Quite often, I find myself litigating partnership and close corporation disputes that could have easily been avoided had the partners just taken a little more care in drafting their agreements. The most common, avoidable problems are:
- No clear formula for evaluating a partner’s interest when they leave the partnership. Money disputes are almost inevitable when the partnership or shareholder agreement does not clearly set forth an agreed-upon means of determining the value of a partner’s interest upon resignation, retirement, incapacity, or death. There are many ways to do this effectively, but the main point is to have an unambiguous and well-thought-out formula that minimizes any chances of disagreement.
- No clear mechanism for breaking ties. Quite often, partnership agreements do a good job of spelling out which partners get to make important decisions, but fail to consider what happens when there is a “tie vote” among the partners in charge. There’s a good reason for having an odd number of Justices on the Supreme Court. Tie votes not only slow down planning; they can completely paralyze the business. So, either make sure there are an odd number of people making important decisions or, if that is not possible, place the tie-breaking decision in the hands of one, pre-designated partner.
- No clear delineation of what constitutes sufficient basis for terminating a partner’s interest “for cause.” What do you do when one of the working (as opposed to limited or inactive) partners or shareholders stops contributing to the business in any meaningful way? This is a very common dispute amongst partners. There will always be a large “gray area” when it comes to judging the performance of key contributors, but a good partnership agreement should at the very least spell out (i) the minimum requirements for maintaining one’s status as a working partner (e.g. capital contribution requirements, time devoted to the business, what constitutes “incapacity,” etc.), and (ii) who gets to make the decision regarding whether those minimum requirements have been met.
When people get together to start a new business, the common desire for everybody to get along and keep things positive often makes it difficult to discuss these potential areas of future difficulty. But Ben Franklin’s saying that an ounce of prevention is worth a pound of cure is worth taking to heart. Making the effort to think about and eliminate potential future disputes, especially the most common ones, will more often than not prevent a boatload of anxiety and attorneys’ fees down the road.