Entering into a business partnership is often compared to getting married. There’s optimism, shared ambition, and excitement about the future. But just like in personal relationships, it’s the practical and legal foundations that determine long-term success. While it's easy to get caught up in branding, launching a website, or leasing your dream office space, failing to address key commercial considerations can spell trouble down the line.
Why formalising business partnerships matters
Without clear agreements in place, business partners risk misaligned expectations, financial disputes, and even the collapse of the business. Many of these challenges can be avoided through early, open conversations and by formalising those conversations into legally binding commercial contracts, including a well-drafted shareholders’ agreement.
Key issues to discuss with your business partner
Financial position and risk exposure
It is important to understand the personal financial position of the person with whom you will be going into business. If that person has a lot of debt, it is important to consider whether that person can survive financially through the lean months – especially when the business is still developing.
Left unchecked, your business partner’s problems can become your problem. A business partner in financial distress may put pressure on the business by demanding or needing more money out of the business than it can afford. This can cause resentment, deadlock or sometimes the demise of a business that is being bled dry of funds.
Business goals and vision alignment
Before embarking on a business venture, you and your business partner should discuss what your expectations and goals are in respect of the business. Discuss questions like:
- Do both of you understand the legal risks and requirements of running a business? Directors, especially have very stringent obligations. If and when employees are taken on board, this requires a thorough understanding of what the business’s obligations in this arena are.
- What is the purpose of the business? Do both of you understand why you are going into this business, how you expect it to operate and exactly what goods or services you will be providing and to whom?
- Is the business intended to be a short term or a long-term business venture? Is the idea to run the business indefinitely or to sell it after a period?
It can be eye opening to realise how different you and your business partner’s views of the business are and what you wish to achieve can be.
Financing and profit distribution
Money is often a sticking point between business owners. If you and your business partner have very different views or values making financial decisions in respect of the business can become a minefield. For example, a shareholder who has a young family may wish to have dividends declared because he or she is financing a home, paying school fees and generally dealing with family expenses. Contrast this with someone who is not married or who doesn’t have children and who wants to reinvest profits in the business in order to grow it and there may well be conflict around money.
It is important to have discussions around how the business will be funded during the start-up phase and how any future funding requirements may be met.
The first question to ask is who is putting funds into the business and how (if at all) are these funds to be repaid. Failure to deal with this issue can result in severe resentment, especially when one party feels unappreciated or believes that he or she is not getting as much out of the business as was hoped. At this point it is also helpful to discuss matters such as salary expectations where the shareholders are also employees, profit sharing and general financial management.
The questions that must then be considered are related to the pricing of the goods and services, the terms upon which business is done with customers, whether credit will be provided and how non-payment is dealt with.
Day-to-day management and decision-making
It is so important to know exactly who is running the business or, where both business owners are involved, who will be tasked with what. How will decisions be made in the business? Must all decisions be jointly made? This is seldom practical and so the question becomes: what decisions can the business partners make independently of each other? How do the partners mitigate the risk of one of you going “rogue” and incurring liabilities and debt without the other partner knowing or agreeing to this?
Resolving disputes
What are you going to do when you can’t agree? This is especially difficult in the case where each party owns 50% of the business. If agreement can’t be reached, this can bring the entire business to a halt and almost certainly result in the business failing. This discussion can be very difficult because in the honeymoon phase of the business relationship, business owners often dismiss the risk of them ever disagreeing or being unable to resolve a matter. Unfortunately, this is often not the case and trying to agree to a dispute resolution mechanism once the dispute has arisen can in and of itself be a fraught process.
Exit strategies and succession planning
Few business owners give any thought to how they would like to exit the business, but this can be one of the most overwhelming questions facing business owners.
The question is: what happens if one party wants out? Will the other party be obliged to sell their shares to the other party first? If so, how is that interest to be valued? Sometimes, an exit from the business is not voluntary, for example through the death or disability of one of the shareholders, a process needs to be put in place to deal with this eventuality.
One of the most contentious issues in these circumstances is the valuation of shares. A valuation process or mechanism is best agreed before it is needed – especially where there is conflict between the parties.
Other questions to consider in regard to the exit of a business partner include:
- Are the parties locked into the business for a period and if one of the parties wishes to leave, how will his or her shares be valued, and will they pay a penalty on early exit?
- If the parties are also employed by the business, must they sell their shares if they leave the business? If so, to whom and how will this be funded?
- Finally, should there be a restrictive covenant in place to protect the intellectual property and confidential information belonging to the business should a shareholder leave?
Protect Your Business with the Right Legal Agreements
Having these conversations is only the first step. Putting your agreements in writing is what ensures they’re enforceable. The cornerstone document for any business partnership is a shareholders’ agreement, supported by a suite of tailored commercial contracts.
How we can help: bespoke legal support for growing businesses
You don’t need to navigate this process on your own. Our Commercial team, which has guided many businesses as they undertake these key considerations, understands that business owners need and expect far more than contracts and policies from their legal advisors.
The information provided in this article is provided for general information purposes only, and does not provide definitive advice. It does not amount to legal or other professional advice and so you should not rely on any information contained here as if it were such advice.
Wright Hassall does not accept any responsibility for any loss which may arise from reliance on any information published here. Definitive advice can only be given with full knowledge of all relevant facts. If you need such advice please contact a member of our professional staff.
The information published across our Knowledge Base is correct at the time of going to press.
