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Wednesday, July 3, 2013

DO I REALLY NEED AN AGREEMENT WITH MY BUSINESS PARTNER?

So you and your best bud came up with a fantastic mousetrap that will blow the competition out of the water.  There are stars in your eyes, there is a fire in your belly and, for the moment, you are thrilled at the way your best friend’s talents complement yours.  Sound familiar?  It is familiar if you’ve ever been in love.  And just like love, business partnerships start out with the biggest hopes, the strongest ideals and a rosy-hewed generosity between the parties that, well, you just never see again.  Okay, that was harsh.  I will amend that to say that it is rare to find two people who can sustain that level of expansiveness throughout the duration of a relationship.  If you form a for or non profit corporation you will have a board of directors to help arbitrate, mediate, etc. in case of a disagreement, but in a simple partnership you are one your own.  So do yourself a favor and take advantage of all that good will to put a solid partnership agreement in place.



Here is something you might not know: you probably already have a binding partnership agreement.  Furthermore, there are already a whole host of default statutory rules associated with your partnership agreement that apply to you unless you specifically contract otherwise.  So, what you are really asking is: do you need to pay lawyers to write down the details of the agreement that you and your partner already have and make sure the default statutory rules that you do not want to apply to your relationship do not apply?  Hmmm, I wonder what my answer  will be?

There are four main reasons why you want a business agreement:  (1) you want to make sure your agreement is valid, (2) you need to agree on how to share the cost and work load, (3) you need protection from creditors if your partner screws up, and (4) you need an agreement on how to end the business relationship peacefully.  I’ll lay out more details for you here:

1) Make sure your contract is valid.  Under what is called the “statute of frauds” certain contracts must be in writing to be valid.  The details vary a little between the states, but in general here is a list of what must be in writing:

  • A contract to sell stocks and bonds
  • Surety and guaranty contracts – These are contracts where one party agrees to be responsible for another party’s debts.  A student loan co-signed by a parent is a good example.
  • A contract to give property on or after death
  • A contract, for consideration, to marry – (this traditional rule has been eliminated in many states for obvious policy reasons— officially at least we don’t trade love for money anymore)
  • A contract that cannot be fulfilled within one year of the start of the contract 
  • A contract for the sale of goods over $500 or a lease of goods over $1000
  • Contract involving the exchange of land or real property, or an interest in real property (such as a lease)
Also, under this section it should be noted that agreements to do illegal activities are not valid (just in case you were thinking of suing your drug dealer for shorting you— don’t).
2) When I talk about sharing the load I am referring to both the work load and the financial load.  You want a partner who’s percentage contribution is equal to her percentage profit.  With regard to work load, people have drastically different ideas of what “working hard” looks like to them.  This isn’t just to protect against a lazy partner either, often people have very different skill sets and honestly do not understand how must effort it will take for their partner to complete a project.  (Didn’t you get that web page going already?  You had five hours!  Were you on Facebook promoting our business or your party?)  Open communication and some type of system in place to measure effort will go a long way toward avoiding hard feelings in the future.  Along those same lines, partners need to have honest discussions about the non-business (i.e. family) obligations they have — and how much time that will take.

With regard to cost load, you should spell out in your agreement exactly how much money each party contributes toward start up costs and what value (toward percentage of ownership, percentage of work load, etc) they are receiving for their contribution.  If that is a sticky subject in the beginning it is only going to get stickier so be upfront about an unequal initial monetary contribution.  Also, you need to plan on how you will borrow money.  With a new business, lenders may want a personal guarantee so you need to decide who will be personally obligated for future loans to the business before you are in such a tight spot that a decision needs to be made on the fly.  You don’t want to discover that your partner has bad credit when you’re waist deep in bills and you need funds immediately.  If you have it planned out ahead of time you can put contingencies in your agreement that make sense (for example, anyone who signs a personal guarantee for a loan could be treated as having personally contributed those additional funds and their percentage ownership is increased, or you could agree that the loan will be paid back first before the other partner receives profits).

3) If you are two professionals, especially, you will want to form a limited liability partnership under your state’s laws so you are not on the hook for your partner’s malpractice.  There may be ways to limit your liability in other types of businesses too, so talk to your lawyer.

4)  Unlike you, there is always the chance that your business will live forever.  Therefore, you need to think through both the possibility that the business will die and the reality that the original partners will want to (or be forced to) retire at some point.  Nobody wants to spend time thinking about how to end something that is so freshly started, but the more work you put into hashing out the details of what the end of the line will look like (for the partners and for the business) the more misunderstandings and problems you will avoid later.

Times are good when you are starting a business, everyone is happy, everyone feels generous.  Take advantage of that good energy and get your details worked out.  You’ll thank me later.
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