
Use a layered approach in dealing with request for sensitive information
If you’re looking for potential investors in the market, ensure you don’t find anyone who has made similar investments in other companies. Professional investors won’t invest in your company if they have made similar investments to you, but if they have invested in your competitors, there is an increased risk to your confidential information.
There are several ways to find an investor’s current portfolio:
- Company website: Many investors list their portfolio companies on their website.
- SEC filings: Publicly traded companies are required to file regular reports with the Securities and Exchange Commission (SEC). These filings can include information about the company’s shareholders, including institutional investors.
- Pitchbook, Crunchbase, Mattermark: These are online databases that track venture capital and private equity deals. They provide information on the investors, their portfolio companies, and the details of the investment round.
- Networking: Attend industry events, meetups, and conferences to meet and network with investors. Ask them about their current portfolio, and if they are willing to share the information.
- Press release: Many investors or portfolio companies will issue press releases when they make an investment or when a portfolio company is acquired. This can be a good way to find out what companies an investor has invested in.
It’s worth mentioning that not all investors disclose their portfolio publicly, so you might not find all of them.
But even if you have filed for patent protection, you should still minimize discussing the how your invention works with prospective investors.
I often advise entrepreneurs to share the cookie and not the recipe. The entrepreneur can decide what information they wish to share and what they would like to keep private. You don’t have to tell anyone if you have something extremely secret that is not available to the public. It’s that simple. If an investor wants to know the recipe secrets, then it is fair to request the investor to sign an NDA.
Most investors don’t need all the gory technical details. Imagine you’re opening a restaurant and need investors. Real investors will need to know the following: When you plan to open the restaurant, where you will locate it, what is your clientele, what is your business model, your theme and decor, projected profit margins, supply lines, etc. Disclosure of all such information should be possible without an NDA.
You don’t want them to know your secret recipe (i.e. the patent filing details). It is possible to talk about the benefits of your product (e.g. protein, detergents, medical devices, therapeutic codes, etc.). It is better than any other product on the market in terms of its benefits (e.g., it is cheaper, more efficient, a better cure for a disease, …).
You can talk about projected profits ($$$) as well as risk management. True investors will be interested in learning about these and less on how it works. In short, even if you have filed a patent application to protect an invention, don’t reveal any details about the actual invention. Trade secrets and patents can be expensive to enforce.
Your main challenge is to attract investors, not worrying about why VCs won’t sign NDAs. With a patent application and my proposed layered disclosure of sensitive information, you can talk more openly with investors and build rapport with them. Things will be smoother if your first meeting goes well.
Good luck with your hunt for investments.