So you’ve come up with an idea for your new startup, but your bank account is down to zero. It’ll be a while before your company starts making money or lands any real investment funds, but you still need to eat. So, you’ve resigned yourself to riding it out at the day job while pursuing your startup on the side.
No worries, this is a common approach to launching a company.
But there is one danger to be wary of—no matter how much legal expertise you’ve built up binge-watching Law and Order reruns, you don’t want to get sued by your employer.
But that does happen. All the time, in fact. And it can often be avoided. But even in cases where it can’t, positioning yourself well can spell the difference between such a lawsuit being a nuisance or an existential threat.
While nothing can make you immune to a lawsuit (well, except maybe becoming president), we have some tips that can optimize your ability to continue your day job, while developing your startup on your off hours.
We’ll help you steer clear of the biggest landmines of legal liability while moonlighting as an entrepreneur.
Avoid a Situation Where Your Employer Owns Your IP
Think back to when you first started your current job. You probably signed a whole bunch of stuff you never read. You figured it was just a bunch of boilerplate and it wasn’t like your employer was going to negotiate it, right? So, why bother reading it anyway?
Well, now’s the time to read it. Carefully. Somewhere in there was almost certainly some contract called a Confidential Information and Invention Assignment Agreement or some very similar name. This is an agreement where you promise to keep your employer’s proprietary information confidential and you agree to assign to your employer the intellectual property you create during your employment.Source
Those intellectual property assignment provisions are typically very broad. The assignment is not limited just to the intellectual property you create at your employer’s direction. Most commonly, you will have agreed to assign all intellectual property you create while you are still employed by your employer, except if all of the following are true:
- You created the intellectual property on your own time;
- You did not use any of your employer’s equipment, supplies, or facilities;
- The intellectual property did not relate to the company’s business or actual or demonstrably anticipated research and development; and
- The intellectual property did not result from work you performed for your employer.
If you are employed in California, these exceptions are mandated by law. Certain other states have similar restrictions, such as Illinois, Texas, and Washington. But even though not required in all 50 states, limitations like the above are common outside the states above.
It is generally the case that the burden is on the employee to prove that the exceptions above apply to their inventions.
What does this mean for you? It means you should make sure you limit your work on your startup to non-work hours. It also means you should not do startup work while you are at the office, nor should you use your work laptop or devices.
And, more nebulously, be careful about choosing a startup idea that is competitive with something your employer does. Why? Because if you do, it is likely that your idea will be deemed to relate to your employer’s line of business or research and development. And, therefore, your employer may be deemed to own the inventions you create for your startup.
This confuses a lot of founders in states like California, which are loathe to enforce non-compete provisions. But remember—non-compete provisions are generally only unenforceable post-employment.
One quick note that’s commonly missed. Your employment agreement may require you to disclose to your employer all inventions you create while you are employed, even those exempted from assignment due to the limitations discussed above. In states like California, that is perfectly permissible—your employer can require this. What your employer may not tell you is that, if they want to require this, they have to keep any inventions you disclose to them confidential. So, get your employer to sign an NDA before you disclose this information to them.
Be Careful About Co-Founding With Current Colleagues
It’s nice to have a co-founder for your startup. And what better place to find someone who you trust professionally than at your current job?
One problem—remember that employment agreement we mentioned above that you never read? Well, it probably has a non-solicitation provision in it, too. What does that provision say? Basically, it says that you won’t encourage any of your co-workers to leave their employment, either while you remain employed or for a specified period after your employment terminates, usually one year.
Why is this an issue? Well, let’s say you and your co-worker begin working on a startup idea during nights and weekends. At some point, you both hope your startup will get successful enough that you can both quit and work on the startup full time. But how does that work? Does one of you suggest to the other one that this is a good time to quit? If so, you’ve violated the non-solicitation provision.
How do you solve this? Well, the best option is to not co-found the startup with a co-worker. But if you do, it is key to make your individual decisions to terminate your employment on your own. The decision to quit at all and the specific dates should be made on your individual timetables, without either of you encouraging the other to do so.
There isn’t necessarily a rule of thumb regarding how long to wait after your co-founder quits before you do or vice-versa. What can be more helpful is having objective criteria to explain why you left at a particular time, in case it later gets questioned. For example, maybe you were waiting to leave until you saved up a certain amount of money for living expenses or until your startup had enough money to pay you some salary. That can help provide a plausible basis for why you would leave your job at a particular point in time.
Avoid Accusations That You Stole Confidential Information or Trade Secrets
It goes without saying that you cannot take your employer’s confidential information or trade secrets when you quit your job. And, of course, you cannot use that information in your startup.
If you have an aggressive employer that is trigger happy in suing former employees who start their own businesses, the first thing they will probably look for is evidence that you stole their confidential information.
What will they look at? Here are some examples:
- Did you email yourself company files?
- Did you transfer files from your company computer to a flash drive?
- Do audit trails from shared storage or network space show that you exported company files?
As I’m sure you are aware, most commonly used ways of transferring files to yourself leave traces that your employer can detect. And, again, this is exactly what they will look for if they are looking to sue you.
Worse, evidence that you did this type of thing will make you look terrible in a lawsuit and is the type of thing that will go far in convincing a court to grant a temporary restraining order or preliminary injunction while a lawsuit is pending. Without getting too far into the weeds, if that happens, your startup will be all but shut down while you defend an expensive lawsuit for months or years.
What constitutes a trade secret or confidential information can be pretty broad. Even otherwise public information can be deemed a trade secret if compiled in certain ways, like in the form of a customer list.
So, how do you avoid this? Well, as tempting as it may sound, just don’t take any company files with you. You shouldn’t be using company devices for personal business anyway (remember, you have very few privacy rights at work). So, you shouldn’t need to export personal files when you are getting ready to quit. That leaves actual work files. Well, those aren’t yours. Yeah, they may be convenient to have for many reasons and the stuff you are probably thinking of taking is innocuous. Doesn’t matter. It’s not yours.
Avoid Conflicts of Interest
OK, so you already know that starting a business directly competing with your current employer is not a smart thing to do while you remain employed. But the line of business you choose can be problematic, even if you aren’t competing with your employer.
It’s not unusual for startup founders to pursue an idea that is complementary with their employer’s business, for example, starting a business that could serve as a vendor for your employer. Maybe you can improve upon a service that one of your employer’s vendors is already providing.
That may be fine in theory, but be careful about how that might infect your current job. It is likely that you will have signed an agreement with your employer to avoid any conflicts of interest while you are employed. Your employer also likely has a conflict of interest policy that you agreed to abide by. Such obligations are not merely contractual—state law may require you to have a duty of loyalty to your employer while employed, even absent a contractual obligation.
What does that mean here? Well, you certainly cannot expect to try to sell your employer on purchasing your new startup’s service while you are employed. That may seem obvious, but what we’ve seen founders try to do is to try to sell the service to their employer while not making it clear that they are involved in the startup offering the service. This can not only get you fired, it can get you sued for violating the conflict of interest guidelines you agreed to when you were hired.
It’s not just selling your service to your employer that can land you in trouble. Conflicts can arise more subtly, through things like trying to sour your employer on a current vendor to privilege your startup.
As an additional note, remember that your confidentiality obligations are not limited to your employer’s confidential information. As an employee, you may get access to third-party confidential information, such as confidential information of company vendors and customers. Just as you cannot use your employer’s confidential information for your startup, you cannot use confidential information of third parties that you get access to as an employee. So, if you are thinking you can build a better mousetrap than one of your employer’s vendors and that is your billion-dollar startup idea, make sure you aren’t using the vendor’s confidential information in the process.
Play it Smart, Protect Yourself
Let’s face it—the easiest way to found a startup is to be independently wealthy from day one. Unfortunately, we do not all have that luxury. But if you are ready to put in the work and forgo some precious hours of sleep, it can be done. Just make sure to keep the above tips in mind. The last thing you want is to waste your time and effort just to end up with a cloud over your intellectual property or being stuck in a lawsuit.
Fortunately, if you honor some careful firewalls, and are smart about how you proceed with your side-hustle, it’s entirely possible to start up a business while working a day job, and minimize your liability as a founder.
Got any questions about the legal pitfalls of transitioning from employee to entrepreneur? Let us know in the comments below and we’ll offer any tips we can.