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Fewer startups, more work-outs

Barbara Marquand

In most years, attorney Leo P. Bergin works with clients to form 70 to 100 new business entities as part of his business law practice in Reno.

Last year he worked on only 30. And in the last 18 months he saw the disappearance of 50 entities he had helped form in previous years.

A specialist in real estate for 40 years, Bergin, a partner with McDonald Carano Wilson, has seen plenty of economic dips in his day. But “this is obviously the deepest of the deep,” he says.

Not surprisingly, the demand to set up corporations, partnerships and limited liability companies is way off in Nevada, which, because of its favorable tax structure, rivals Delaware as one of the best places in the country to incorporate. Fewer startups are getting off the ground, and existing businesses are launching fewer new ventures. Developers, for instance, usually form new entities when they buy property for projects, activity that all but disappeared in the recession.

Fritz Battcher, a partner and chair of the emerging growth practice group at Holland & Hart LLP in Reno, says deal flow funding by angel investors and venture capitalists hit the lowest point in 2009 that he’s seen in nine years.

“The economy has definitely taken a toll on this segment, but there’s still things happening,” he says. “Good companies still get funded …But there are also some good ideas that are not getting funded and should.”

When deals do go through, investors hold the upper hand and are more aggressive on terms because bank loans are scarce, Battcher says. It’s basic supply and demand.

“I can’t remember the last startup company that came through my door in the last two to three years that had financing through a bank,” says Arthur Zorio, a partner at Watson Rounds in Reno. “It’s all been through friends and family.”

And because of the uncertain economy, friends and family members in many cases are insisting on some control of the company.

In the challenging financial landscape, law firms are getting creative with how they charge fees. Holland & Hart lets entrepreneurs defer fee payment in some cases.

Watson Rounds is using more flat-fee arrangements.

“Creative fee arrangements: Their time is now,” Zorio says.

Since the go-go 1980s, law firms have steered clear of flat fees for the most part, but that’s changing, not just in Reno, but nationwide. More law firms, under growing pressure from clients who want better upfront estimates of legal costs, are moving toward flat fees and retainers, Forbes magazine reported last year.

The challenge for law firms is to create a structure that’s fair to both sides. Setting up an operating agreement for a startup company might sound straightforward, for instance, but it could involve negotiations that go on for weeks or months, Zorio says. His firm uses a combination of flat fees and hourly rates a flat fee for the first month, for instance, and an hourly rate thereafter.

Another challenge is educating new entrepreneurs about the wisdom of hiring an attorney at the beginning of a venture, a tougher sell in today’s penny-pinching environment.

“Most things you can fix if you do them wrong, but it’s more expensive to fix them than if you had done things right at the beginning,” Battcher says.

So now that business formation is down, how are business law attorneys keeping busy?

Craig Etem, a shareholder of Lionel Sawyer & Collins in Reno, says the growing amount of work on foreclosures and loan work-outs makes up for any drop in workload from startups, which didn’t comprise the majority of his practice anyway.

“It’s not very fun work,” he says of the work on loans. “You get in this business because you want to see transactions work out. Nobody’s really happy about a loan work-out. The bank’s not happy, and the borrower is not that happy.”

He’s also seeing more disputes among owners about control over businesses, yet another sign of the tough economy.

“When everybody’s making money you don’t have many disputes,” he says.

Bergin is also doing more commercial foreclosure work. Many investors overpaid for property and now are under water.

“We’re beginning to see foreclosures in office buildings, warehouses and commercial properties,” he says.

Zorio says he’s doing a lot more collections work, but there are some startup files on his desk. Just the other day, he had two voice mails from people wanting legal help to start new enterprises.

“Business is still going on,” he says.

Battcher says he saw some uptick in deal flow in the fourth quarter of 2009, and that activity seems to be holding.

“I’m not expecting a light switch to go on and to go gangbusters again,” he says. “But I think we bottomed out at least I really hope we have.”


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