There are two times that business partners argue: when they have money,
and when they don’t. Those alternatives cover all available time segments,
so if you’re advising people on how they should organize their business,
some rules for the arguments may be in order.
In one classic case, Larry Hagshenas eventually paid more than $600,000 in
legal fees and judgments because he left Imperial Travel in Bloomington,
Illinois. Imperial had four owners, and each of them had a girlfriend, and
they all hated each other — but he, a 25% owner, couldn’t get a local court
to dissolve the entity. So he opened a competing agency across the street.
His former associates sued, and won, with the court saying he had a
fiduciary duty not to compete so long as he retained ownership, even with no
right to make entity decisions.
Which brings me back to buy-sell agreements. These are what owners
should have in place, to cover things that happen to us all, eventually:
Here, “key man” insurance can cover a buyout of a member’s interest if he
or she dies, and is deductible as an entity expense, unlike individual
purchases of life insurance. The buy-sell needs to either make the insurance
amount all that is payable, or to define how owner’s percentages of the
company are valued.
Whole life insurance, SEP plans, IRA’s, ESOP agreements with employees
to buy the company, and a variety of other tax-advantaged savings industries
exist to help with this, but most companies don’t throw off enough cash to
cover all family needs. At this point, a sale of the company may provide the
cash. The buy-sell can be keyed to existing pension, profit sharing, or other
arrangements, but also needs to provide for how owners can or cannot force
sale of the whole megilla. The usual rule is that majority owners decide, and
minorities get paid a fair share for their part of the enterprise, by preset
percentages or a valuation process or by sale prices and post-sale
Hard nosed owners want to be paid their accumulated shares of value even if
they commit felonies that take down the company. Majorities like to be able
to force misbehaving owners out with nothing more than their original cost
for membership interests. Non-misbehaving owners want to leave with a fair
share of accumulated profits, and/or of enterprise value when they leave.
The resignation rights (if any, and often limited to a period after the initial
investment has built a building, or otherwise created an ongoing business,
like five year LP exit rights events), valuation process (could be annual,
might be tied to specific plan milestones), and reasons for different levels of
payout are all negotiable parts of a buy-sell.
Disability or Divorce:
Nobody wants to be in business with hostile strangers. Buy-sell parts of LLC
operating agreements, shareholder management rights or voting trusts
agreements in corporations, share transfer limits in ownership grants, and
many other similar instruments usually limit spouses to dividends or other
payouts when the other owners decide to make payments. This may be a
mistake. In many “Mom and Pop” companies — and 3/4 or so of all US
businesses are family owned — the spouses may want the other spouse to
take over if they are disabled or die. If they fight, though, they and their
partners may want to trigger an exit or buyout. Distribution rights until sale,
and decision rights, all are again active negotiation items for the buy-sell
The fundamental lesson is simple: figure out how to get out of any business
deal when you’re making the original deal, and you still like each other.
After that, feel free to argue, fight, and leave, but do so within the agreed
rules of engagement.