What is a legal health check?
Physical health is on everyone’s minds, especially with the Covid pandemic still going strong. You may also have heard of financial health, which focuses on the state of your personal financial situation. But what about legal health? What is it and does it really matter to you as a business owner?
A legal health check is a detailed assessment of a company’s legal risks, exposures and readiness to defend against potential liabilities. Apart from scheduling regular medical check-ups for themselves, every business owner should also take time to assess the legal health of their business. The aim is to tackle any risk areas, before they snowball into something that becomes more stressful, time-consuming and expensive to resolve.
Protect valuable assets
Every business has different strengths that hopefully will help it to grow and flourish. Depending on the industry, this may mean intellectual property, physical assets (like goods or machinery), staff (that provide core services to clients) or contracts with key customers and suppliers. A sustainably-run company understands its legal relationships and ensures continued access to the assets that keep business flowing. A company that has not taken stock may suffer from lost value in its contracts, low staff morale or competition from better-organized peers; it may even find that what it believed to be its core assets were actually legally owned by another party, putting its operations at major risk of disruption.
Avoid liabilities, risks and disputes
As any corporate lawyer can tell you, no business is perfect when it comes to legal and regulatory compliance. Still, it is important to understand where potential issues lie and how they can be addressed. The benefit is the ability to avoid a massive headache down the line, often when least welcome.
For example, the occasional late filing with the Companies Registry may seem like an acceptable risk, especially if you believe that the chances of prosecution are low, and the consequence is only a modest monetary fine. However, a trend of increasing enforcement, coupled with daily penalties and multiple offenses, may mean a fine much more substantial than expected. Your company may even be struck off the register and dissolved if its repeated compliance failures lead the Registrar of Companies to believe that it is no longer carrying on business.
Such incidents may also indicate that rules are being overlooked across your organization. You may find yourself having to simultaneously deal with disputes, for instance, over unclear or verbal business contracts, a commercial landlord threatening to evict you over a breach of your tenancy agreement and other significant consequences due to an unknowing breach of your bank facility agreement or government license. All these issues would further drain the already limited time, energy and resources of a startup and its management. We have also often seen disputes among shareholders arising out of poorly drafted shareholders’ agreements, which may result in outcomes, such as a shareholder involuntarily exiting the company.
Finally, the law sets out a number of fiduciary and other duties for directors, with the general theme that directors should act in the best interests of the company. Breaching these duties may mean personal civil or criminal liability for a director and impact transactions that have already been carried out. Hence, it is important to identify any potentially risky behavior as early as possible.
Fundraise more smoothly and quickly
On a more positive note, what most startups aim for is to keep successfully closing larger and more noteworthy investment rounds. Investors may come in different forms, but as you move away from friends and family towards the more sophisticated end of the spectrum, expectations towards the company and its management will increase accordingly. A business that can raise funds smoothly and efficiently is one that gives confidence to investors that its house is in order, with a mature and savvy management team that is well-informed of the company’s legal rights and obligations. Such a company would be able to speed up the investor due diligence process and be in a position to proactively address any issues up front, instead of setting off red flags that may lead investors to look elsewhere for a viable target.
Final thoughts
For a company to prosper, it is important to set the right tone at the top and foster a good compliance culture early on. One way to do this is by scheduling regular legal health checks throughout the company’s lifespan. This will minimize the risk of business interruption and allow the management team to focus on growing the business instead of fighting fires. You may have heard it many times, but prevention really is better than cure.
Important: This article is only intended to provide a general outline on the topic and should not be taken as formal legal advice. If you would like to know more or require assistance, please feel free to contact us.
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