Founder equity · Startup Law

Should you avoid at all costs a cofounder lawsuit?

swati gupta ...

April 7th, 2017

I’ve heard of some messy startup breakups, especially in the early stages. One person is doing all of the work. Another wants to leave the company, but asks for a ridiculously large buy-out. And then there are all manners of equity-split quarrels. You get the point here: There are cofounders conflict as the day is long, and that will never change. Without casting too wide of a net, I want to know if litigation in these situations should be avoided at all costs. Even if the case seems intractable (or better off in the courts), is litigation going to make things worse and halt all of your business operations or take your company apart?

Christopher Chen Co-Founder @ The Resolution Co.

April 7th, 2017

Dear Swati,

While I wouldn't necessarily say that litigation should be avoided at ALL costs, I believe it should be considered a measure of last resort for the following reasons.

1. It is very expensive;

2. It is time consuming; the 'slow wheels of justice' can take well over a year for your case to reach a conclusion;

3. It is inefficient - giving a judge the power to decide what's best for your company can lead to both uncertain and undesirable outcomes;

4. [in direct response to your post] Litigation almost always makes things worse in any dispute because it tempers both sides of the dispute and often forecloses any possibility for reaching a settlement outside of court. Further, when there is pending litigation between founders, it will almost always make potential investors think twice about putting money into your company.

5. [Will it effect business operations or cause your company to dissolve?]

This question is hard to answer without more information about the nature of the dispute itself. If your company relies on funding to operate, then yes, absolutely. However, if the lawsuit only affects a small number of company employees/founders, then the 'adverse effect' can be marginalized through organizational barriers put into place to effectively seal off the dispute from directly affecting the day-to-day operations of the business.

My advice is that you should consider other routes like Mediation, which is voluntary, confidential and empowering to the parties because it puts the responsibility on them to resolve their dispute on amicable or friendly terms, instead of dumping the lawsuit on a resource-constrained legal system that is already flooded with far more cases than it can handle.

Another option is Arbitration, where an arbitrator (usually retired judge), expedites the legal process by acting as a de-facto judge, where you can get an enforceable judgment rendered in your case. This process is both cheaper & faster (see: much much faster) than resorting to traditional litigation. This is why companies like Apple always have an 'Arbitration Clause' in all of their Terms & Conditions.

If you or anyone else is searching for startup-specific mediators or, for you early-birds out there, a structured Founders' Agreement process that directly addresses and mitigates common sources of co-founder disputes, then check out our website HERE!

Swati, If you have any further questions, feel free to PM me via LinkedIn or on our website!

Best of luck to you all,

Chris Chen Esq./MBA

The Resolution Co.

Henry Daas Coach-Approach Strategic Advisor

April 7th, 2017

Hmmm.. All costs?

Depends on the circumstances but in my experience, the only ones who make it out alive are the LAWYERS! Also, bear in mind, there are thousands of civil cases filed in any given year and only a tiny fraction end up in front of a judge. So if you think the courts are going to bail you out from the folly of your own ways, think again...

Unfortunately, there is no single best practice to follow to avoid a messy breakup. A buy-sell? Sure, been there, done that. Still nightmarish. Nuclear option? Again, not for the faint of heart. Suck it up and deal? Only if you don't mind dying young.

I say this in jest, but the best way to avoid an ugly divorce is to stay single! But seriously, if you can go it alone, do it. Otherwise, be nice (but not a pushover). Life is short so don't be a schmuck and try not to hang around with schmucks. And NEVER marry one...

Hope this helps!

Tamas Kalman Consultant at Squidcode & Co-Founder at Tryp

April 7th, 2017

my advice: don't take a co-founder.

you need one? you don't. instead, do all the work, take all the responsibility, and rather pay professionals to do what you can't.

Dane Madsen Organizational and Operational Strategy Consultant

April 8th, 2017

Avoid it - not at all costs - but there is a compromise to be made. It is a distraction and expensive. Investors will avoid you until it is done.