Over the past decade, several articles have been written focusing on the rise of Israeli startups and entrepreneurs who have succeeded in bringing their company to Unicorn status. On the contrary, during the recession and in the economic courts, the dark side of start-ups is rarely revealed and is far from reaching newspaper articles. During economic downturns such as the one we are currently experiencing, the struggle for scarcity of resources such as capital is leading to an increase in the number of lawsuits filed in court. Instead of focusing solely on raising money, it is essential that both entrepreneurs and investors prepare for periods of economic crisis. Both the legal and the financial side will often determine the success of a company and in the initial stages of development, a solid agreement will prevent many difficulties, if and when they arise.
The value of the company is a significant and major problem in technology companies, especially in early stage companies that are suing.
Explaining the economic “damage” to a private start-up investor is perhaps the most difficult challenge in the economic court. Other challenges include determining the value of a start-up that initially started with zero revenue. With regard to public companies, there are other challenges, such as deciding whether the technological or clinical development of a company has contributed negatively to the share price or is something externally unrelated to its activities. Ie should the decision be made in another way and if so, what will be the economic damage from this? Unlike “classic” companies, technology companies have various problems, mainly due to the element of uncertainty inherent in start-ups, in addition to their unique mechanisms such as SAFE recruitment or technological complexity that affects the development of a company.
As a general rule, conflicts with public, private, small and large technology companies can be classified into three groups:
Claim for damages to shareholders
Legal disputes in which one of the parties wants to “cash in”, whether it is one of the founders or investors.
Claims regarding the company’s operations such as recruitment or unsuccessful business development activities.
One example of this is the Teva case. The company has been sued several times for its involvement in the US opiate affair. In addition, a class action lawsuit is currently pending in Tel Aviv. To clarify this, Teva was sued for hiding information from the public known to the company’s management, but did not report to the market in real time. The lawsuit focuses on the economic damage faced by shareholders, as well as the drop in share prices created as a result of the company hiding information from its investors.
On the financial side, it is necessary to assess the damage caused by creating an analysis of events in connection with the change in the price of shares in relation to what is happening in the market. The Teva case is not unique, and in fact there are many companies that have been sued for their business, technology or clinical activities, even if management sees it as the right decision at the time.
Another example is Purple Biotechnology; a dual company also traded on the Nasdaq. Its investors sued Teva for raising capital in the Nasdaq a few months before the results of a significant experiment were published. The lawsuit emphasizes why the company did not wait for the publication of the outcome of the process and only then raised capital. In this case, if the results were good (as it was in the end), the cost of recruitment could potentially be higher, and if experience does not show good results, why recruit at all? It is not necessary to go into details here, but it is important to understand the consensus and several statements on the capital market of technology companies regarding the business, technological and clinical activities of companies.
Even among non-technology companies, there are financial claims, the main purpose of which is to assess the damage to shareholders due to alleged concealment of information by shareholders. For example, a few months ago, TASE-traded company Ofer Lewinsky reported an optimistic report on winning a real estate project. Shares rose after the information was published and the company managed to successfully raise bonds. After a few months, however, the company clarified that the information was too optimistic. The shares reacted accordingly with a decline. In this case, the damage was inflicted on both the bondholders and the shareholders who may have purchased it at the time of the positive reporting.
From this we learn that periods of economic crisis increase the number of lawsuits, especially among technology companies, where the element of uncertainty is more significant. That is why it is extremely important for investors and entrepreneurs to always prepare for even more difficult days and to understand the risk as well as the investment potential of technology companies.
Dr. Tyran Rothman, vice president of Frost & Sullivan, is also an expert in the economic court.