Entrepreneurs tend to talk about the glory moments. You know… about raising millions of dollars from investors or selling their companies.
Sadly, there isn’t much you can learn from those glory stories, which is why I rarely discuss them. Instead, I focus on sharing my mistakes because if you can avoid making the ones I made, you’ll increase your chances of succeeding.
One of the toughest parts about my entrepreneurial journey very few people know about was spending a year fighting a class action lawsuit (it’s just a fancy word for multiple lawsuits combined into one) and the Federal Trade Commission.
Before I get into what I learned, let me give you the back story…
Over five years ago, my co-founder and I started an analytics company, KISSmetrics. Our goal was to help companies increase the lifetime value of their customers.
When we launched, we had no competitors. Through our network, we were able to land a few big accounts like Amazon and Microsoft as well as large startups like Hulu and Spotify.
The business was growing at a healthy pace. During this time, we raised only $4 million dollars, and my co-founder and I still owned a large chunk of the company.
Due to our frugal nature, we weren’t losing much money each month, and we still had over a million dollars in our bank account. With our growth numbers, it was looking like we were going to break even while still having over $750,000 left in the bank account.
But then the negative press started to hit…
The Wired Magazine article
In July 2011, Wired Magazine wrote an article talking about our practice of placing undeletable cookies on people’s computers. More specifically, they were discussing our flash cookie technology, which helped us track people across multiple devices such as web, mobile, etc.
A lot of other sources picked up the article such as the Wall Street Journal, New York Times, ABC TV, Inc Magazine, Boing Boing, Huffington Post, and dozens of other large publications. Some of these media properties claimed we were sharing data among customers and breaching privacy laws.
Within a few days, we were notified that we are now in a class action lawsuit. To make matters worse, they dragged 20 or so of our clients in the lawsuit, and lawyers were going after them too.
Flash cookie technology
My co-founder and I aren’t technical. We both have business backgrounds, which means neither of us knows how to code. Nonetheless, whatever happens in our company is our responsibility, no matter what.
The flash cookie stuff wasn’t a core part of our technology, and one of the main reasons we were using it was because it saved us money. When your hosting bill is in the 6 figures a month and you are a startup, you do whatever it takes to reduce your costs.
Using this technology helped us reduce our server costs. Once the article hit, we did stop using the flash cookie technology as it wasn’t a core part of KISSmetrics.
Dealing with insurance
One of the best things I learned from raising venture capital is that investors require your company to get insurance. The three main policies they have you buy each year are:
- Errors and omissions insurance – this covers any errors you or any of your employees make within the company. So, if someone sues you, they step in, kind of like your car insurance.
- Board and officers liability – this insurance covers your board as well as investors.
- Life insurance – if you die, the company will inherit the money from your life insurance policy.
When most people buy insurance, they look at the total coverage amount and forget to look at the fine print. And that’s what we did too… We made sure we were covered for millions of dollars, but we didn’t pay attention to the fine print.
Our insurance company was a subsidiary of Berkshire Hathaway, and they provided us with a lawyer. The only issue was they picked a lawyer who was affordable and had little to no experience in web-related matters.
Naturally, we wanted to pick our own lawyer… with more web experience. Luckily, we had great mentors and investors who helped us find the right law firm, Gibson Dunn, who specialize in privacy-related legal matters. They appointed a lawyer by the name of Ashlie Beringer, who is currently deputy counsel at Facebook.
That’s when we faced another set of problems. The legal fees ranged from $700 to $1,250 an hour, but the insurance company wouldn’t cover them. Why? Because we didn’t read the fine print, which prevented us from choosing our own counsel.
The big lesson I learned here is that when you are dealing with insurance providers, make sure your policy is flexible enough to allow you to pick your own attorney. The insurance company’s goal is to spend the least amount of money, which means the lawyers they appoint might not be your first pick.
First mediation meeting
Before things go to court, you typically go to mediation to try to settle your lawsuit out of court.
During my first mediation meeting, I faced 4 lawyers suing us (they were combined into one case, hence the name “class action”) as well as 20 of my customers. We were represented by the lawyer the insurance company provided us with and by the lawyer we hired to represent our company. To top it off, a lawyer representing Berkshire Hathaway was also present, whose goal was to save the insurance company money.
During our first meeting, I learned that the insurance companies are extremely smart… if they weren’t, Berkshire Hathaway wouldn’t be a 300-billion-dollar company. They have clauses in your insurance contracts stating you can’t assign over your insurance policy to the people suing you, which means you have to fight the lawsuit instead of just having the insurance company cough up the settlement money.
And because they knew we were paying for our own lawyer, who was more qualified than the one they provided, they wanted to drag this process out as long as possible to minimize their own expenses.
Once the first mediation meeting kicked off, I realized the lawsuit wasn’t going to be settled that day. Instead, this whole process got dragged out for over a year.
Lawyers are smart
A class action attorney’s job is to go after the money. No matter what they say, they are just looking for money because if they win, they get paid, and if they don’t, they walk away with nothing.
I’m not saying the lawyers we were going up against offered us this, but in general, when you are sued by your clients, lawyers will typically let you go free and clear as long as you sign a piece of paper saying they can go after your clients without you getting in the way.
A lot of my friends were put in this position when their businesses were facing class action lawsuits, and I knew going into the lawsuit that I wasn’t willing to do anything like this. From an ethics standpoint, it didn’t feel right, which was why I was willing to do whatever it took to protect my customers. So, I sold all of my assets and moved back in with my parents.
Lawyers would rather have you out of the picture to have the freedom to go after your customers because they make more money going after Fortune 500 businesses than startups.
I am not saying the people suing us tried to pull any of these tricks. I am just trying to prove a point that lawyers are creative.
Federal Trade Commission
Within three months of the mediation, I got a phone call from the FTC. They stated they were investigating us and recommended we get legal counsel.
I didn’t know what to expect as this was new territory for me. I’ve dealt with lawsuits before, but never with government-led investigations.
Although the government moves really slowly, the people I dealt with were friendly and easy to work with. They don’t want to shut down businesses or go after you personally (assuming you did nothing wrong). They just want to protect their citizens.
The FTC wanted to make sure we weren’t sharing data, which we weren’t. They, of course, didn’t just take our word for it. They investigated us fully. During their investigation, they had to borrow some of our team members to answer specific questions, which slowed us down from a product development standpoint. But again, they were understanding.
I also recall them asking us to do specific tasks, which would have required all our engineers to stop their work and would have led us to lose a lot of revenue. Once we explained that to the FTC, they came up with solutions not detrimental to our business.
They were also respectful of our clients and their data privacy rights. They didn’t want our customers’ data. They just wanted to make sure we were following the law.
We had to spend hundreds of thousands of dollars in legal fees just to deal with the FTC, but once they found we weren’t doing anything harmful, they stopped the investigation and let us proceed with our business.
Buyers hate legal messes
Any startup that is growing fast and has a unique technology generates interest from potential acquirers.
Most of the acquirers that approached us weren’t ready to pull the trigger. They just wanted to learn more about the business. These companies tended to be publicly traded. For a publicly traded company, acquiring a company dealing with legal issues and an FTC investigation is a big NO.
Because they take on any liability you have, which affects their stock price in a negative way. In essence, it’s too much of a risk.
So, if you are in a lawsuit, don’t waste your time talking to potential suitors or trying to raise venture capital as no VC wants to invest in a company dealing with legal issues. Instead, focus your time and energy on growing your business.
Negotiating with insurance
If you ever get sued, you will learn that the lawyers suing you want it over with as fast as you do. It makes sense: the more it drags on, the more time they spend without receiving a dollar.
In essence, they are trying to maximize how much money they make per hour, which means they want to settle quickly.
Assuming you have insurance, it’s cheaper for you to settle than it is to fight it in court as the insurance company typically pays for the settlement.
Now, the insurance company doesn’t want to spend money, so you have to do a few things to get them to move:
- Let it drag out – don’t expect the insurance company to settle right away. If you drag things out, they end up spending money on legal fees, which puts more pressure on them to settle.
- It’s all about giving and taking – the insurance company isn’t required to cough up money and settle unless the judge tells them to. But with mediation, there is no judge. You have to deal with the lawyer representing the insurance company. A quicker way to get them to cough up the money is to have your company pay 10% to 20% of the settlement fee and have the insurance company cover the rest.
I spent a bit more than 12 months dealing with lawyers, spending tons of time in mediation rooms, while trying to grow a business that was generating bad press.
In the end, not only were we able to get through it all, but we were able to grow and improve the business. Here’s what I’ve learned from this whole experience:
- Be transparent with your team – as we were going through this legal situation, we kept each of our team members up to date. They appreciated the transparency, and we lost no employees during this whole ordeal.
- People forgive and forget – one day, you’ll have a ton of negative press and dozens of people calling to yell at you each day. And the next day, everyone forgets. Why? Because someone else will have the spotlight. Don’t try to fight negative PR. Just keep your mouth shut, and let things pass when possible. And trust me, they will pass. The more you respond, the more fuel you add to the fire.
- Only one person should be dealing with legal issues – within our company, I was the only one dealing with the legal issues. For this reason, the rest of the team and my co-founder were able to focus on the business, which allowed us to keep improving our product and to grow.
- Focus on revenue – whether you are in a lawsuit or not, the one thing people value is a company that is growing financially. By continually focusing on product development, marketing, and sales, we were able to grow our revenue. This allowed us to stay in the game.
- You have no excuses – when life hands you a lemon, you should be making lemonade. No matter how bad of a situation you are in, you can’t give up. Keep fighting, push forward, and execute. Don’t focus on the negatives. Focus on how you can keep improving.
Don’t look at lawsuits or any obstacles that come your way as a negative thing. Instead, see them as a learning experience. They are just roadblocks that you will eventually run into as your company gets larger.