The Importance of a Good Partnership Agreement (Segment II of II)
Credit: Nevin Beiler, Attorney
Segment II of II Continued
What We Can Learn From This Story
Unfortunately, disagreements among business partners are far too common, even among family members and Bible-believing Christians. As a result, some people refuse to enter a business partnership with anyone as a matter of principle, because they don’t want to risk the conflict. I personally don’t think that partnerships should be off limits for everyone, but I appreciate the concern that people have about the risks of entering a partnership. If you are a partner in a business, let’s think about what we can learn from the above story so that your partnership does not have the same problems.
In our story, Jake and Henry (and their father) failed to adopt a partnership agreement that could have helped them resolve management conflicts and have a pre-established buyout plan. The right time to adopt a partnership agreement is early on in the life of a partnership, ideally at the same time the business is formed. This agreement should be reviewed and revised periodically, especially if there are major changes in ownership. It is much easier for partners to agree on management and buy/sell provisions early on before disagreements arise. And if you cannot agree on management terms or buy/sell terms when you are entering a partnership, stay out of the partnership.
A well-written partnership agreement should specify which partner has the final say in management decisions, either by naming a managing partner or by specifying how the voting rights will work. If the partners have equal management and voting rights (which is not advisable, but is not uncommon) the partnership agreement should specify a process of breaking a deadlock if the partners cannot agree on any given issue. This could involve giving a trusted business advisor the ability to break a deadlock on management decisions, or any other approach that the partners are comfortable with.
Another key aspect of a partnership agreement is how a partner can or must be bought out if a partner wants to leave the partnership, dies, becomes mentally incapacitated, or needs to be bought out for other reasons. In addition to specifying who has the rights to buy the ownership share of the departing partner, the partnership agreement can specify how the buyout price will be established and paid if the buyer and seller of the ownership interest cannot agree on a price and payment terms. Two common methods of setting a buyout price are (1) having the partners agree in writing to a valuation of the business on an annual basis, with that value being the buyout price for the following year, and (2) hiring an independent appraiser to value the business periodically or at the time of the buyout.
A third key aspect of a partnership agreement is a dispute resolution provision that gives the partners a good way to address disagreements as they arise instead of letting the disagreements pile up. Good communication is critical to the success of a partnership. Having a plan for communicating about and resolving disagreements can make the difference between the success or failure of a partnership.
For example, I often write partnership agreements that require partners to work with a third-party mediator to resolve disputes. This could be a professional mediator or a trusted business advisor or church leader that both partners are comfortable working with. Mediation involves the partners meeting (perhaps several times) with one or more mediators to help them discuss the problem and hopefully reach a voluntary agreement on what to do.
If the disagreement is not resolved in mediation, I generally recommend that the partnership agreement require the appointment of a three-man team of impartial business advisors or a church committee to give binding direction to the partners. This is an informal method of what is called “arbitration.” (Professional arbitration services are also available if necessary, but they tend to be more expensive and adversarial.) The partnership agreement should require each partner to follow the decision of the arbitrators.
There are other important things to include in a partnership agreement, but clear management provisions, comprehensive buy/sell provisions, and good dispute resolution provisions are the most important things that are sometimes missing from partnership agreements.
Working through all these issues can take some time. But it is time well spent. Even if a partnership never has a full-blown dispute between the partners, taking the time to prepare or update a customized partnership agreement is a very good way to communicate about, and clarify, the expectations of all the partners. And having clear expectations is a benefit to any business.
If Jake and Henry (or their father) had taken the time to set clear expectations and adopt a good partnership agreement for their business, they likely could have avoided a great deal of heartache and expense. Take the opportunity to learn from their story, and consider whether reviewing and updating your partnership agreement would make your business stronger. Also, if you find yourself in the midst of partnership conflict, don’t be afraid to ask for help, especially if you and your partner(s) are having trouble communicating. Open and honest communication is the salve that can heal a broken relationship.
Nevin Beiler is an attorney licensed to practice law in Pennsylvania (no other states). He practices primarily in the areas of wills & trusts, estate administration, and business law. Nevin and his wife Nancy are part of the conservative Anabaptist community, and Nevin served as the in-house accountant for Anabaptist Financial before becoming an attorney. Nevin’s office is in New Holland, PA, and he can be contacted by email at email@example.com or by phone at 717-287-1688. More information can be found at www.beilerlegalservices.com.