Author: Thomas M. Fafinski, Attorney/Partner, VIRTUS LAW, PLLC
Most managed service providers (“MSPs”) exert their efforts on their offense. Little attention is spent on defense. The illustration above depicts an unbalanced approach which sacrifices defense (depicted in red) in exchange for sales/offense (depicted in green). The barriers to entry in the marketplace are very low and generally deal with technical knowledge. If you have the technical knowledge, then you have little difficulty entering the market, normally starting as a consultant. The start-up MSP is pre-occupied with creating an offense – trying to find streams of revenue to allow the owner and initial employees to draw an income.
It may be helpful to describe the defensive strategies we normally see employed prior to securing professional assistance. Defensive strategies, at the onset, normally include forming an entity and normally with little thought of which type of entity. We see prospective clients have engaged in the entity selection process in an incomplete and half-hazard manner with no understanding as to the reasons they selected the entity format they landed upon. Oftentimes formed by the owner themselves, without assistance of lawyers or accountants, the entity was created but not maintained, i.e. no company board minutes, meetings of ownership, election of officers or directors. The entity was one task in time that was completed and now forgotten about.
Next, the MSP tries to patch together an appropriate master services agreement. We hear stories of MSPs scouring the internet, talking to friends, lifting agreements from competitors or even just working on a handshake. The agreements generally are incomplete, not understood by the MSP and inconsistent with respect to the use of defined terms. There is a strong desire to make the master service agreement short and so critical terms, like limitations of remedy, indemnification, limitation of liability and governing law, are overlooked in these cut-and-paste styled agreements.
Eventually, you graduate from being a start-up MSP and begin installing additional defensive strategies. You hire personnel and have them sign confidentiality, non-compete and non-solicitation agreements cobbled together from internet sources much in the same way that the MSA has been assembled. The desire to have these important agreements is to prevent your employees from taking your intellectual capital from your organization. Since these agreements were the result of scouring the internet for samples, checking with friends or lifting employment agreements from other competitors, all in hopes it will be sufficient, we find most of these agreements are broad and largely unenforceable. That said, they normally do provide some protection – normally the right to make the exiting scoundrel employee’s transition subject to litigation. Even if you lose the litigation, you have created a defensive barrier, an ‘ante’ so to speak, to their competing with you.
As the MSP grows, it generally will install employee benefits. These benefits are geared toward providing stability with the employees. While not perceived as a defensive strategy by most, it does defend against short-term employees. Benefits and incentives have the tendency to increase the length of employment of the rank and file employees. That is normally where the defense ends.
There is much more that an MSP could and should be doing to protect its operating business. In order to have a healthy organization, the offense has to be balanced by a sound defense. The defense should always be geared toward protecting the lead created by the offense. A great defense will score offense. In the case of an MSP, the defense that scores points is generally the result of having a legal structure the unleashes appropriate tax treatment, especially new opportunities created by the Tax Cuts and Jobs Act.