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Protect Your Startup From These 5 Common Employment Law Risks

Posted by Early Growth

June 19, 2014    |     5-minute read (962 words)

Why worry about employment law risks when you have enough things to focus on: building your team, getting traction, and lining up funding? Well, as the adage goes, “an ounce of prevention is worth a pound of cure.” Spending some time making sure you have a handle on these 5 significant, often overlooked, areas of business risk will help to significantly minimize their chances of inflicting major damage down the road. If you missed Monday’s webinar with Karen Reinhold of Hopkins & Carley and EGFS’ Chief Strategy Officer Glenn McCrae, you can get the download here.

1) Hiring

There are 3 main areas of risk here: restrictive covenants, compensation arrangements, and confidential information. Having a standard documentation and communication process in place goes a long way toward addressing these.

Restrictive covenants

— Employers often use non compete and non solicitation clauses to retain employees. While non competes are not enforceable in California, if you’re not careful during the hiring process, you could find yourself on the wrong side of a non solicitation proceeding.

  • The right way: Make sure you have written agreements with new employees: disclosing which clauses they are subject to and get their agreement in writing not to breach agreements they have made with prior employers.

Compensation agreements

— A common problem for cash-strapped early stage companies involves agreements to defer salary based on getting funded or on the occurrence of some other contingency. Not only could this practice land you in court, it guarantees an unfavorable outcome because it violates California law!

  • The right way: Structure payments as a bonus plan with clearly defined terms and conditions to be met. This avoids giving employees rights that they could pursue in court in the case of non-payment.

Protection of confidential information

— It’s not enough to have employees sign NDAs. Your success in getting redress if an employee leaks confidential information hinges on demonstrating that you took appropriate steps to properly safeguard your information. See my post on NDAs for more color.
  • The right way: Stay away from all-encompassing or vague descriptions of what is confidential. Put documentation and a communication process in place during on-boarding. And assign a point person for tracking.

2) Distinguishing between independent contractors and employees

— There are specific legal tests to distinguish between the two groups, but it really comes down to whether you control the manner and means of their work. If you do, then they are employees. The classification has legal as well as tax implications and both the IRS and California’s Employment Law Department are increasingly focusing (and levying penalties!) on violators.

  • The right way: Assign correct classifications, use appropriate tax and other compliance forms, and review your designations annually.

3) Categorization of exempt versus non exempt employees

— This potential minefield is one that early stage companies often do not give enough attention! Make every effort to get this right the first time. Even a little bit of time spent on the front end can significantly mitigate risks. Changing categories later isn’t easy, raises serious red flags, and may leave you exposed to a host of unpleasant outcomes including litigation, fines, and penalties.

The 2 requirements for categorizing an employee as exempt are that he or she is paid on a salary basis and performing a category of work classified as exempt under state and federal law. Non exempt (hourly) staff are entitled to rest and meal breaks as well as overtime pay. There is also a specific exemption for computer programmers; but be careful: they need to be doing certain types of work and receiving a minimum annual salary (about $84,000) to qualify.

  • The right way: Set up and regularly monitor a simple employee classification system. Then as you’re on-boarding new employees, think through their duties and make sure you’re placing them in the right categories.

4) Protection of confidential information

— Trade secret laws are all predicated on you and your company taking appropriate steps to keep proprietary information confidential. As I mentioned above, if you haven’t done that, you forfeit legal protection.

  • The right way: As with on-boarding, your exit process for departing employees/founders should include having them provide an affirmation that they understand the agreement, a process for them to return confidential information (checklists can help organize this), and getting their sign-off.

5) Written policies and procedures

— Make sure you have clearly communicated policies covering these 4 areas:

  • Anti-harassment (include a reporting mechanism and complaint process)
  • Equal employment opportunity and Non-discrimination
  • Meal period and rest breaks for non-exempt employees
  • Computer, PDA, and Social Media usage (a good policy should state that employees have no expectation of privacy and designate who is allowed to make official statements for your company).
  • The right way: make sure you put these 4 in writing, then post or distribute them to employees. And set up a system (hard copy sign off or electronic) to provide employee confirmation of receipt.
Of course, there’s no way to avoid all risks, but paying attention to these 5 biggies will save you time, money, and resources down the road.

What was the source of your biggest unanticipated risk? Tell us in the


section below or contact 
Early Growth Financial Services for a free 30 minute financial consultation.

David Ehrenberg is the founder and CEO of Early Growth Financial Services, an outsourced financial services firm that provides early-stage companies with accounting, finance, tax, valuation, and corporate governance services and support. He’s a financial expert and startup mentor, whose passion is helping businesses focus on what they do best. Follow David @EarlyGrowthFS.

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