It is estimated that only 30% of partnerships have a legally binding Partnership Agreement – amazing when you consider the risks to a business of not having one!
A small business owner was one of three partners in a restaurant. One day he arrived at the restaurant to find that the locks were changed and he was locked out. He had been “frozen out” by his partners. The business had started to take off and his partners decided that they didn’t need him as a partner anymore. He had invested a lot and he lost his whole stake in his business because he didn’t have a Partnership Agreement in place.
When a partner in a business falls ill, retires or dies, or there is an irreconcilable dispute, the first course of action is to refer to the Partnership Agreement. A Partnership Agreement is the legal document that defines each person’s rights and responsibilities, as well as provisions for running the company, both day-to-day, and in the event that someone dies, or the company dissolves. It ensures the continuity of the firm or the terms of dissolution.
Every Partnership Agreement should answer these questions:
· How will decisions be made, especially when a consensus can’t be found?
· What will be each person’s capital contribution to start the business?
· When will partners be able to take money out of the business?
· What happens in the case of disability or death?
· What will happen if one of the partners doesn’t want to be involved anymore?
· Under what circumstances can a partner be removed from the business?
· What are the terms in which one partner would buy out another?
· What are the terms when the company is dissolved?
· How are the shares in the business to be valued?
Without a Partnership Agreement, you are leaving your business vulnerable. If one partner wants to retire, or is too ill to return to work, the other partner(s) can just take over the business, including the client base, and no payment to the leaving party is required. If they agree to buy out the retiring/sick partner, the valuation of the business is undefined so the amount of the buy-out is potentially in dispute. Without a Partnership Agreement, nothing is enforceable in court and you could end up with nothing!
A leaving partner is entitled to sell their share of the business to an outsider. Without an agreement, the other partner(s) has no say as to who it is sold to. A leaving partner can also demand immediate withdrawal of all the capital they have invested in the firm. In the case of a partner’s death, if there is no legal agreement, the firm has no obligation to pay the estate anything.
Partnership Agreements take care of unforeseen events and disagreements. They provide a means to come to a consensus before conflicts and issues arise. Most importantly, they guarantee the continuity of the business in the event of illness or death of a partner. Drawing up a Partnership Agreement costs less than you might think, and it is invaluable when these types of issues arise.