So you want to go into business with someone. Good for you!
Maybe your potential partner is a family member, long-time friend, investor or business associate. Whatever the relationship, the start of a partnership is much like a young romance.
The parties are euphoric and it seems as though nothing could possibly go wrong—but then—something happens.
Time for a reality check.
Just like every personal relationship has its ups and downs, so do business partnerships.
So before you tie the knot, so to speak, you need to enter into what is known as a partnership agreement to protect yourself and your business.
Here are six common elements you should include in a partnership agreement—in writing—signed by all partners:
1. Percentage of ownership
You should have a record of how much each partner is contributing to the partnership prior to its opening. (People have short memories.) Typically, these contributions are used as the basis for the ownership percentage, but this is not a cut and dry formula.
For example, one partner may put in a considerable amount of cash, with no plans to work in the business, and a second partner may not invest cash, but will provide the sweat equity to make the business a success. As such, the partner who works the business full-time may get a larger percentage or vice versa. That’s up to you.
2. Allocation of profits and losses
You must decide if the profits and losses will be allocated in proportion to a partner’s ownership interest—which is the way it is handled unless otherwise indicated.
Also, will partners be permitted to take draws? A draw is generally a cash distribution on a regular reoccurring basis similar to a paycheck, without any taxes withheld. It’s considered an advance payment of profits from the partnership business to the partners. Because money is the root of all evil as they say, you and your partners need to make these decisions in advance.
3. Who can bind the partnership?
Generally speaking, any partner can bind the partnership without consent from the others partners. Imagine if your partner, without your knowledge, signed a contract for a private jet time share. (Sounds cool, but not practical.) That’s certainly something most small businesses can’t afford and such a liability could be a significant risk to the financial stability of your business. So you must clarify what type of consent a partner must obtain before they can obligate your company.
4. Making decisions
Making decisions in a business is often like trying to make decisions in a committee, nothing gets done. In fact, it can often stalemate a company, which results in business failure. Therefore, you need to establish a decision-making process in advance so your business operations can move along smoothly.
5. The death of a partner
What happens if one partner dies or wants to leave the partnership? To manage these situations you need a buy/sell agreement. This establishes a method by which the partnership interest can be valued and the interest purchased either by the partnership or individual partners.
6. Resolving disputes
What happens if you and your partners reach a point where you can’t agree? Do you head to court? Well, only if you want to spend a lot of time and money. My recommendation is to include a mediation clause in your partnership agreement which will provide a procedure by which you can resolve major conflicts.
By no means is this an all inclusive list. Make sure you and your partners consult with a professional adviser who can draft a partnership agreement for you. An attorney can also advise you and make sure you have thought about and covered all the necessary elements you need to manage, protect, and grow your business venture.
Is your business a partnership? If so, what other elements did you include in your partnership agreement that helped ensure a long lasting and healthy business relationship? Tell us in the comments below.
