Starting a Business with a Partner
You’ve done it! You’ve finally thought of you’re million-dollar idea. Congratulations! You’ve created the prototype for your product, The Kangaroo Pouch for People – like a fanny pack, but bigger (patent pending…just kidding). You’re ready to start building your company, but you’re nervous and feeling unexperienced. So, you do what most people do, you invite your best friend Bob to become a 50% partner in the Company with you.
Unfortunately, we all know that every partnership isn’t always smooth sailing, butterflies, and rainbows. You and Bob are besties but you each have your moments of disagreement. You should probably have a plan for, if or when, things go south, just in case! There are a ton of options you can choose from to ensure that if your partnership leads to a disagreement and you both share the same power, that decisions can be made amicably and hopefully without legal action! Even married couples who believe they’ll last forever sign pre-nups. Why? Because you hope for the best, but prepare for the worst!
PRE-Disagreement Precautionary Steps – Prepare for The Drama
You rely on some other person to help with tiebreakers:
- Appoint a custodian or provisional director or “rabbi” that you agree will act as a tie-breaker. This can be put in an operating agreement or bylaws.
- Hire a CEO who makes the larger company decisions, while still retaining equal, majority, and profitable ownership.
- You can elect to form your partnership as a corporation and appoint at least three boards of directors, including the two partners. Or another odd number.
- Create a 49/49/2 partnership. The 2% shareholder should someone well informed and trustworthy to make the tiebreaker decisions.
Handle internally from the get-go:
- 51/49 in decision making, but 50/50 in profits.
- Agree to have each person handle different departmental decisions. Or have one partner handle day to day issues and the other major decisions.
- Creating an ad hoc board of directors that reviews and makes decisions on issues that owners can’t agree on.
- MAD: Mutually Assured Destruction. Built-in mechanisms in company documents that are bad for everyone so that it encourages each partner to avoid deadlocks.
- For example: If partners are unable to make decisions on their own, a 33% portion of the company is to be sold in order to allow for an uneven vote by a 3rd This person will not only have 33% voting right but will also take 33% of profits.
- Least amicably, a provision in the bylaws or operating agreement that provides for mediation or arbitration if the issue gets to that. The con is this is like litigation.
- Provide for a buy/sell option in the operating agreement. There are multiple options available (See Below).
Uh Oh. What if you and Bob decide that you’re such tight besties, you didn’t take any of those precautionary steps? Severn year later you are making money hand over fist but there is a disagreement about something important – like selling the Company or borrowing money. Don’t worry you still have some options. If that option isn’t available, you may want to consider some of these:
POST-Disagreement Problem Solving – What Do We Do Next?
- The simplest of decision-making tactics, a coin flip! I know it seems silly, but it’s certainly the fastest and the cheapest!
- Decide to take turns either by each decision or period of time.
- Although it may not be previously written in the company documents, you can decide to bring someone in to be the tiebreaker, a neutral third partner who knows the company.
- Work out a buy/sell arrangement and allow for one partner to buy out the other.
- Buy -Sell Options
- Russian Roulette/Open Dutch Auction: Remember when you and your sibling are fighting over a piece of cake. Your mom tells you to cut it in half. She lets you cut the cake, but tells you that your siblings gets to pick the slice. You’re going to try and cut the cake as evenly as possible because of the fear they’ll take the bigger piece. Same concept here. One partner sends notice to the other naming a price they believe is the value of their half interest, and the receiving partner can buy it for that price or sell to the other party at that same price. The other partner being able to flip it keeps them reasonable.
- Texas Shoot Out/Closed Dutch Auction: Both partners send sealed bids with a price they would be willing to sell their 50% for, to a third neutral party. The higher bid wins and they must buy the other partner’s share at the lower price.
- For example, let’s bring the cake slices back. You tell your mom you would give Sally your slice for $3, but Sally tells mom she would only sell hers to you for $5. Sally gets the cake and only has to pay you $3.
- Fair Market Offer: One partner sends notice to the other about executing a buy/sell option. A neutral third party decides a fair market price for half and the partners decide who will buy.
- Baseball Arbitration: Both parties submit an amount they believe the entire company is worth. The party closest to the arbitrator’s number wins and buys the other partner’s half for half of the Company price.
- Balanced Fair Market Value: Again, one partner sends notice, and the third party picks a fair market value for half. The partner who sent notice must buy the other partners shared at a premium of the FMV or sell their own at a discounted value. You agree to a 15% — or whatever – enhancer in advance.
- Buy -Sell Options
At the end of the day if you and Bob really can’t sort out your issues cleanly, expensive and time-consuming litigation may sadly have to be the road you take. And as a last resort, if after that the company can’t function properly after the drama and the bickering, dissolving or selling the company may have to be considered too. Mankind will have to live another day without their Kangaroo Pouches unfortunately.
Hopefully you picked a decent partner and you guys structured your operating agreement or by-laws effectively and the mess can get cleaned up quickly! And if you haven’t, get on it!!
Conveniently located in New York City (and available by Zoom conference), your experienced business lawyer, Dwight Yellen, will make you our priority and put your mind at ease. We are seasoned professionals and know business! We will answer your questions, evaluate your circumstances, and discuss your options. Call us right away (212-903-4546), or contact us confidentially online, dwightyellen.com/contact. We got your businesses’ back.