Don’t Let Your Startup Blow Up

Don’t Let Your Startup Blow Up

Over the years, we have observed a familiar pattern that catches many start-ups off guard and can prove costly and distracting. Worse yet, these companies could easily have avoided the problems.

One of the Biggest Mistakes Start-Ups Do

Companies in the early stages of growth predictably generate buzz and excitement that feeds the hopes of founders and employees alike.  During what we might call the “euphoric phase,” everyone works hard and focuses on the upside of the business venture.  Interestingly, the sense of camaraderie essential to the success of the early-stage company often leads to big problems when success arrives.  With everyone working toward the same goal – and doing so with the same level of commitment, energy and optimism – those in charge might understandably assume that they need not formalize anything and that handshake agreements will suffice for their family-like company.  Besides, with all the work required to launch the product, who has time to think about agreements and policies?  This mindset can prove costly.

Amidst the headiness and the drive toward product launch, the sale of the company, or an IPO, promises are made to employees about many things, including future equity stakes in the business.  To say these promises have come back to haunt companies is an understatement; we have seen equity rounds and acquisitions completely fall apart because of confusion or dissension about who is owed what (and who owns what).  It does not have to be this way.  Through some early planning, companies can immunize themselves from later claims by employees that they are owed equity, other compensation, or a piece of the business, above and beyond what was agreed to in writing.  They can also protect themselves against the loss of their proprietary information and trade secrets.

A Written Employment Agreement May Not Be Enough—Make Sure It Has an Integration Clause.

You don’t need a lawyer to understand why a written agreement will almost always trump oral promises and handshake agreements.  And while you don’t need a complex contract filled with legalese, you need to ensure that a written employment agreement includes certain essential provisions.  Any employment agreement worth its salt must have a merger clause (sometimes called an integration clause) which does three things: (1) extinguishes all prior promises and representations made during the hiring process or during any period of employment prior to execution of the agreement; (2) confirms that neither the employee nor the company is relying on any such prior promises in entering into the agreement; and (3) requires that any modification to the employment agreement be in a writing signed in ink by the company’s CEO.   This last component is often overlooked but critical, given the ubiquity of casual email communications (where ambiguous references to equity and ownership rights can be misconstrued).

Make Sure You Have Each Employee Sign a Comprehensive, Properly Tailored, and Lawful Confidential and Proprietary Information Agreement.

Every company must have a valid and enforceable propriety information agreement that protects confidential and/or trade secret information and ensures that inventions developed by company employees remain with the company when those employees depart.  The particulars of the agreement may vary from jurisdiction to jurisdiction, so it is critical to obtain advice from an attorney with expertise in the place where your company operates (and wishes to operate).  For example, in California, it is unlawful to ask an employee to sign an agreement that purports to prevent him from working for your competitor after termination of his employment, even if it seems likely the employee would use confidential information in that new job.

Small mistakes can mutate into enormous headaches.  The good news is that they are easily preventable.  Make sure you consult with experienced employment counsel early on and have the right protocols in place to protect your equity, intellectual property, and the future health of your business.