Lawsuits in Small Business

In opening a small business, an entrepreneur takes on a great deal of stress and risk. Though small business owners tend to overlook it, one of the biggest driving forces behind this stress and high level of risk is often litigation. Lawsuits are a growing hassle for all people and companies, but small business owners are at a greater risk than most. The following statistics paint a clear picture of the current legal environment for small business owners:

  • 75% of small business owners in America are worried that they may be the target of a frivolous or unfair lawsuit (7)
  • Small businesses pay $20 million out of their own pockets per year in tort liability costs (7)
  • An average small business earning $1 million per year spends $20,000 on lawsuits each year (7)
  • Since 1950, U.S. tort costs have grown more than the GDP (7)
  • The Klemm Analysis Group estimates that perhaps as many as 52 percent of all civil lawsuits target small businesses each year (11)

The threat of litigation to a small business is clearly something that should be treated with a great deal of attention and care. The number and size of potential lawsuits that can be filed against a small business owner greatly outweighs the ability of the company to fight back. Large corporations can afford the time and money required in litigation, but a small business owner is typically very limited in these areas. In order to prevent a catastrophe for the company, small business owners must stay informed and take precautionary steps to protect the company from potentially massive damage.

How to Protect Yourself

In today’s litigation-inclined society, it is imperative that small business owners protect themselves and their company from the inside out. A lawsuit can come from any source, including those within the company itself. Small business owners must be aware of the types of potential litigation and the ways in which these cases can be prevented and avoided. According to Patrick A. Fraioli, Jr., litigation can be based on five areas of business (1) :

  • Employment law – This can include sexual harassment, discrimination, and wrongful termination. These cases are very common and any business can be at risk. Small business owners should have a lawyer assess their employment practices and advise them accordingly.
  • Intellectual property (IP) – Business owners can be the defendant or prosecutor in an IP lawsuit. An entrepreneur should consult with an IP attorney in order to protect their own information as well as prevent the unintentional theft of another entity’s intellectual property.
  • Contracts management – As every business holds contracts with other businesses and individuals, contract management is an area of litigation that should be taken seriously. Business owners must ensure that contracts are followed and that any new employees are kept abreast of existing contracts in order to avoid future issues.
  • Electronically stored information (ESI) – This area of business litigation is extremely relevant but entirely preventable. A business owner must hold and follow a document retention policy, which can be selected and implemented with the help of an attorney.
  • Fraud – American businesses lose millions each year to employee fraud, and even more in litigation following the fraudulent events. Due to the high risk involved, internal controls, reviewed by an attorney, are crucial in order to prevent massive losses.

The most important step in protecting a small business is preventive lawyering (1). A small business owner should consult with a lawyer, who can find the “legal time bombs” in the company. By establishing a relationship with an attorney early on, a trust will develop which will allow for future issues to be handled with ease.  However, the selection of an attorney for your small business is a process that should not be taken lightly. In order to be equipped to make the right decision, a small business owner must have all useful information about each individual candidate. This information includes (2):

 

  • Type of law
  • Client base
  • Articles or informational pieces written by the attorney
  • Public opinion
  • State bar association information on good standing
  • Advertisements and quality of advertising
  • Past publicity
  • Special needs of the small business

After gathering this information, a small business owner should take sufficient time to make a decision on a lawyer. This relationship will be long-term and it is important that a trust develop between the attorney and client. Therefore, ample time and energy must be applied to ensure that an appropriate match is made.

 

Insurance Against Lawsuits

For optimum protection, a small business must not only prevent but also insure against the events causing litigation. After having established a relationship and consulting with a lawyer regarding the potential issues a company might face, a small business owner should look into policies available to him/her and select those which are deemed appropriate and necessary. Insurance policies most frequently purchased by small business owners are categorized as either property or liability insurance. Essentially, property insurance covers damages done to the policy holders property, while liability insurance covers damages inflicted on policy holder property or by the company’s products. Property insurance gives owners the opportunity to select what property and losses are covered by the policy. A policy should cover all business assets as well as personal property kept at the business site. Business owners must be aware of the details of a property insurance policy and the manner in which claims are handled and paid in order to ensure the most advantageous use of the policy. Along with insurance for personal and business property, a small business owner can and should purchase liability insurance, which is available in the following forms (3):

 

o   General Liability Insurance will cover “slip-and-fall” cases by paying damages to those injured on company property.

o   Product Liability Insurance is a wise investment, as it will cover any lawsuit in which a customer claims to have been injured by the company’s product. Though required in all but four states, the final option,

o   Automobile Liability Insurance should not be overlooked. Whether purchased for a company car or an employee’s car used for company purposes, this type of insurance is essential to prevent the already high risk of a lawsuit resulting from an automobile accident.

o   Worker’s Compensation Insurance will cover expenses incurred on the behalf of employees. Such costs as jobsite injuries, illnesses, lost wages, and medical expenses will typically be covered.

Though these types of insurances are essential to a small business, additional policies may be needed for home-based businesses. Many home-based entrepreneurs may feel as though a home insurance policy is sufficient, but the following policies will provide supplementary protection (4):

  • Business owner’s policy (BOP) – This is the most inclusive type of insurance available to a home-based business owner. A BOP includes both property and liability insurance, covering such areas as general business liability, theft, and even product liability. This type of insurance also covers the actual structure in which the business is located. Additional and more specific options are also available for add-on.
  • Home office policy – As the best option for a company with only moderate amounts of traffic on site and business equipment, a home office policy is another combination of homeowners and business insurance. A step down from a BOP, this policy includes many of the same covered expenses, with the exception of add-ons for natural disaster.
  • “Business pursuits” endorsement – As an add-on available to a homeowner’s policy, this type of insurance is the least protective option. A “business pursuits” endorsement is only logical for a company that does not have a great deal of equipment and has few or no customers visiting the site of the home-based business.

These types of insurance policies are beneficial and, in some cases, necessary to running a small business. However, a small business owner should take additional steps to prevent accidents or liabilities. Common sense protocol such as installing fire detectors, maintaining backups of important documents, and setting safety rules, among others, will potentially prevent the need to make an insurance claim.

 

What to Do When Sued

Once you receive a summons you must act immediately. It is standard procedure to respond to a summons within 30 days, but do not wait that long to start. The first step is to contact your attorney. If you do not have an attorney, then ask friends or associates for their recommendations. If this method fails, then you can search lawyers.com for an attorney of your preference. Once you have found your lawyer you must inform them of your lawsuit and everything pertaining to that particular lawsuit. The most common suits facing a small business are product quality disputes and billing issues (12). Therefore, it is imperative that you disclose all appropriate financials to your attorney. The more your lawyer knows, the better they can defend you.

Lawyers.com offers a set of steps to follow after having been sued (8):

  1. Consult your lawyer
  2. Make an insurance claim
  3. Maintain confidentiality
  4. Investigate the claim
  5. Determine potential liability
  6. Decide how to respond (settle, admit liability, defend the case)

Additionally, Maxwell Kennerly, referencing Amy Kolz’s article, “The Big Fall,” offers three steps small business owners take that cause the loss of a lawsuit (9):

  1. Breach of contract
  2. Altering facts to fit your attorney’s strategy
  3. Misuse or abuse of legal privileges, such as that between attorney and client

While being sued is something out of our control, the manner in which a case is handled is not. If a small business owner maintains open communication and follows the appropriate steps, a lawsuit can be handled with greater ease.

Alternative Dispute Resolution

Though lawsuits can’t be avoided in some instances, the manner in which the case is handled is up to the parties involved. Litigation is an option, but there are a number of disadvantages associated with it. The following factors may discourage a small business owner from using litigation to solve legal issues:

  • Loss of time and money
  • Unwanted publicity
  • Lack of control

 

If litigation doesn’t appeal to small business owners, other options are available. Alternate Dispute Resolution, or ADR, has been present in United States business cases for over one hundred years. ADR is made up of a number of steps and types of mediation. To facilitate the use of ADR, a small business should understand the following steps involved (10):

 

1)    Negotiation and Facilitation – Ideally, a small business dispute will start and end here. Owners are able to discuss the issue(s), and work out a solution amongst them. At times, a non-professional facilitator is used in order to ensure a fair outcome with minimal issues along the way.

2)    Mediation and Conciliation – When negotiation between business owners does not result in a mutually agreed upon outcome, mediation can be utilized. A more formal process, mediation involves a trained mediator who acts as a neutral party in an attempt to resolve the issue. Initially, a mediator will try to allow the parties to voluntarily reach an agreement. If this doesn’t work, the mediator will then employ conciliation. Here, the mediator makes suggestions of agreements to the parties. Though a more costly procedure than simple negotiation, mediation and conciliation offer more control to the business owners than litigation.

3)    Arbitration – The most similar to a court litigation scenario, arbitration is the next available step in the ADR process. This option includes more extensive and trial-like steps than negotiation and mediation. After viewing all evidence from both parties, an arbitrator makes a decision which is final.

4)    Court Litigation – When all else fails, a small-business owner may need to pursue litigation in court. Though costly and time-consuming, court litigation is often the best option, especially when parties are seeking punitive damages.

While a trial may seem like the only option, these steps within the scope of Alternative Dispute Resolution allow for more freedom and less loss throughout the dispute resolution process. By staying informed of the options, a small business owner can save time and money, and potentially come out ahead in the end.

Resources for Small Businesses

While small business litigation should not be taken lightly, it should not be intimidating either. There are numerous resources available to small business owners, many of which can be found on the internet.

  • FindLaw Small Business Center (http://smallbusiness.findlaw.com)  – Here, small business owners can find a business or commercial lawyer, search information on all areas of business law, stay informed and up-to-date with small business law and regulations, post small business legal questions to be answered by other FindLaw users, and download legal forms
  • Entrepreneur.com Small Business Legal Center (http://www.entrepreneur.com/management/legalissues/index114800.html) – Along with the other benefits available through Entrepreneur.com, the website offers a Legal Center for small business owners. The Center provides how-to guides, business law articles, a Q&A section, and insurance information
  • Lawyers.com Small Business Law (http://business-law.lawyers.com/small-business-law/) – Similar to FindLaw and Entrepreneur.com, Lawyers.com offers a wide variety of resources for small business owners concerned with litigation. From business law articles to FAQ’s and printable documents, Lawyers.com has a wealth of information available. Additionally, extensive information is available about lawyers, including an “Ask a Lawyer” section.
  • The Resolving Small Business Disputes: Six Steps to Successful Dispute Resolution Kit (http://www.innovation.gov.au/Section/SmallBusiness/Pages/SuccessfulDisputeResolutionIntroduction.aspx) – This Alternative Dispute Resolution kit is available online for small business owners. The kit encourages the use of ADR and assists companies with the process, allowing for less expensive and less time consuming dispute resolution.
  • The Hartford Small Business Insurance (http://www.thehartford.com/servlet/Satellite?c=Page&cid=1150850367038&pagename=HIG%2FPage%2FGeneralPage) – One of many options available to small business owners, the Hartford offers a number of insurance policies. These policies come in all forms, and the website details the coverage and benefits of each.

In utilizing these and other resources, a small business owner will expand his/her options. While it may seem intimidating and overwhelming, small business litigation can be easily dealt with if the appropriate preventive steps are taken and communication lines are kept open. With knowledge comes power, and that power will help to see a company through the trials and tribulations that litigation can bring.

 

References

1)     http://www.entrepreneur.com/management/legalcenter/article198352.html

2)     http://business-law.lawyers.com/business-enterprises/Business-Selecting-a-Good-Lawyer.html

3)     http://smallbusiness.findlaw.com/business-operations/insurance/insurance-overview.html

4)     http://www.entrepreneur.com/homebasedbiz/homebasedbasics/legalissues/article38900.html

5)     http://www.americasbestcompanies.com/blog/lawsuits-and-liability.aspx

6)     http://www.manhattan-institute.org/html/miarticle.htm?id=4221

7)     http://facesoflawsuitabuse.org/facts/

8)     http://business-law.lawyers.com/When-Your-Business-Has-Been-Sued.html

9)     http://www.litigationandtrial.com/2009/04/articles/litigation/news/three-ways-to-lose-your-business-lawsuit-wachtell-and-the-failed-hexion-huntsman-merger/

10)  http://www.businessadrcenter.com/adr.html

11)  http://www.washingtonexaminer.com/opinion/columns/Manhattan-Moment/Small-businesses-need-loser-pays-in-court-41410162.html

12)  http://www.missouribusiness.net/sbtdc/docs/youve_been_sued.asp

Definitions

Alternative Dispute Resolution – the process of resolving a legal dispute without the use of the judicial system

Preventive Lawyering – taking action to not only win, but also avoid a lawsuit entirely.

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