‘Careful who you get into bed with’: Sleeping Duck case rocks start-up sector

Mattress maker Sleeping Duck’s legal victory over serial entrepreneur and investor Adir Shiffman has shone a light on the importance of a productive founder-investor relationship, and just how messy things can get when that relationship sours.

Melbourne’s Supreme Court last week ruled against Shiffman, who had sued Sleeping Duck alleging he had been frozen out of the company and “oppressed”, having been effectively left out of key product and marketing decisions.

Sleeping Duck co-founders Selvam Sinnappan (left) and Winston Wijeyeratne.Credit: Daniel Hartley-Allen

Those claims were dismissed in a decision by Justice Jim Delany that offered a rare glimpse into how the start-up sausage is made. The text messages, emails and evidence tendered to the court show how ugly a situation can become between a company’s founders and its shareholders when they’re no longer on the same page.

“Be careful who you get into bed with,” is how one unnamed investor puts it.

The whole ordeal was akin to a real-life episode of Shark Tank, to a degree that some of those involved say they can no longer stomach watching the business reality TV show.

Shiffman launched the Supreme Court case against Sleeping Duck co-founders Selvam Sinnappan and Winston Wijeyeratne in 2021, arguing he was entitled to a 20 per cent shareholding. He said the pair had frozen him out in favour of a fellow minority investor, Prateek Bandopadhayay, who received shares and diluted Shiffman’s stake.

Shiffman, who is based in Melbourne and is currently the chairman of sports tech firm Catapult, says he helped build Sleeping Duck from a “loss-making, ‘amateurish’ outfit’” that could not find investment into a profitable, financially successful company worth nearly half a billion dollars at its peak. He says the mattress maker’s success started to wane at the same time he was beginning to be excluded from its management.

What began as a fruitful mentor-mentee relationship deteriorated over disagreements about company valuations, strategy and, ultimately, control.

“We will be much more careful in selecting the people we work with,” Sleeping Duck chief executive and co-founder Sinnappan says.

“And when it comes to bringing investors into your business and evaluating fit, my advice to founders is to do your reference checks and due diligence ... make sure to talk to other founders who the investor has been involved with.”

Catapult chair Adir Shiffman is the largest investor in Sleeping Duck.Credit: Wayne Taylor

This masthead can reveal Shiffman has previously sued other company founders he was working with.

In 2018, he reached a confidential settlement with the founders of comparison website Compare Forex Brokers, of which he was a director. Compare Forex Brokers founder Justin Grossbard declined to comment, citing a confidentiality clause in the settlement. Shiffman also declined to comment.

Sinnappan says he only learnt about that case through his own court proceedings.

“Had we known about this beforehand, we might have reconsidered certain decisions that we made, or taken different steps,” he says.

He wants every start-up founder to read Justice Delany’s judgment and heed its lessons.

“One example is to be careful when one of your investors is recommending that you use someone from their network,” he says. “When we commenced a potential selldown process, Shiffman recommended that Sleeping Duck engage Arnold Bloch Leibler, which we did.”

Private WhatsApp conversations tendered to the court show Shiffman asking Jeremy Lanzer for the names of litigators to sue Sleeping Duck’s co-founders once the relationship broke down, despite Lanzer himself also working at the same law firm that was acting for Sleeping Duck.

“Every day I’m not suing someone I’m agitated! Where’s my litigator,” Shiffman wrote in a text message to Lanzer on October 14, 2021.

“We only found out about this when we obtained those WhatsApp messages during the course of the proceedings,” Sinnappan says now.

“A key lesson is to watch out for potential conflicts of interest when there are pre-existing relationships between your investors and advisers.“

For his part, Shiffman says the events of the past three years have been heartbreaking.

“I really enjoyed my deep involvement in building the Sleeping Duck business together with the two founders. Along with a strong leadership team we all succeeded together, made money, had fun, and it was a wonderful few years,” he says.

“Unfortunately, the situation then involved a unique and exceptionally painful breakdown in a previously great relationship with founders.”

‘Master of deals’

Shiffman’s involvement with Sleeping Duck began in earnest in early 2018, when he emailed Sinnappan describing himself as the “master of deals” and pitching himself as the right person to help the company raise capital and reverse its fortunes.

Sleeping Duck’s core product was a customisable mattress – customers could, for free, swap out the top of the mattress to change its firmness. The business faced a somewhat rocky start including a failed expansion into the United Kingdom and had gone through a dozen marketing agencies with no success.

Sleeping Duck founders Selvam Sinnappan (left) and Winston Wijeyeratne.

For around three years, by all accounts, the relationship worked: Shiffman provided mentorship and advice to Sleeping Duck in exchange for a shares and options, and received $10,000 a month for consulting services between July 2019 and September 2021.

The relationship eventually deteriorated in part because Shiffman was under the assumption he would actively participate in the management and strategic direction of Sleeping Duck, claims its co-founders disagreed with and that the court ultimately rejected.

Shiffman also disagreed with the co-founders’ decisions to turn down multiple investment offers, including a December 2020 investment offer from furniture retailer Temple & Webster, a January 2021 investment offer from private equity firm TA Associates to buy 30 per cent of Sleeping Duck, a February 2021 offer from homewares retailer Adairs to buy 40 per cent and a CPE Capital offer in October 2021.

Shiffman sent a WhatsApp message to Lanzer on July 27, 2021, that “if the guys refuse I might need to sue them”. Shiffman added that if Lanzer had a conflict of interest then Shiffman would use another lawyer, to which Lanzer agreed.

He was increasingly worried that if the co-founders continued to rebuff investment offers, it would effectively prevent him from cashing out.

Former Catapult CEO Shaun Holthouse.

He thought they were wasting golden opportunities and was further incensed when they diluted his shares by issuing shares to another minor shareholder, Prateek Bandopadhayay. Before his involvement with Sleeping Duck, Bandopadhayay, the judgment notes, had “worked as a screenwriter and trainee director, including on the latest Mad Max movie”. He then took on a role with Sleeping Duck as its head of narrative, head of creative and head of marketing.

The relationship’s rise and subsequent collapse was crystallised in a message Shiffman sent to Sleeping Duck co-founder Wijeyeratne on October 9, 2021.

“In 2019 you told everyone at the Christmas party how much I believed in you and Sel when the business was basically dead,” he wrote.

“In the intervening period I’ve been the same guy, but now it seems I’m basically irrelevant and inconsequential for you. When you chose to boot me out in preference for Prateek some months ago, and we all agreed I’d become passive as part of a sell down.

“Now you seemingly have vetoed the deal, I look like a moron to Goldman Sachs, and Sel won’t even reply to emails or text. So where am I meant to go from here? I’ve been backed into a corner and am very much panicking. And very hurt and shocked.”

Members of Australia’s technology sector say that while disagreements between founders and investors are common, they rarely get this acrimonious, or end up in the Supreme Court.

‘That’s how you can land yourself in some trouble’

Shaun Holthouse, the co-founder and former CEO of Catapult – the sports tech business chaired by Shiffman – says Shiffman enjoys good relationships with most of the founders he works with, but that his hands-on approach isn’t for everyone.

“You only get him involved in a business if you want that,” he says. “That’s what you’re shopping for, someone to complement your skill sets and help you out with some of these issues. For sure that’s not for every business.

“I have quite a lot of sympathy for investors that get involved in private businesses and take minority positions. Because there’s a big element of trust involved, and at the end of the day, if, if the founding guys own a big majority, they can still pretty much do whatever they want. And I’m not sure that there’s enough provisions to protect that.”

Investors from high-profile Australian venture capital funds including Blackbird and Square Peg acknowledge that while many technology start-ups fail, the overall expectation is still that the start-ups they invest in will deliver outsized returns, and that some will grow into billion-dollar ‘unicorns’ employing thousands of people.

Dan Krasnostein, a partner at investment firm Square Peg, says his firm often takes board seats on the start-ups it invests in - and therefore has a degree of control - but always works in alignment with both founders and existing investors.

Square Peg’s Melbourne team (from left): Dan Krasnostein, Jenna Sheils, Paul Bassat, Leila Lee and Ben Hensman.

While declining to comment specifically on the Sleeping Duck case, Krasnostein said a key lesson for both start-up founders and their investors was one of constant communication.

“Disagreements will occur, undoubtedly, but you’ll work out a way through them,” he says. “But I think if there’s a misunderstanding there around who’s playing what role, that’s where that’s you can land yourself in some trouble.

“If there’s misalignment around what type of business you want to build, and how you want to build it, that’s a showstopper for us, we won’t go into that investment.”

Tom Humphrey, a partner at Blackbird Ventures, takes a similar approach. Humphrey also declined to comment on the case specifically, but says he has never been in a situation to force a founder to sell a company or return Blackbird’s money.

“We would never force a founder to take a different direction for the business than they want to ... we want to work with the founders to try and think through what the right path is,” he says.

“We’re ultimately investing in founders and companies as a package, so it’s critical to make sure that the founders are there and motivated, and that we’re supporting them.

“Things go wrong. You can never predict them, it can come in the form of founder breakups, business pivots, growth or cash runway pressure, or just the general trench warfare of building a company from scratch. And that puts an immense amount of pressure on founders. And our job oftentimes as a VC is just to kind of understand those pressures and to try to alleviate them and try to be a cheerleader for a founder when they’re down.”

Lucy Lloyd is no stranger to disagreements with investors over a company’s direction. She’s the co-founder and CEO of Mentorloop, a start-up that connects mentors and mentees via an online platform.

Mentorloop co-founders Heidi Holmes (left) and Lucy Lloyd.

Lloyd and her co-founder Heidi Holmes raised about $1 million in capital from investors including Blackbird in 2017, before in 2020 deciding to stop raising investment and instead focus on profitability.

For Lloyd, investors have a commercial reality to deliver returns on a timeline, an aim that is often at odds with entrepreneurs who are motivated more by the change they want to make in the world.

“Venture capitalists may publicly speak to a philosophy, or a unique mandate, but all bow before the imperative to at least a 10-times return to their investors’ money,” she says.

“It can be difficult to really get a pure alignment on goals between founders and VCs, and any alignment could be disrupted easily by that commercial imperative, such as forces in the broader market that threaten returns.”

Lloyd said she had a “frank and fearless” conversation with her investors including Blackbird when she and Holmes decided Mentorloop was better off as a normal-sized business than a world-beating high-growth start-up.

“At the end of the day, it’s still your business. Investment isn’t something that just happens to your business; you need to be intentional about how you’ll use it, the opportunities it offers, and what it will cost you,” she says.

Justice Delany found Shiffman had not been “prevented from realising the value of his investment.” Delany said he has no doubt that Shiffman genuinely believes he was unfairly shut out from Sleeping Duck’s decision-making.

“He believes he has been unfairly treated by the founders.”

Despite the ruling, the matters aren’t fully resolved. Shiffman still holds a 9.4 per cent interest in Sleeping Duck through his company BBHF.

The court heard that Shiffman in 2022 worked with the co-founders of a competing company, Eva. Shiffman denies those allegations and says he has no ongoing role with the company.

Shiffman continues to work with start-ups and says ultimately he won’t change his approach regardless of the Sleeping Duck verdict. He’s leaving the door open for an appeal.

“I’ve thought long and hard about it, and have concluded that ultimately any success I’ve had with founders has been built on an extremely high level of mutual trust with close and active involvement,” he says.

“It would be a mistake to change who I am as a result of this extreme outlier, and I continue to enjoy my current relationships with some wonderful founders as we build profitable businesses together.

“I remain a significant shareholder and options holder in the company, and continue to hope the business rediscovers its previous success.”

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