Essential Exit Strategies For Every Partnership Agreement

Essential Exit Strategies For Every Partnership Agreement

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Millions of people enter form a partnership with at least one other to enter into business, according to the IRS. The failure rate of all business partnerships is as high as 70%, AssociatedContent.com says. Thus the need for partnership agreements. Also known as shareholders agreements in the case of a corporation or operating agreements for LLCs, they provide the means by which partners agree in advance how to fairly divide the firm should they part ways. This is commonly known as an "exit strategy". While an exit strategy is essential to all businesses, certain issues show up when two or more people go into business together.

Here's a cautionary tale that can happen if you haven't worked out exit strategies with your business partners: Gregory and Kristov were boyhood friends who started a men's clothing line together. They formed a corporation and signed a shareholder's agreement under which Gregory was obligated to put in the money and Kristov promised to put in the marketing and clothing design ideas. One year in, and Kristov was spending the money on fancy parties and supermodels faster than Gregory could make it, so Gregory wanted to call a "time out" to re-assess how the money was being spent. Kristov was incensed. After all, marketing was his job and Gregory was supposed to fund his work. Gregory was incensed. After all, money didn't grow on trees and there had to be some fair way to stop the bleeding. Their shareholder's agreement had no provisions on how to resolve basic disputes between the business owners and no provisions on how to handle a buyout of the company if they reached a deadlock. As a result, the company went through expensive litigation to dissolve and liquidate the business . . . which effectively destroyed the company and the friendship between the two.

How can you avoid this disastrous result? By focusing on (1) reasons that a business owner might need or want to leave the company and (2) what would be a fair price for his/her interest upon departure. There are lots of reasons that an owner might want to leave your company. And while it's impossible to foresee each and every one of them, there are certain broad categories that tend to cover most situations.

1. Involuntary Exits. These include death, divorce, and disability. Most people don't choose for these events to happen. But they do, and they have a collateral effect on the company. If an owner dies or gets divorced, you could find that the former owner's spouse inherits the shares and becomes your co-owner, continuing to expect the same salary and profits from the business. Disability (physical) or incompetency (mental) of a business owner can often result in a greater financial drain than death unless the necessary provisions and disability insurance funding are put into place. How long can the business afford to pay the salary, benefits and profits of an owner who is too disabled to work or make a financial contribution to the company?

2.Voluntary exits such as retirement and resignation. There are many reasons why an owner might want to leave a business ' a change of heart to pursue a life time passion such as traveling around the world, a lifestyle change from having a baby, or the business is not generating enough money to support the partner. A good exit strategy should spell out the means to buy the interest of the resigning partner.

3.Expulsion. Unfortunately, there are sometimes reasons to expel a business owner. Some common causes include sexually harassing the employees, stealing company money or not wanting to invest more money into the company. The partnership agreement needs to clarify what occasions justify a forced exit.

4. Conflict. Many business partners overlook the need to build into the partnership agreement provisions for amicably settling disputes, big or small. Otherwise, a deeply divisive conflict could deteriorate into a deadlock which can only be broken by dissolving the company.

5. Worth of a company. The value of a company is one of the most important items to be addressed in a partnership agreement. The business owners must lay out in the exit strategy how to establish the worth of an owner's interest when the occasion arises. Questions to address include "what is fair value" and "when do I have to pay for it?" Establishing a means beforehand for valuing a company gives all business owners peace of mind that should the occasion arise, they will receive an objective and fair price.

Putting together a partnership agreement requires forethought and planning. At the beginning of a company, all participants are willing to work together and that is the best time to map out a workable business pre-nuptial. However, to make sure all interests are well represented, seek out an experienced business strategy attorney who can help maximize value for all concerned with a well-planned exit strategy.


Copyright (c) 2010 Ask The Business Lawyer

About the Author:
Fed up with the crazy legal issues your small business faces? Check out the user-friendly business law resources from Nina Kaufman, Esq., at http://www.GreatBusinessLawResources.com . She cuts through the legal gibberish to save you time, money, and aggravation. She also writes and blogs for Entrepreneur Magazine online. Get a free copy of her Entrepreneurs Business Law Primer at http://bit.ly/freebizlaw



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