What Is a Non-Disclosure Agreement (NDA)?

If you’re considering buying a business or investing in one, you’ll likely be asked to sign a non-disclosure agreement. But what is it, what information will it include, and should you sign one? Read on.

NDA 101

A non-disclosure agreement, otherwise known as an NDA, is a common requirement for anyone interested in buying or investing in a business. Because the buyer or investor wants to know as much as possible about the financial health and operations of the business, financial statements and proprietary information may need to be shared. Since this information is sensitive and not something the business wants to get back to its competitors, the company may require outsiders to sign an NDA, which states that they will not share any of that confidential information.

When Is An NDA Required?

It’s important to understand when a non-disclosure agreement is required so that you know when to expect one.

One situation in which you might be asked to sign an NDA is when you are doing due diligence on a business you’re considering buying or investing in. Because you may be shown proprietary information like intellectual property, financial statements, or trade secrets that the company doesn’t want getting into the hands of its competitors, you may be required to sign an NDA agreeing not to share any of the information you access in the process.

You may also be asked to sign an NDA if you are working with a company on its proprietary technology or intellectual property as consultant or third party, for example. Typically, you will be asked to sign the NDA before accessing any of this sensitive information. The info won’t be shared until you sign the agreement. If you refuse to sign it, you may stop the process entirely.

What Information Might Be Covered By A Non-Disclosure Agreement?

If you’ve never signed a non-disclosure agreement, you may not know what to expect when you’re presented with your first.

Every NDA is different, but you may find that it requires that you do not disclose specific financial information such as revenues, expenses/debts, profit margins, tax information, or details of bankruptcies. The NDA may list the specific financial information you cannot share, or may refer to all financial information.

The NDA may also state that you cannot share trade secrets. These are those elements of a brand’s strategy, design process, tools, or practices that help it stand out in the marketplace. In the wrong hands, this information could destroy a brand.

The NDA may also include the company’s business plan, customer information, pricing, recipe or formula, marketing strategy, and/or intellectual property. Essentially, a business can include stipulations on the information it shares with you that could jeopardize its position in the marketplace if it was leaked outside the company. It’s a leap of faith for any business to divulge this information with outsiders like you, and the NDA is the one potential protection tool it has.

What Goes Into The NDA?

Beyond the information that the business deems confidential, what else can you expect to find in a non-disclosure agreement?

It will include the people involved in the sharing of information. If you are an investor working with a firm, the NDA might state that you and your assistant are the only people who can access this information. Should you share the information with other associates, you might be in breach of the contract.

It may also provide the scope of confidentiality, which not only states who can have the information and what information they can access but also what the recipient can do with the information. If you are considering buying the business, the NDA might state that you can access the information in order to do due diligence to make an informed decision on the purchase but you can’t use it to negotiate purchasing a competing business.

The NDA might also name the information excluded from the NDA. For example, if specific financial information is publicly released and therefore not considered confidential, the NDA might state that the publicly released statements are not part of the NDA.

The agreement will also include the terms, stating how long the party must keep the information confidential. Usually, this is a few years, but could also be indefinite, depending on the business and the information being disclosed.

The agreement may also list the consequences of breaking the agreement. While all of the NDA is important to read, this section is particularly important to pay attention to.

What Happens If An NDA Is Breached?

Naturally, if you’re signing an NDA, you are agreeing to abide by the requirements in it. It is, after all, a legally binding document.

So what happens if you breach the contract, either accidentally or on purpose? If a breach occurs, the company can choose whether or not to pursue legal action and can sue for monetary damages. Especially if the breach resulted in a loss in market share for the company, you can expect that the company may take action against you. Consider the example of a technology company that is about to release a new device in the marketplace. If you signed an NDA but then told others about the product and it resulted in a competitor jumping in and beating that company to market, the company you signed the NDA with will understandably be negatively affected by your actions and is likely to sue you to recover the damages.

Benefits and Drawbacks of Signing an NDA

There are obvious benefits to the company having third parties like you sign an NDA, but what are the benefits to you —  and what are the drawbacks?

Benefits

Buying or investing in a company requires trust. If you show that you are willing to sign an NDA when you begin the conversation about working together, it assures the company you take confidentiality seriously and fosters the trust necessary to move forward.

An NDA also protects proprietary information that, in the wrong hands, could damage the company or cause it to lose revenue. Companies work long and hard to establish a foothold in their marketplace, and that success is based on those trade secrets and proprietary information. Without those being kept confidential, the company may slip its hold in the marketplace.

Also, in the case of a company being sold, the value of the business depends on that proprietary information. If it were to leak, the value of the company could decrease.

As a buyer/investor, signing the non-disclosure agreement gets you access to information that paints a better picture of the company you’re interested in. You can make a better-informed decision once you see behind the curtain.

Drawbacks

Going back to trust: some buyers or investors, when asked to sign an NDA, might feel like their word to keep the information confidential isn’t enough. This is especially true if it’s a small business being sold or invested in and the buyer or investor knows the owner. Still, in the world of business, it’s better to go by the book and get the NDA signed.

Having an NDA agreement may slow the due diligence process. As the buyer or investor, you might have to have your legal team review the agreement, and there may be some back and forth on the agreement before you can sign it. This delays the process and you may risk someone else coming in and buying the business before you can have the opportunity to do your due diligence.

Tips for Dealing with NDAs

As the buyer, you want all the information you can access about a company you’re interested in. Because much of the information will be behind that barrier of confidentiality, be ready to sign that agreement.

Still, be aware of your own rights in this situation. First, it’s smart to have an attorney review the agreement so that you are clear on what you are committing to in terms of accessing information and keeping it confidential for the specified period of time.

Also, know that you may be able to negotiate the terms of the NDA if you (or your attorney) aren’t comfortable with some of the language or terms. Again, buying a business is about trust between buyer and seller, and you should feel comfortable with the process.

A non-disclosure agreement is a solid connection between buyer and seller. The seller gains the confidence that you as the buyer respect the company and the information that has made it the success it is. As the buyer, it’s in your best interest to keep that information private because one day the company may be in your hands, and you will reap the rewards from all the hard work that came before the purchase.