A Classic Startup Horror Story

This sort of scenario is unfortunately very common. The antidote is never to allow acquisition talks to be the main thing you're focusing on. We advise startups who get approached by acquirers to treat it as a background process, and not to take things seriously until the very last stage. If acquisition discussions are just a side show, you can easily terminate them if anything goes wrong. Which, interestingly, probably decreases the chances of things going wrong. M&A guys can smell it when you really want a deal, and that makes them want it less.

All is not lost, and the start-up shouldn't despair, for a couple of reasons:<p>1. It's not unknown for acquisition deals to get put on the back burner for a while, even a year or two. That happened to my former company when it was acquired. (This history was publicly disclosed in my company's proxy filing with the SEC [1].)<p>2. The Company's lawyers are likely to tell them, forcefully, to be very careful about trying to redevelop the technology, precisely because of the NDA.<p>Suppose that The Company didn't use completely different people (a "clean room" approach) to redevelop the technology. In that case, a jury might not believe they really did it independently.<p>In a somewhat-similar situation in the mid-1990s, Rockwell International got tagged by a jury for almost $58 million for breach of an NDA with a small start-up company concerning circuitry for improving data transmission rates over analog cell phones. (Disclosure: I was co-counsel for Rockwell at the trial.) [1]<p>(To be sure, The Company's engineers and executives might well convince themselves that they really did redevelop the technology independently, without using the start-up's confidential information. That could make it difficult to settle the case: The important decision makers might sincerely believe The Company didn't do anything wrong.)<p>[1] <a href="http://google.brand.edgar-online.com/displayfilinginfo.aspx?FilingID=4002636-972-537833&#38;type=sect&#38;TabIndex=2&#38;companyid=5687&#38;ppu=%252fdefault.aspx%253fcompanyid%253d5687" rel="nofollow">http://google.brand.edgar-online.com/displayfilinginfo.aspx?...</a><p>[2] Celeritas v. Rockwell, <a href="http://www.ll.georgetown.edu/federal/judicial/fed/opinions/97opinions/97-1512.html" rel="nofollow">http://www.ll.georgetown.edu/federal/judicial/fed/opinions/9...</a><p>[edited]

<i>We are a company without the cash to try to enforce the NDA</i><p>Then why disclose your trade secrets under such terms in the first place?<p>On busy streets, I sometimes see an attitude amongst pedestrians, who like to casually jump in front of cars as soon as their light turns green. Their thinking is that <i>they have the right to cross</i>. There's a sense that drivers are under pressure <i>by law</i> to keep you safe, otherwise they'll be in trouble and people tend to mistake that as some sort of immunisation against accidents.<p>But what if you get hit? Is the law going to give you back your legs?<p>I think the valuable lesson here is that, even if the law protects you and provided you can afford it, there's no substitute for prudence.

This is also a classic bigger-company horror story -- when the developers who said "this isn't so hard, we can do it ourselves" start working on it and run into all the tiny little gotchas that aren't evident in due diligence.<p>Maybe I've just been exposed to a weird sample, but I've heard 'we can do it ourselves' at least a half-dozen times over my career and not once has anyone actually done it themselves.

&#62; <i>“If you agree to these terms, we have a gentlemen’s agreement that you’ll stop talking to other companies?” ... We agreed.</i><p>It turns out that's an intelligence test: Anybody worth having a gentlemen's agreement with would be gentlemenly enough to put it down in writing.<p>The correct answer is: Put it in writing.<p>Edit: NDA's are another intelligence test btw. All of the entanglements without any of the enforceability.

Something doesn't smell right with this story. If a big company clearly breaks a contract, there's money to be had and the lawyers will work on retainer. NDAs are legal agreements. They can include terms that prohibit the creation of a similar product for a length of time.<p>My favourite snippits are: "We shipped some amazing new products" and "Our systems handle load today that they wouldn’t project to have until 5 years from now, all on a minuscule startup budget". Shipping is easy. Selling is hard. And building something that scales to (optimistic) 5-year (!) projects seems like premature optimsation to me.

Worked for a start up that was in an extremely long period of due diligence with a big company you've heard of. The big company was giving our company money to meet payroll, so they knew our piggy bank was empty.<p>Big company says thanks but no thanks. We all get laid off by the start up at lunch time. That afternoon our company lets it be known that they'll be filing a law suit asking for damages of a billion dollars (a similar company had recently sold for several hundred million and it was the dotcom boom days - a billion sounded not entirely insane).<p>Big company has a change of heart late that night and decides to buy us for tens of millions of dollars. People called and told to come in to the office in the morning - the day had been saved!<p>The next morning everyone was fired by big company and the little startup was shut down. Ooops.

The key for a successful negotiation is to have leverage. In this particular case, it looks as if the founder of this startup needed the acquisition to happen. Otherwise, when The Company refused the official term sheet, or when they noticed any other smelly things down the road, they could've halted until that detail was sorted out, or even canceled the negotiations.<p>The conclusion in the last paragraph of the (highly enjoyable, btw) story goes in this direction, but it's a bit optimistic: <i>the real lesson learned is this: get your business to a level of success where you don’t care if the deal falls through. Get profitable. Get such amazing user growth you have investors begging to put in money</i>. Well, I wish it was that easy!

This happens all the time, even for acquisitions which <i>eventually succeed</i>. Eric Sink sold his company to Microsoft and mentioned at the BoS 2010 conference that the deal status was "Totally dead: neither party will take any more action regarding this opportunity" two separate times prior to them finally doing it.

You know, I started to get suspicious around the time I read the phrase "gentleman's agreement". I can't think of any <i>good</i> motivation a person could have for wanting such a thing aside from the fact that the lawyers haven't drawn up a contract yet.

That's not a classic "Startup" horror story. That's a classic "Built to Flip" horror story. One of many reasons why selling is not an desireable business-model strategy.

<i>If you agree to these terms, we have a gentlemen’s agreement that you’ll stop talking to other companies?</i><p>Hint: This is when you say I can do that for X months in exchange for Y breakup fee if this deal falls though.<p>PS: You can still increase Breakup fee's later in the process, but this is little reason to stop talking to stop considering other offers without being paid to do so.

I don't understand why they didn't try to fight this based on the NDA or no-use. Wouldn't a good lawyer be willing to take this on retainer, if they could prove their tech was being ripped off despite the legal protections they signed going into the deal?

Dude, seriously, this isn't helping anyone unless you give some clues allowing people to figure out who The Company is.

There's a non-zero possibility that the engineering org did report back to the CEO that they could build it.<p>I've many a large company M&#38;A scuttled due to NIH syndrome from engineering. And almost always they massively underestimated the effort needed to build something (including whether they had the talent or not).<p>I know of atleast one case where it has resulted in long term serious strategic harm for BigCo when they refused to do a small acquisition (single digit seven figures) because of exactly this scenario.

OK, I dont know much about start ups (I lurk here because of the quality of stories and comment), but here in the UK what I see often are start-ups who seem to rely on the idea that they will run at a loss, often large loss, in the expectation that they will either float or get bought up, rather than perusing a model where the start-up can be profitable on it's own. I've worked for a couple during ye olde dot com boom!!!<p>OK, I understand that model and I can see the sense in it, but does it not set up a situation where the start-up is so dependent on some one buying them up that they can get over keen once potential buyers circle, resulting in them becoming vulnerable to the iffy behaviour of bigger businesses.<p>Seems to be a critical point in the business, where the founders can run in to trouble, for reasonable human reasons. Perhaps some sort of help is required in this area?

The submitted link goes to the second page of the article. Here's the first page: <a href="http://venturebeat.com/2012/02/27/a-classic-startup-horror-story-the-ma-bait-and-switch/" rel="nofollow">http://venturebeat.com/2012/02/27/a-classic-startup-horror-s...</a>

Having seen a startup in Austin, TX go through this same kind of thing, I would guess its more common than the author makes it sound here.<p>The best defense is to build a technology that isn't cheap to reproduce. There is no better moat than killer IP.

if you want it to not happen again, you have to name names. otherwise, there's no downside to this company.

All good reasons for NOT sharing your startup's IP with prospective partners, not with their CEO, not with anyone.<p>This story could have been written about GO's negotiations with Microsoft almost 2 decades ago. When MS shined-on GO their lead in the tablet market, and many, many jobs, were lost.<p>We must remember that large Corporations are looking out for their own interests in ALL cases, recognize when they would benefit by putting us little guys out of business, and act accordingly. If they won't buy us without a detailed look at our IP so be it.

Luckily, the acquiree knows that "It doesn't look so hard, we can build it ourselves" is almost certainly a mistaken belief on the part of the acquirer. I've found that any system, no matter how complicated, when explained by a competent engineer who knows the system well and is a good communicator, sounds "not so hard, I could build it myself". I have to remind myself that it is probably hard, and I could probably not build it myself for less than the cost of the acquisition.

This link goes to the second page of a two page story.