The Drawbacks of 50/50 Partnerships
Or, you’ve been approached by a hardworking entrepreneur with a successful business, offering a 50% share of the business for an investment.
Whether starting a business or making an investment, generally it works out that one Partner or Managing Member is bringing the money and the other is providing the sweat equity by doing the work. And, after all, 50/50 seems fair.
The Bad News Is …
The bad news is that almost everyone in these discussions fails to see the negative ramifications before it’s too late. And they are trapped in a situation where there is no ability to move forward and results in the death knell of the business.
Revitalization has recently seen a number of these situations as they play out in the courts. In general, the operating partner believes that he deserves more than he is getting for his hard work and the financial partner believes that the operating partner is taking, often surreptitiously, more than he is entitled to.
When Partners Disagree …
When there is a disagreement, if a 50/50 relationship, an impasse can frequently be the result. This can be highly detrimental to the underlying business if the issue is critical to the business operation.
And, as in the cases we have seen and become involved with, the company fails. Businesses require a clear decision making process to succeed. In order for things to get done and for decisions to be made, there needs to be an allocation of responsibility within a business in which Partner has controlling decision making authority.
A 51/49 “And” A 50/50 Set-Up …
By creating a 51/49 relationship based on cash invested, the money Partner can vote their extra 2% in critical situations.
It is important to note that there is a difference in an LLC or Partnership between profit participation and decision making.
It is quite easy to have an agreement that provides for 51/49 decision making and 50/50 profit participation.
The Operating Agreement …
It is key for each party to make certain that both legal and business terms are exactly what you want from the agreement. Do not assume that anything is “understood”.
Do not assume that anything is “understood“.
On the legal side, it is probable that each party has an attorney. Those attorneys should pick a third party to draft the agreement. The drafting attorney represents neither side and the resulting agreement should favor neither party.
On the business side, if one of both parties do not have extensive experience with business contracts, they should get an advisor. The important thing here is to make certain that the terms pertaining to the business are what each party wants.
Every Agreement Should Specify …
And every agreement should specify what constitutes a violation of the agreement and what happens as a result, both from an operating, financial and equity standpoint.
Businesses are dealing with money; sometimes a lot of money. Not only is transparency between the ownership important, it is also important that neither party have sole control of accounting or disbursing funds.
Checks larger than a certain amount should require two signatures; any debt assumed by the company should require both owners to agree. If money is handled by a person inside the company, such as a controller, that person should not be related in any way to either of the Partners. And financial reviews involving both partners and perhaps an independent third party should be frequent.
The CFO Was The Daughter Of …
One of the largest receiverships in which Revitalization Partners was involved, the Chief Financial Officer was the daughter of the Chief Operating Officer. As the company had a single owner that was often not involved in detailed financial decisions, you can imagine the results.
In any Partnership or LLC, there should be no such thing as a “silent” or inactive Partner or Member. To quote an often used statement: “It’s not personal, it’s only business.” Or as a famous past President stated: “Trust, but verify”.
Realizing that both of those clichés are true will help your Partnership have a long, successful life.