Intro

For founders, one of the most stressful and frustrating experiences is when an agreement you made with someone is broken. It could be a supplier, customer, co-founder, or employee who broke the agreement, but the result is the same: you relied on someone and now they’ve put you in a difficult position. Perhaps you’ve lost out on business, your IP has been infringed upon, or your business’s function is being threatened. You might be thinking: is it time to sue?

Savvy founders want to and do enforce their rights, and a key method of doing so is through litigation. However, litigation is a significant step to take, so  as founders it’s important to ask not only “Can I sue?” but also, “Should I and what impact will this have on the startup?” 

Founders should consider the following five factors before undertaking litigation. These factors ensure that suing is the smart path to walk and will put the business in the strongest position going forward. 

Factor 1: Merits of Your Claim

Whether or not you have a strong legal claim is crucial to determining if you should pursue a lawsuit, as a weak litigation claim  will only absorb business resources.

Ask yourself the following when considering the merits of your particular claim:

• Do you have a valid and enforceable contract? A written contract is stronger evidence than an oral contract or a handshake deal.
• Can you demonstrate that you performed your own obligations under the contract or justify why you didn’t perform?
• Is the other side’s conduct a clear failure to perform their obligations? Your dissatisfaction or a change in circumstances won’t suffice here.
• Can you prove actual damages caused by the breach? Did you lose revenue, was there an extra cost, or delay, not just annoyance?
• Does the other side have obvious defenses?

Factor 2: Money and Economics

Even if you have a strong claim, litigation may not make economic sense. It’s important to consider the following:

• What is the size of potential damages you may receive? It’s possible that you may not receive much financially for the breach.
• Can the other side be collected from? Even if you win, will the defendant, insurance or their assets actually be able to pay?
• What is your budget for litigation? Legal fees, experts, discovery, appeals, and internal time devoted to the litigation can be substantial and pull your focus away from your operations.
• What will the impact on your runway, credit and investor perception be? If cash is diverted into a lawsuit rather than developing the business your ability to raise may be impacted.

Factor 3: Business and Relationship Impact

In the marketplace, your relationships can be critical to your success and preserving them and your reputation can be paramount. Ask yourself the following when considering the reputational and relational impact of litigation:

• Is the other side a mission-critical partner? Would suing destroy the relationship?
• What signals does litigation send to the market?
• Will this litigation impact future deals?
• What will the significance be of internal distractions to your business?
• What risks to your reputation exist if there is public litigation?

Factor 4: Alternatives

Litigation is a major step and often a serious escalation. There are alternatives to suing that may be a better fit for your situation, when considering a lawsuit consider the following alternatives as well:

• A Pre-suit demand letter. This will test the other side’s risk tolerance, start a paper trail, and potentially prompt a voluntary resolution from the other side.
• Negotiation. A negotiated amendment or work-around to a breached contract.
• Mediation rather than trial. This resolution method is typically lower cost and confidential.
• Contractual or ad hoc arbitration. This process can be faster and confidential while being binding; however, there may be significant financial cost akin to a trial.

Factor 5: Risk, Timing, and Strategy

In addition to the above factors, you should consider the following general risks and issues:

• What’s your timeline/how long can you manage ongoing uncertainty? Litigation can take months or even years to fully resolve.
• What’s your risk tolerance? Litigation is uncertain, trials can result in loss or low damages. 
• Is there a need for the public resolution of a court, or is confidentiality more important?
• What else is happening with the business? Is there a potential raise occurring, or an ongoing merger or acquisition? Is this the right time to litigate?

Founder Takeaway

Litigation is always a big step, and founders should consider all relevant factors before making moves. However, there are times when you either have no choice or the benefits outweigh the risks. At Founders Law, we help founders navigate the contentious and difficult situations that lead to litigation, providing counsel both as lawyers who specialize in startup law as well as corporate litigation. Our goal is to help founders make informed decisions, and when necessary, litigate on their behalf so they can succeed and grow their business.