THOUGHTS OF A MAJOR LAWSUIT KEEPING YOU UP AT NIGHT?
Here's How to Sleep Better
by G. Edward Arledge Esq., San Diego
Unless a small business is very careful (some might even say lucky), it
can expect to face a major lawsuit some time during its first five years
of business. And the more successful the business, the greater the
likelihood of being sued.
Small business should pay particular attention to the following areas of
their business which are "litigation sensitive."
RELATIONSHIPS WITH INVESTORS
One of the worst things that can happen to a company is to have a
minority shareholder who is unhappy with how the company is being run
and have no way to force him to sell his shares back to the company at a
fair price. This situation can foster a devastating lawsuit by an
unhappy investor. A shareholder agreement or a partner buy-out agreement
can avoid this problem and give the company the right to buy-out an
investor. Without an investor buy-out agreement, there is virtually no
way to eliminate an unhappy investor at a fair price.
Observe the securities laws scrupulously when raising money. Failure to
do so will invariably result in an investor obtaining the upper hand if
and when the investor sues the company. The only way to have a good
understanding of securities laws that apply to money-raising efforts is
to consult a legal advisor prior to soliciting money from everyone --
including friends and relatives.
One of the worst shocks a small business can receive is a lawsuit or the
threat of a suit alleging that the company should stop using its name.
Do your homework to ensure that you have the right to use the name of
Simply filing a fictitious name statement or incorporating the business
does not give you the unquestioned right to use a name. A trademark
search is the only way to be sure a particular name is available. These
searches and the legal review associated with them generally cost less
After the search, consult your legal advisor to determine whether or not
you should attempt to register the name with the U.S. Patent and
Trademark Office. Loss of name identification and costs associated with
it can ruin a small business.
Without a doubt, employee-related litigation is the most prevalent type
of litigation faced by small businesses.
Every small business should have a definitive employee handbook that
contains all essential employee issues, such as the employer's right to
terminate employees, maternity-leave rights, confidentiality, sick
leave, vacation, sexual harassment, etc. The owner and each manager
should be intimately familiar with the rights of employees in these
Even when a business has only a few employees, management must
understand all employee rights. If you comply with the handbook and the
rules regarding employees' rights, employees should be discouraged from
suing you, or you should have the upper hand if they do. Consult your
legal adviser before terminating any employees.
SELLING AND BUYING PRODUCTS
Whenever you sell or purchase products, use comprehensive purchase-order
forms tailored to your business. These purchase orders should be
carefully reviewed and drafted by your legal advisor to ensure that they
provide the maximum protection in the event of litigation. Standard
purchase and sale contracts should be used only with great caution. The
only thing standard about any "standard" document or agreement is that
it is probably designed to take advantage of you in a very standard
Each business is unique. Few, if any, "standard" forms or agreements
ever provide the same protection s one tailored to fit a particular
Purchase orders for buying are as important as those for selling. Many
items can be included in the purchase or sale orders that will
substantially improve the chances of success if a business must pursue a
claim in court to collect for products sold or must defend against such
a claim. Simply having a good purchase order can often discourage a
lawsuit from being filed. Typical provisions that would be covered are:
* Warranties -- What kind of warranties are you giving? The law implies
certain warranties on the sale of all products unless they are
disclaimed in a particular manner.
* Attorneys Fees -- Under California law you generally are not entitled
to attorneys fees when you collect a debt unless they have been
agreed to in writing.
* Risk of Loss -- Who suffers the loss if the goods are destroyed or
lost during shipment?
* Payment -- What are terms of payments, late charges, etc.?
BE REASONABLE ABOUT LITIGATION
Litigation exists primarily for the purpose of collecting money or
protecting a business -- not to prove principles. Small businesses exist
solely for the purpose of making a profit, not for the purpose of
defending a principle or setting things straight. Never become involved
in litigation because of the principle of the matter.
Settle a dispute and go on with your business. In addition to the hard
dollar cost of litigation, it's time consuming and likely to have a
disruptive effect on your business. The other party could choose to go
over your records with a fine-tooth comb or tie up your employees in
endless hours of depositions. Although these costs are not tangible,
they can have a devastating effect on a small business.
LAWSUITS BEST AVOIDED
As a general rule, it is in a business' best interest to avoid
litigation or reach a quick settlement if sued. There are always two
sides to every story and, if you file a lawsuit, the person you sue will
probably file a lawsuit against you. Be cautious of anyone who says your
business will be a clear winner in a lawsuit without any risk of loss;
have your case evaluated by a second source.
It is very easy to file a lawsuit. The complaint is fairly inexpensive
to prepare, and the filing fee is only a couple of hundred dollars.
However, once the lawsuit is filed, it's virtually impossible to get rid
of without the other side's consent or without exposing yourself to
Should you find yourself faced with the prospect of litigation,
carefully explore the alternatives of arbitration or mediation; these
alternatives are often faster and cheaper and provide less exposure for
the business. And, if you do find yourself involved in litigation,
whether it be as the plaintiff or the defendants, good luck -- you're in
for the experience of a lifetime!
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