A business partnership is like any relationship. You want to partner with someone who shares your long-term goals and complements you, someone who shares your work ethic, values and vision. Without this common ground, a marriage in business or in life is bound to unravel. And that can get ugly, says Tom Christy, an attorney at Garan Lucow Miller PC.
“What business owners often forget when they enter into a new partnership is that once you let someone into your business, it can be hard to get them out unless you have a proper buy-sell agreement in place,” says Christy.
Whether your reason for inviting a partner into the business is to infuse capital into the organization, to reward a longtime employee or to execute a succession plan, you need to proceed with caution and prepare formal documentation to protect the business.
Smart Business spoke with Christy about what to consider before bringing on a new partner in order to ensure a successful relationship that benefits all parties and the business.
Under what circumstances might an owner consider bringing in a new partner?
Some owners decide to reward employees with partnership if they are top performers or are part of a succession plan that is being executed over time. In other instances, equity partners are brought on to help infuse capital into a business. Also, you may take on new partners — and I’m using ‘partners’ loosely here, as the actual form of the business today is almost always a corporation or LLC — after a merger or acquisition; these arrangements are the product of the newly formed business structure.
Whether new partners are invited to join an existing firm, or owners decide to partner and launch a business together, the same rules apply: Be sure you truly know your partner, that you share common goals and a vision for the business and that your roles are complementary and defined. Go into the deal with your eyes wide open to your partner’s perspective.
What determinations should an owner carefully weigh before inviting a partner into the business?
It’s important to have those tough conversations about money and control before entering into a partnership. How much decision-making power will each partner have? How will disputes be resolved? Do not make the mistake of assuming that your 51 percent stock in the business means that the other partners must yield to your authority. Disputes can result in litigation in which a minority partner can argue shareholder oppression. So talk about how much power the new partner will have and what this means in the board room.
Be sure that you have the same goals for the company. Your opinions on how to reach those goals may differ, but successful partners work toward a shared vision for the company. Ask yourself, ‘Can I work with this person?’ The main reason partnerships eventually fail is because the partners failed to address the tough questions in advance.
Remember, a business partner is more than a manager or someone you hire to help run the company. This person shares in the decision making and the resulting profits, and this person can drive the success or cause the failure of a business. Take on new partners with caution, and always consult with an adviser who can provide a third-party perspective and challenge owners to dig deeper before entering into a formal arrangement.
What common mistakes do owners make when making an employee a partner?
In the case of making an employee a partner, first consider whether this is the best reward for that person. Giving an employee stake in the business is not the only way to financially reward him or her for top performance. Consider whether a profit-sharing plan would provide a more appropriate financial reward. Even if you do not want to meet the stringent requirements of a tax-advantaged profit-sharing plan, you can still create profit-based incentives.
Partners not only gain financial stake in the business, they also get a voice and some control. Decide if the employee you want to reward will be happy with a financial reward and if giving that person voice and control is truly beneficial for the organization.
What steps can an owner take to protect the business when bringing in a new partner?
First, be sure that a partnership is the best arrangement. Would you be better served by setting up a profit-sharing plan to reward employees if that is your goal? Second, be sure that all terms of the partnership arrangement are on paper, and consult with a legal professional who can be sure there aren’t any issues in your agreement that could result in litigation down the road. Third, establish a buy-sell agreement to determine, before you get into a partnership, how you can get out.
Other ways to protect the business include setting up a probationary period for the new partner during which he or she earns a financial stake in the company after a determined period of time. Also, if you plan to bring in a partner who specializes in one area of your firm – for example, design — you may consider splitting your business and creating separate companies so this partner does not gain control over all operations.
Splitting up the company can preserve control and profit in areas where the new partner is not involved.
Tom Christy is an attorney at Garan Lucow Miller PC. Reach him at email@example.com or (248) 641-7600.