Lawsuits are scary. According to Bolt Insurance Agency, which offers coverage to small businesses, legal woes cost small companies more than $35 billion per year in legal fees alone, not to mention the costs of business disruption, employee morale and entrepreneurs’ mental health.
While many suits against entrepreneurs can never be foreseen, you can take steps now to protect yourself when waters are calm, says Ben Berkowitz, a commercial litigator and a partner at one of the leading litigation firms in the country, Keker & Van Nest, based in San Francisco.
Have a lawyer at the ready. Different types of cases call for specialized attorneys, but before problems ever arise, it’s a good idea to make contact with a commercial lawyer familiar with your industry.
“It’s crucial for founders and entrepreneurs to have someone in their contacts list to consult with on a day-to-day basis,” Berkowitz says. An attorney should be part of your core team of advisers (which should also include a banker and an accountant, Berkowitz believes) and be on hand to review contracts, intellectual property matters and human resources challenges, and to be your line of defense in the event you’re served with a lawsuit.
Second step? Call that lawyer. “We often see where a small-business owner is served and calls the plaintiff’s lawyer to try to explain why they are not guilty of the charges cited in the suit,” Berkowitz says. “That is a mistake. It may fall on deaf ears or, worse, be used against her later in the case.”
Another reason to call the lawyer is to ensure you are immediately addressing the issue. Berkowitz says that sometimes entrepreneurs ignore the matter. Ignoring it can lead to missing important deposition deadlines or defaulting on judgments against you. “There is a tendency not to take it seriously and engage in ostrich behavior,” he says. “It’s not going away and you need to address it head-on with the assistance of a lawyer.”
To find the right attorney for your case, ask colleagues in your industry (of course, if you have a general counsel, you’ll speak with her right away). Your professional association and state bar association are also good resources. Before you sign on, interview a number of lawyers. Ask for examples of cases similar to yours that were resolved effectively. In most instances, your goal should be to conclude the case in the most cost-effective manner possible. That usually means avoiding litigation.
“Litigation in the United States is very expensive, and business owners often underestimate the cost of resolving a suit,” Berkowitz says. “It is a litigator’s job to counsel you on a course of action that makes the most sense for you and your business.”
Of course, the best defense against litigation is avoiding it in the first place. That includes creating sound contracts, keeping up with employment law, and committing to resolving disagreements and disputes quickly. Also, explore buying small-business insurance in addition to what is required by law. Insurance for patent infringement, commercial property, and product and professional liability can save you in legal fees and protect you against financial loss. Again, your professional association and lawyer can help you find a good investment.
But the best defense against lawsuits is doing business with trustworthy people who have solid track records and reputations. “When talking to people in litigation,” Berkowitz says, “one of the most common stories I hear is, ‘I had a feeling I shouldn’t have trusted that person in the first place.’ Listen to that feeling.”
Mike Glanz, Owner
Company: HireAHelper.com, a resource to find and hire moving labor, headquartered in Oceanside, Calif.
Lesson: Keep fighting and use the pressure to strengthen your business skills.
My partner and I launched in 2007, and from the beginning, we did really, really well. We started with $150,000 raised from friends and family, and very quickly got cash-flow positive. Then about a year later, I was in the parking lot of a burger restaurant and got served with a ream-thick suit from a national company that rents vehicles to people who are moving.
The essence of the suit was trademark infringement for the term “Moving Help,” as well as misappropriation of trade secrets.
Through word-of-mouth we found a local lawyer who specializes in these cases and immediately tried to settle. Time and again the other company refused our offers and filed motion after motion against us. They kept coming back to us with more demands. We felt like they were trying to shut us down.
We had an excellent lawyer, and the suit ultimately cost us $250,000 in legal fees. Not fighting was not an option, though. My wife—an emergency room nurse—was named in the suit. So even if we shut the business down, they could still technically have gone after my family’s personal finances.
The pressure was enormous. Eventually my partner moved into an apartment with my wife and me. He would work the phones for HireAHelper from 6 a.m. to noon, then come home and sleep while I would work the phones. Then he would go to a local casino and play poker to make money at night. I took a job as a programmer, and we split all our earnings to pay the bills.
But the despair and pressure were traumatizing. They consumed me. Even when my daughter was born and I should have been focused on such an important moment in my life, I was thinking about some legal motion. My partner and I are both believers. We prayed all the time. There was nothing else we could do.
Eventually the case moved to arbitration, and both parties settled for terms nearly identical to those we initially offered. There is a silver lining in this: The financial pressure really made us productive. Before the suit, we were unorganized and had no framework for making decisions. With the pressure of financing the suit, we had to focus on projects that would have the biggest return on investment and became more adventurous than we otherwise would have been. It also made us better leaders because we had to manage the despair of an entire team. There was one evening when our lawyer gave us the option to take on some paralegal tasks for our case to save money, and one of our employees sat with my partner, wife and me until 3 a.m., unpaid, so that we could avoid layoffs.
I don’t think we would be as successful as we are if this had not happened. The focus we gained enabled us to grow between 60 and 70 percent per year, and today we have 20 employees and $8 million in annual revenue.
Dennis Lee, CO-Owner
Company: Octane Fitness, a maker of elliptical machines headquartered in Minneapolis
Lesson: Protect yourself with insurance, and don’t be afraid.
After several years of running and growing a successful business, we were sued in 2008 by a fitness equipment manufacturer. The plaintiffs claimed we were infringing on two of their patents and demanded damages. The company had secured their patents years earlier and never commercialized them. I was in disbelief—it was all illogical to me.
The big blessing in this case is that we had patent insurance. It can be expensive—$20,000 to $50,000 per year—and we had never needed it in all the previous years we were in business. But legal fees ended up totaling close to $2.3 million. About $600,000 of that was our responsibility. That is not a small number. But philosophically our whole team had a sense that we couldn’t back down and let them win. It was stressful. During the discovery process, I found myself going through every email I had ever sent in the last five years, combing through every document in the house, and our engineers and management team spent countless hours on this process—all time and resources not spent on serving customers or developing new products.
For almost six years, we fought through the case, ultimately winning every step of the way. But the biggest victory was taking our petition for legal fees all the way to the U.S. Supreme Court. After oral arguments on Feb. 26, 2014, the U.S. Supreme Court ruled in favor of Octane Fitness, regarding collecting attorneys’ fees. The real victory here is that the case made it easier for patent lawsuit winners to secure legal fees from the losing parties and hopefully the case has helped to curb unreasonable patent suits.
Despite the cost and stress of this case, it has reinforced my belief that the good guy can win.
Kari DePhillips, CO-Owner
Company: Content Factory, a digital marketing firm based in Pittsburgh
Lesson: Be extra-careful and then consider ways to capitalize on the experience.
When we were just starting out in 2011, we got a letter from an attorney claiming that a photo of Omaha, Neb., that one of our editors posted on a client’s website was copyrighted and we had not obtained the proper license. The letter demanded $8,000 in damages. Despite our keeping extremely high standards about rights, this one had slipped by.
Even though the error was ours, it was infuriating for several reasons. I looked up the photographer and knew that he could not demand $8,000 for a single image, especially since we proved that fewer than 100 people had seen the picture. It was also unfair that we were given no warning to take it down but instead were simply required to pay an arbitrary fee.
We immediately removed the photo and forwarded the letter to the lawyer who helped set up our business. It took three months, $750 in attorney’s fees, and lots and lots of stress. At the time we were just launching, and $8,000 was a lot of payroll. While the lawyers went back and forth, our entire team took a full week to go back and check and double-check all of our previous work. Even though we had strict guidelines in place and were very careful, we thought, If this can happen once, it can happen again. That process cost as much in payroll as the suit itself.
Eventually we settled on paying $3,000 in penalties. I spent a lot of time being angry about the toll this took on our new business. It cost months of rent and holiday bonuses, too. I am not a victim, but the claim was borderline predatory.
That was not the end of the story, though. When it was all settled, we wrote a blog post about the experience as an education tool for our clients. We don’t want any business owner to ever have to go through that. That post is by far our most-visited, and it positions us as experts on best practices. It has resulted in many thousands of dollars in new business.
In the long run, the lawsuit was a profitable experience.