Business Partners: A Cautionary Tale

By Nina Kaufman, Esq.

In this challenging economy, I’m seeing a lot of entrepreneurs begin to re-evaluate their business  . . .  and, in particular, their business teams. When business is going well, it’s easy to overlook  the flaws and peccadilloes. Partly because we want to ride the prosperity wave.

But when the wave crashes, and you’re dumped onto the beach with the seaweed, the broken shells and the flannisters (you know, those plastic yokes that hold six-packs together), are you really shoulder-to-shoulder with a business partner you respect?

A Cautionary Tale (names changed to protect the ill-advised):

Dylan started a partnership five years ago after being approached by Pete, someone he “sort of knew” from his industry.  They verbally agreed to be 50/50 partners. Pete formed the company (in his name only), but p-r-o-m-i-s-e-d that Dylan would be put on the ownership papers as soon as they got investors. Dylan did most of the work; Pete put in most of the capital. But each time that Dylan asked about being included in ownership papers, Pete became indignant . . . with a “What–don’t you trust me?” attitude.  Eventually, Dylan got fed up and started exploring his rights.

Problem for Dylan is that without a buy/sell agreement (aka shareholders’ or operating agreement), Dylan’s in a bit of a pickle. Yes, Dylan can ask Pete to buy him out–or Dylan can offer to buy Pete out–but if Pete refuses to cooperate, Dylan has to go to court, which can get expensive and thorny.

An important first step for Dylan would be to speak to an accountant who understands business valuation to help value the company and its intellectual property. That does two things.  First, it provides reasonable numbers to work with when it comes to offering a buyout price. Second, it also helps gauge whether it will be worth the cost of litigating the matter, as there’s no point for Dylan to spend more in legal fees than he would get paid for his interest in the company.

Hindsight is always 20/20.  A buy/sell agreement at the outset would have alleviated a lot of these issues that will now be more expensive to resolve.

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