During the last year, the reputation of Ukraine as a country with talented tech entrepreneurs and founders proliferated.
According to AVentures Capital research, during the last year, 544M US dollars were invested in technology startups with Ukrainian founders. Apart from it: eight startup accelerators and hubs were opened in Ukraine; the Ukrainian government supported the startup industry by creating a Ukrainian Startup Fund – a governmental organization which purpose is to invest equity-free grants totalling18M US dollars into Ukrainian startups.
All of this news attracted a lot of attention from foreign investors and VCs, which are always looking for new opportunities and promising markets. However, dealing with the Ukrainian-based startups entails some differences when we speak about the legal aspect. Some things might come across as completely bizarre for certain investors and can be explained by the nascent legal system in Ukraine.
In this article, we will unveil the most important things you have to be aware of as a foreign investor considering a Ukrainian-based startup for investment.
1. Individual Entrepreneurs
The most popular countries for company incorporation amongst Ukrainian startups are the following: the United States (Delaware), United Kingdom, Estonia, and Singapore. The choice usually depends on the target market and the location of the potential investor. As for the latter, it usually gives investors a certain level of comfort to know that the startup falls under its home jurisdiction.
Usually, what happens is that software development teams physically stay in Ukraine, whereas holding companies and directors board are located abroad. It means that there has to be a specific legal link tying the team to the holding legal entity, and the most popular is the entity of the Individual Entrepreneur (a.k.a. Sole Trader).
It works the following way. Each of the team members is registered in Ukraine as an individual entrepreneur and stays in a contractual relationship with the holding (foreign) company registered abroad.
This way of legal structuring works for teams that are happy to have their R&D remote as contractors. The tax burden of the Individual Entrepreneur entity is 5% from income, making it a very efficient way of maintaining software development in Ukraine. It should explain the reason why in the Due Diligence process, it comes up that certain members of the startup’s team are put down as contractors structured as individual entrepreneurs.
2. Intellectual Property Assignment
Investors also need to know that the intellectual property, which is created by the startup’s team structured as individual entrepreneurs, is not transferred from the team to the holding company automatically. The reason is that usually the Service (not Employment) Agreements are signed between the Ukraine-based team and the holding company. As a result, when it comes to Due Diligence, it is highly recommended for the investors to check:
- whether the necessary Appendix to the team’s Service Agreements was signed
- ensure that all of the Startup’s IP (program code, design, domains, trademarks, etc.) are transferred to the holding company correctly.
3. Accounts in the Online Banks
Having a foreign company for a Ukrainian startup is not easy when it comes to opening a bank account. The main reason for it is that most traditional banks have the requirement to make a client verification only via a personal meeting as it might not always be suitable for a startup founder to travel to another country for bank account opening. The Ukrainian startup founders turn to fintech alternatives such as online banks (e.g., TransferWise, Revolut, CardPay, etc.) for opening and managing accounts for their companies remotely.
If the startup’s financial account is opened in one of the online banks, it is usually recommended to check:
- the correctness of the payment details (sometimes there are some specifics with IBAN/SWIFT codes of accounts opened in such online banks)
- the limits of transactions.
4. Protection of Personal Data
In the sphere of Privacy Regulations, Ukraine is undergoing a major reform to ensure that the highest standards of data protection are maintained. However, the process is still ongoing, which brings some extra-legal hurdles to overcome during the Due Diligence process.
In particular, when the holding company is registered abroad, and part of the team is based in Ukraine, there is an issue of personal data transfer to third countries.
Back in 1980th, the Organisation of Economic Cooperation and Development declared that the companies based in the countries with inadequate privacy legislation are obliged to take extra steps in data protection to work with the clients and partners from the countries with the established privacy regimes.
So, one of the additional suggestions is to first check the Privacy regime (the GDPR, the CCPA, etc.) applying to the startup’s business. Each regime has its extra steps to be taken by startup founders to stay privacy compliant. As an example, the EU’s GDPR has the Standard Contractual Clauses, a data protection agreement of specific form accepted by the European Commission.
During the last few years, the number of Ukraine-based startups which went through the acceleration programs of such famous accelerators as YC, TechStars, 500Startups increased. Most of the founders of such successful startups, from time to time, come to Ukraine and share their experience with the local community of how to build a global tech company. As a result, – a Ukrainian startup community is growing, and the Ukrainian startup founders become more mature in doing venture business.
So, the investment attractiveness of Ukraine will continue to grow in the future as more investors shift their attention to the emerging new markets. At the same time, every investment requires a certain level of Due Diligence to be done before the deal can be successfully completed, so we hope that this article will come in handy for investors considering Ukraine as their next investment venue.
Nestor Dubnevych, Co-Founder of Legal Nodes
Legal Nodes is a global legal marketplace for tech companies.