The Dangers of Fifty-Fifty: And How to Avoid Them
Many businesses are owned “50-50,” for a multitude of rea- sons — perhaps the entity was initially formed, or later inherited, by two parties, or perhaps the entity’s ownership structure changed during the life of the business (e.g., one of
three partners retired leaving two partners). While “partners” can
mean the owners of a traditional partnership, the entrepreneurs
in a joint venture, or owners in a legally recognized entity – like
a corporation or a limited liability company – the problems of
equal ownership don’t really change. Equal partners often fail to
maintain the formalities of a governance procedure for resolving
disputes – such as establishing a buyout mechanism – as would
owners who were not founders but rather found themselves
joined together by circumstance, without emotional ties to keep
their business venture afloat.
One obvious problem in a business equally owned by two parties is deadlock or stalemate. Deadlock can be deadly; it can grind
a business to a massive halt, create (often extreme) dissension
between partners, and/or lead to litigation — including “business
divorce.” Business divorce litigation can run the gamut of court
actions: to remove and/or disassociate partners, to compel the
buy-out of a complaining partner, to dissolve or sell the underlying business, to appointing a “third-party tie breaker,” and/or
to claims of one partner for money damages for the alleged bad
acts by the other. A business divorce can be the ultimate business
problem, when partners can’t reconcile their differences.
Partners without a plan for navigating an impasse before they
begin working together run the risk of destroying not only their
partnership, but also the value of the business. Either way, without some mechanism for reconciling disputes, the risks of doing
business increase dramatically, along with the risk of business
divorce litigation — which too often takes on a life of its own,
irreparably destroying relationships of formerly content partners.
The absence of a controlling interest by one partner vis-à-vis
another partner is amply demonstrated by immeasurable deadlock
cases — all of which have one common denominator: governance
documents and structure which lack resolution mechanisms. Without such mechanisms, partners can be left to their own devices
to seek satisfaction. In some cases, partners resort to “self-help,”
– looting the business – either directly or by starting a competing
business. In other situations, partners end up in heated litigation.
This can often become the case in family disputes, which can grow
even more complicated if trusts for passing wealth through gener-
ations are involved, as the interests of other generations become
relevant. Sometimes later generations have minor interests in the
business at hand, leaving intact the fundamental equal ownership
dispute, but requiring complete participation of the business’s
other minority interests in business divorce litigation.
If your business is 50-50, if you intend to enter into such an
arrangement, or if you anticipate that such could occur (for
example, due to the imminent or eventual retirement of a third
partner), you should consult knowledgeable counsel to negotiate
and design a governance structure that allows for the resolution
of deadlock. One approach is to enter into a “business prenuptial
agreement,” detailing how the partnership will be unwound,
under which circumstances, and by whom if the partners cannot
agree on important issues. For example, corporate partners might
agree that any deadlock dispute be submitted to mandatory me-
diation and/or arbitration, before invoking a “buy-out” remedy,
which would allow a complaining partner to exit the business,
on certain terms, for fair value. In an LLC, the entity’s Operat-
ing Agreement provide a similar resolution mechanism, while
also outlining an agreed-upon process for the appointment of a
third-party manager to resolve fundamental disagreements.
Alternatively, whether the business is operated as a joint venture, partnership, corporation, or LLC, the partners might structure
a mechanism to dissolve and split equally the value of the business, subject to offsetting claims to be resolved by mediation and/
or arbitration. If partners are unwilling to commit to such alternative dispute resolution procedures, they may be willing to agree
to limit the scope of dispute resolution, such as waiving any right
to a jury trial and/or limiting the types of disputes that can be
brought to court. Imagination and creativity are required in structuring a business relationship (whether existing or contemplated), so that partners feel each will receive a “fair shake,” should
disputes arise. The many options can range from a dissatisfied
partner disassociating from the business after receiving fair value
for his/her investment (in a global sense), to mandatory business
counseling (a service offered through most major business and/or
law schools for distressed business ventures), to an agreement effecting an orderly liquidation and wind-up of the business, so that
each partner can feel that he or she exited the business “whole.”
The moral of our story: provide concrete pathways early on, for
addressing and resolving deadlock situations, and you can avoid messy
business divorce litigation.
For those interested in further discussing the precepts in this article, please contact Fred Mendelsohn at fmendelsohn@burkelaw.
com or 312-840-7004.