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Potential Pitfalls for Startup Founders

Business insiders and investors are well aware of the astronomical sums that have been paid to purchase many high-tech startups recently. Judging by the headlines, it seems as if a minimum of $1 Billion is standard for acquiring any hot new mobile app these days. Just look at Facebook’s acquisitions of Instagram (roughly $1 billion) and WhatsApp (approximately $19 billion). $1 billion also seems to be the baseline valuation figure for any new “successful” . Those companies currently, or projected to be, valued over the $1 billion mark include Pinterest, Snapchat, Airbnb, Evernote, Uber, Spotify, Dropbox, and Tinder.

With dollar signs swirling in their eyes, many individuals with an idea for an app or a revolutionary new service are often confronted with the stark reality that the vast majority of tech startups–fail. For every Instagram, there are a thousand other app ideas that failed to even get off the ground. But for those who have gotten past the initial stages of developing their vision and believe they are on the cusp of becoming Silicon Valley-rich, many risks lie in wait. If the internet tycoon-in-training is not careful, these potential dangers could derail not only the success of the company but the inexperienced entrepreneur’s control and ownership of the business.

Startup founders need to be mindful of competition and be wary of the other individuals involved in the early stages of the company’s development. One founder may think that he or she can completely trust {his, her} other co-founders in the app set to launch with sky-high expectations for growth and success (after all, they came up with the idea together as roommates in college). However, companies like Tinder and Snapchat have recently learned the hard way that setting roles and expectations for early employees and founders is vital to protect the company and all parties’ interests in the future.

On September 9, 2014, Snapchat announced in a press release that it settled a lawsuit brought against CEO Evan Spiegel, CTO Bobby Murphy and Snapchat, by Reggie Brown, a former fraternity brother of Spiegel and Murphy. Brown claimed he came up with the initial idea for the app, which enables users to send photos and short videos that vanish from devices and servers after a short time, and that he was then shut out of the vast riches the company has pulled in.

Coincidentally, the mobile dating app Tinder also settled a lawsuit brought by an early employee, Whitney Wolfe, only one day before Snapchat’s announcement. In the Tinder lawsuit, Wolfe claimed that her fellow co-founders, Justin Mateen and CEO Sean Rad, sexually harassed her and discriminated against her before stripping Wolfe of her co-founder title and firing her.

Both settlements were confidential, but judging by the gargantuan net worth of the two companies and the claims made by co-founders, presumably entitled to equal equity shares in the companies, the settlements were most likely substantial. These settlements serve as a cautionary tale for those looking to get into the tech startup industry. Having an idea and the know-how to create a popular app or service is not enough. To protect the company and the interests of all founders, serious discussion regarding roles, control, ownership, and credit must be undertaken. It is also imperative to have an operating agreement or bylaws from the early stages of the entity’s formation, which lays out the expectations and framework for the business moving forward.

But a poorly drafted operating agreement or bylaws can be just as damaging if someone believes that their interests are not protected. Therefore, it is highly recommended that all founders meet with an attorney together when they decide to draft their incorporating documents so that all can be on the same page and expectations are memorialized with input from all. And when someone comes into a new venture after the entity has been formed, a review of any contract, member agreement, or shareholder agreement by a business attorney is critical to ensure the preservation of their interests at the time of signing and well into the future.

Because as we are all aware, money (or its prospect) makes people do strange and unexpected things. This notion applies to venture capitalists, savvy business investors, and your best friends and family.

If you or your business is looking to take the next big step, contact the seasoned and experienced attorneys at The Jacobs Law, LLC to help ensure that your business and your interests are protected now and into the future.


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