{5:45 minutes to read}
Have you ever heard about the friends who went into business?
If they had given more thought to their future business relationship and had the proper agreement drafted, could things have worked out differently?
When “partners” decide to go into business, excited about a new prospect, they often jump in; they’ve given a lot of thought to what the business will be, what they’ll produce, or what services they’ll provide. But they put very little thought into the structure of their business relationship. This can prove especially true if they are starting the business with friends, colleagues or family.
One of the benefits of starting a small business is knowing, and deciding, who you are going to be in business with and how that business will operate. However, at the onset, individuals are more focused on getting the business up and running and, as a result, they may not involve a lawyer to draft an operating agreement, a shareholders or partnership agreement. In fact, they may not have any written agreement or, even worse, utilize a “do-it-yourself” document that they may not have read or understood, but which, if executed, will control the management of the company and the relations between them. The perils of not having an agreement or entering blindly into a form document can be enormous.
The law allows great freedom to individuals and businesses, when drafting their agreements, to tailor provisions that are most beneficial to them. However, without an agreement, the parties are subject to default provisions that may be provided by statute or common law – precisely what business partners may not want to happen. And by completing “do-it-yourself” forms, the parties are, in all likelihood, providing a great source of business for commercial litigators down the road.
Moreover, the parties may be confronted with emotionally-fraught issues that they may never have anticipated. For example, let’s consider the smallest of small businesses:
You started a business with your best friend; 10 years have passed; your business is doing great; and your partner tells you he wants to retire and invite his kid, who was 12 years old when you started the company, to take his place in the business as your new partner. You’ve known the kid his whole life. Cute kid, but …, but … not someone you want as a partner. So you say, “No.” And a “food fight” begins. It is then that you will have to refer to your existing written agreement, if you have one, to see whether that is allowed and what your alternatives are. And, if you do not have a written agreement, the gloves will really come off and you may become subject to the uncertainty, and cost, of litigation.
A well thought-out agreement, drafted by an attorney and, often times, reviewed by separate attorneys for different stakeholders, should address issues like the one above and others that are important for the parties at the outset and in the future. These include:
- Initial financing of the business
- Whether additional capital contributions from members, shareholders or partners will be required
- How to bring in investors or raise additional capital, if necessary
- Management and decision-making – day-to-day and with respect to extraordinary matters
- Whether distributions will be required and/or permitted, and who decides
- Whether the agreement should provide for retained earning
- What procedures should be employed in bringing in new members, shareholders, or partners and how that might affect future decision-making
- Whether the agreement should provide for preemptive rights
- Employment relationships, non-solicitation and non-compete provisions
- Buy-sell arrangements, and how they are funded
- Transferability of interests or shares
Many of these issues may have tax consequences that should be addressed in constructing the agreement.
While it may not be possible to anticipate every issue that may come up — even with a well-drafted agreement, it may be necessary to revise these documents in later years — many issues can be anticipated and addressed. The agreement itself can be drafted with sufficient elasticity to allow the parties freedom to conduct their business in an orderly and beneficial manner.
Starting a new business can be time-consuming, but the time you spend drafting the proper documents with an attorney, can save you a great deal in the future – time, money and angst.
