Does Your Startup Really Have the Right to Sell Its Software?

Savvy investors hire lawyers to conduct IP due diligence before investing in a software startup for a very good reason:

All too often the startup does not own the exclusive IP rights to its software!

Usually the startup doesn’t own the IP rights to its software because of carelessness, a cavalier attitude toward contracts, and a basic misunderstanding about the law.

Many parts of IP law are counterintuitive and defy what people consider “common sense.”

It’s important for startup founders to learn a little about IP law to protect their hard work and investment and keep them out of legal trouble.

WARNING:  If your startup does not own the copyright to its software or have a proper license from the developers who created it allowing the startup to sublicense the software and make derivative works, the startup may be committing copyright infringement when it copies or modifies the software and sublicenses it to others.

And the startup’s customers may be committing copyright infringement too.

Ignorance of the law is not an excuse that will get you off the legal hook.

Sometimes the founders just don’t care. They know they are playing fast and loose with IP ownership of the startup’s alleged software.  But they don’t want to find or pay for proper contracts and do things right. In these cases, the startup’s licensing campaigns, contract warranties to other companies about IP ownership, and sale of stock in the company with a valuation based on the value of the software, simply smacks of fraud.

Frequent sad scenarios where the startup does not own the IP rights include the following:

• The founders don’t sign IP assignment agreements that capture the IP they created before incorporation and transfer it to the company.  A founder may walk off and assign their IP to another company, like Facebook’s Mark Zuckerberg did. Of course he got sued.

• The startup thinks that because  it paid for the software’s creation and had an NDA with the developers they own the IP rights.

Wrong! It doesn’t matter that the startup paid for the creation of the software. Payment doesn’t transfer IP rights.

Without a proper contract assigning the IP rights to the startup that is signed by the developers, the startup usually has nothing more than a revocable, implied license, which is almost worthless.

• The startup hires a software development company that uses independent contractors who have not assigned their IP rights to the software development company. The development company can’t pass through IP rights they don’t own to the startup. The startup does not own the rights.

• The startup and an independent developer sign a contract but the contract does not have the correct language transferring the IP rights to the startup. The developer retains the IP rights.

• An entrepreneur incorporates a new startup  to sell IP created by her former company.  Without proper IP transfer or license agreements, the new startup does not own or have the proper rights to agree to contractual IP warranties with the new company’s software customers. It’s another implied license scenario.

In the circumstances above, no smart company would pay money for a license to the startup’s alleged software or buy it as an asset.

The moral of the stories is the startup must have proper written contracts signed by all software developers.

The contract must have proper IP transfer language (not simply a statement that the job is a work for hire) and be physically signed by all developers.

IP assignment contracts preserve the value of the startup’s software asset and help avoid legal liability for infringement and fraud.

Jill Hubbard Bowman is an intellectual property attorney who helps companies own the rights to the software created for it.

For related posts explaining copyright law see the following:

• Who owns the rights to custom software?
• How to destroy the value of your software
• Critical legal issues for your website