Monday, 25 February 2013

How and When Should I Use Operational-Level Agreements (OLAs) in Business-Critical IT Procurements?

I thought that this week I could look back at some IT issues as opposed to investments of which I wrote last time, as after all, this is one of my all-time favourite sectors. So nowadays big data, agile methods and cloud computing with all complexities relating to privacy and data transfers seem to reserve the largest amount of coverage in seminars and press (as some of you may now - we also had a fair share of privacy lectures and discussions last spring!). However, perhaps due to that I decided that I will not speak about these "trendy" themes, but rather focus on contract models and business case structuring which I claim is still slightly neglected area in business-critical IT procurements. So I tell you some background and what we have been doing recently:

In information technology sector, there has been a clear trend towards multi-sourcing environments which is naturally due to specialization and fragmentation trends (these trends can also be recognized to apply generally to the Finnish technology industry, see for example Tuotekehitysverkostojen-uudet-toimintamallit, slightly old but still relevant). While some years ago, most of the deals were carried out with one single vendor. Today, there are several parties involved, and now the focus in on integrators and developing business models of the service integrators.

So where's the beef? Companies use more and more multi-vendor models with the intent to access best-in-class capabilities and improve their negotiation position. Another obvious driver behind this trend is the fact that different IT service providers have different strengths, capabilities and cost structures. From the legal side, the critical challenge caused by this development is to ensure that all suppliers will work together on the arrangement.

As a result, we have seen lots of talking and discussions on operational level agreements or OLAs trying to bind different suppliers participating in a single project to work together. For example, the following issues have been on the agenda:
  • Confidentiality;
  • SLA sanction mechanism;
  • Disaster recovery, testing and similar obligations;
  • Creation of ”Fix it first, argue later” – approach across the suppliers;
  • Intellectual property ownership questions;
  • Escalations and disputes;
  • Change management if more than one supplier is affected;
  • IT standards;
  • Exit; and
  • Retendering procedures.
These OLAs have not really been very popular in the past and that is partly due to the fact that IT vendors are naturally not keen on taking liability on their co-vendors' act and omissions (outside ordinary subcontractors of course). However, one of my old friends had a saying that "...if I can get my opponent to accept my contract template, they have already swallowed 90% of my hooks". So we went to consider this further and perhaps one reason why these OLAs have not gained footing could also be that customers have not sufficiently consistently required these already in their RFP or RFQ documents and planned their contractual models accordingly. So we decided to test this and implement novel OLA-based RFP and RFQ templates to be used in connection with collaborative models among multiple vendors with lists of joint carrots to be achieved!
Another solution could also to be to develop service integrators, in other words, companies who will take part of the cost-savings if compared to the multi-sourcing environment in its pure form, but who will take wider role and contractual responsibility for the integration if compared to the earlier system-integrators. It should also be noted that in part of the outsourcing deals there have been discussions on right KPIs to be measured and here the trends has constantly been more towards quality and business related KPIs than slightly old-fashioned “uptime” or “restoration time”. 

Next thing is to consider how service integrator models deviate from current existing system-integrator models, but in the meanwhile let's wait for lots of positive feedback from the vendors’ side from the first OLA-RFP/RFQ case!

Thursday, 14 February 2013

VIGO FUNDING – Should Entrepreneurs Be Warned?

Approximately two years ago I was requested to write a column for the Finnish Tekniikka & Talous magazine on the cleantech sector in Finland. In the story, I highlighted some problematic aspects of public funding that are different in this business field compared, e.g., to the game or high-tech industries. Several developments have taken place since. For example, Finnish start-ups have received approximately €100M of funding from the so-called Vigo Accelerator Programme. In this blog, I wanted to share a lawyer’s experiences of deals with Vigo accelerators and why entrepreneurs should be careful with these deals despite the very high-level political support and popularity enjoyed by this programme.

The Vigo accelerator programme was launched in 2009 to address perceived gaps in the high-growth venturing ecosystem. According to a recent report published by the Ministry of Employment and the Economy (TEM), the programme "…has created a new channel that makes world-class competence and private funding available to growth companies, enabling the start-up of high potential growth companies and their entry into the international markets" (read publication from here). Vigo seeks to connect innovative business ideas that have international potential with internationally experienced business professional and private and public growth finance (TEM, 2012). According to TEM’s study, it has been “…designed to provide contributions to the Finnish entrepreneurship ecosystem:
  • Accelerate growth and internationalization of new firm
  • Help high-potential new firms attract equity funding, both from Finland and abroad
  • Strengthen high-growth capability (both managerial and governance) in Finland
  • Strengthen the links between the Finnish high-growth venturing community and its foreign equivalents
  • Create a network of business accelerators in Finland to address growth bottlenecks in the post-incubator phase”
Thus, the programme has many objectives but what is unclear is whether it actually promotes more the interests of the accelerators or those of the entrepreneur. In many cases, start-ups are in need of funding and, naturally, in such case they may have to content with even very strict provisions from venture capital investors to ensure the ability to continue their business as there are limited funding possibilities available. Should Vigo be any different? To my view it should, because accelerators are working as instruments in public financing and what I consider problematic is that public funding seems to praise venture capital activity and fund formation while the core focus should be on the growth and internationalization of new firms. And if these companies are successful, they will certainly attract venture capital investments.

In several cases where we have been involved with Vigo accelerators, the term sheet proposals received by the entrepreneurs have systematically failed to reflect the public-funding rationale behind the program.When a promising, in our opinion at least, start-up commented on an accelerator's term sheet, the feedback was, "we know it [that our proposal is completely unreasonable] but we’ll give to you access to public funding". I wanted to give six real-life points that at least should be recognized and considered by entrepreneurs:

First, if the entrepreneur has not done "everything possible" to secure the subsequent funding, the accelerator will get additional X % ownership of the entrepreneur's company – we will all know what to think about this kind of requirement;

Second, the entrepreneur must commit to a monthly management fee that varies from one to several hundreds of thousands of euros depending on the contract term (How much services from different top-level experts from different sectors could one buy with this amount of money as opposed to support from one VC? Just a thought and personally I am pleased to see that restrictions are recommended...);

Third, in addition to the management fee (and ignoring that it is already very significant), there have been cases of free-of-charge "sweat equity", typically 10% or higher or in tranches;

Fourth, anti-dilution protection has systematically been full ratchet (e.g., an investor who pays €2 per share for a 10% stake would get more shares (or conversion rate would be adjusted) in order to maintain that stake if a subsequent round of financing were to pass at 1€ per share and, as a result, the early round investor's price is actually reduced to the price of the new issuance).

Fifth, existing owners are required to work in the company if they wish to retain their share ownership;

Sixth, owners give accelerators normal reps and warranties without limitations or up to the investment amount.

I do not say that all Vigo accelerators have the same principles, but I call for discussion on whether the personal role of the accelerators in these companies should significantly be more restricted or controlled, as otherwise there seems to be conflicting interests between their personal benefits on the one hand and the interests of the entrepreneurs on the other. If we want to support the Finnish venture capital industry, then there should, in my opinion, be a direct public support mechanism available and not one that facilitates the venture capital industry at the expense of the entrepreneurs. As one solution, I would also continue to support an idea that we introduce a mandatory standard agreement model for accelerator-entrepreneur relationships that would equally take into account the interests of both sides.

Monday, 4 February 2013

On Drafting and Roles of Legal Advisors

I have recently been engaged in discussions on the proper way of drafting contracts. As I personally have been engaged in patent and technology litigations, I often tend to take a dispute-oriented approach to contract drafting. For example, I consider the ramifications of the contract being argued in court, who would have the burden of proof, whether I make a legal compromise by inserting intentionally vague provisions (would it be interpreted to our benefit or not), and so forth.

However, there is also another realm, which can be qualified as a “deal-lawyer-type” of contract drafting, where the main focus is to get the deal through one way or another. Here the issue is already somewhat different: you may be limited by time or expenses or you may have an opportunity to identify only some of the issues that you consider as the greatest deal-breakers in the deal.

An excellent example of these distinctions between different drafting types can be found in patent licensing with its carrot and stick licensing approaches. In the former the licensor voluntarily grants a license and enters into a commercial relationship while, in the latter, the patent holder threatens to sue the licensee for patent infringement if the licensee does not pay for a license. It is very likely that in the latter case, the agreement would, at some point, be tested in court so you should be careful when drafting, keeping the forthcoming litigation constantly in mind.

However, when talking about handling an assignment it is not only about how we draft agreements but what is our scope and role as advisors in overall. Steven M. Davidoff, professor at the Michael E. Moritz College of Law at Ohio State University, recently posted lessons from a collapsed deal involving Goldman Sachs, which was in a legal dispute over its role as the advisor in the sale of the speech recognition company Dragon System.

While I fully agree with what one commentator said, that there is only one thing that is more dangerous to an M&A client than inexperienced bankers and lawyers and that is “...if the client reckons himself smarter or better at doing deals than the bankers and lawyers who are being paid to advise him/her.” It is not very often than people with legal education do have the business acumen to create also “commercial win-win deals” for their clients. That “weak spot” should perhaps be the target of the personal development of all us lawyers to make us also more solution-oriented and to make the claim “if the world were full of lawyers, there would be no deals executed” less true.

Take a couple of minutes and read this through as this outlines the importance communicating the working methods and scope clearly – to ensure that the clients’ expectations are met. And yet, in this case, it still might not have been enough…