Can we all end up happy?

March 31, 2009 5:16 AM

Business partner wants to be bought out. What are my options? Details inside.

Ms. Timshel asks:

I am in a bit of a sticky situation, and would appreciate any advice. Two years ago, I entered into a Ltd partnership with two very close family members (all based in the UK). We stupidly have no partnership agreement or non-compete clause, but each person is 1/3 shareholder. One of the directors (Partner A) plans to move across the world to start the same business, where only they will profit (i.e. a separate entity from our existing business). They want to be bought out for 1/3 of the current business value. Even though the business has been around a short while, it is very profitable and has a strong brand. That being said, this is not the type of company where she could sell her shares to an outside party.

These are the questions Partners B & C have:
1. If the valuation is far higher than expected, what are our/Partner A's options?
2. Can we specify repayment terms? What if they don’t agree to our terms?
3. If we don’t decide to buy partner A out, are they able to remain a silent partner, considering that they are starting a competing business elsewhere?
4. If partner A doesn’t start a competing business, but still moves across the world, what are they entitled to? In this instance, would partners B and C be able to increase their salaries, as they are working overtime to compensate?

We do intend to meet with a lawyer but would appreciate any advice and insight the hive may have. Thank you!

posted by timshel to work & money (10 comments total)

You can come to whatever deal seems fair to all of you. Paying all the value on day 1 does not sound that fair to me. One plan would be hire two people (A hires one, B&C hire another) to value the business, take the average of those valuations, and pay it off to A over five years (with above market interest). Depending on the type of business, how dependent it is on A's involvement for example, some small multiple of years profits 3-7 times maybe.

If A doesnt like the price A can become a partner, but no longer an employee of the Ltd. You take some salary home from the Ltd part of that is because you are a shareholder and part is because of the work you do for the company. Currently, you are not distinguishing between the too and you need to start. There is nothing wrong with A continuing to get a dividend as a shareholder when across the world.

There is nothing inherently bad about this situation. You just didnt plan for it when you set up the company but with goodwill you can work out the monetary issues in short order. Sounds like there may be some hurt feelings too. Try to deal with them separately and dont try to get revenge in dividing up the pie.
posted by shothotbot at 5:49 AM on March 31

Although you need to meet with a lawyer to find out what your local laws require, I see no reason to buy your business partner out at anything less than the lowest possible value. Offer them $1 to buy out their shares.

Even if you had a noncompete clause, it is unlikely that it would be enforceable across the world in a different country. Given that your partner expects to leave and start this business without sharing anything with the two remaining partners, why should you give them the seed funding to do so?

Getting two valuations and averaging them seems like a very bad idea. Suppose your business earns $1 million a year, and is neither growing or shrinking. You might think that the company is worth $1M * 5 years = $ 5 million. So your partner gets someone to value the company at $50 million. You respond with an appraisal of $0. Average is $25 million. Do you really want to pay out $25 million?

Keep in mind that the economy is very bad right now. Your business could die in six months if conditions get worse. Your business could be worthless if the new entity your partner proposes to start quickly grows to have global reach. If your partner wants to receive money from the venture, they need to stay on. If they want to leave, give them as little money as possible and a swift kick in the ass.
posted by b1tr0t at 6:55 AM on March 31

I do not believe you need to have a formal agreement to establish a partnership, but this is of course a question to ask your local lawyer. The advantage of an agreement is that it sets out how matters, especially disputes, will be handled. An accountant can help you put a value on the business if you are indeed interested in buying out this share. That value is reduced to you though as you say because of the added labor burden this departure puts on the remaining two partners.

Are you concerned that even from across the globe this person's business will compete with yours? You perhaps want to settle tradename and trademark matters as well. In most countries trademark rights are established by filing but in others they are established by use and with filing acting to expand the use. Filing first might preserve your rights. Again, check with your lawyer.
posted by caddis at 7:11 AM on March 31

The classic partnership break-up mechanism is a "shotgun clause". Whomever wants to break up the partnership makes an offer to buy the entire company. Then the remaining partner can accept the cash OR they can pay the exact same price to buy out the offering partner. The price cannot be changed from the original offer and there is a timeline before which a decision must be made.

That way everyone is motivated to put a fair value on the business. A price that is high enough that Partner A would consider selling the business for but not high enough that they wouldn't consider buying the business for.

In your situation, you definitely want to stay and Partner A wants to leave. So theoretically Partner A should make the offer to buy the entire company which they will have to turn around and sell so they can move across the world. However, Partner A knows that you will likely not sell and will want to buy them out with the value of the firm at that price. So Partner A has some motivation to go high. However, they are constrained that if they go too high, you will accept. So you should suggest that they make an offer while telegraphing that you are more than willing to start a new line of business and be rid of this old millstone around your neck. :)
posted by FastGorilla at 8:12 AM on March 31

My shotgun clause answer dealt with the valuation of the firm. As for your other questions:

2. It is a contract, you can ask/specify any repayment terms you want. You just have to have the other party accept them. If they don't agree, ask for a counter proposal. This is business... so negotiate... there is a win-win in there somewhere.

3. Sure they can remain a silent partner. But do you want that? They don't seem to want that.

4. Don't know. Your lack of partnership agreement makes this tough. Your lawyer will have some precedent setting examples to help guide you. I guess in a totally hardball world, you and the remaining partner have >50% of the company so you can do whatever the hell you want so long as it is legal.

Oh, IANAL or your lawyer.
posted by FastGorilla at 8:20 AM on March 31

The value of the business will decrease if the departing partner starts a competing business (as opposed to a similar, but non-competing business). So if the value is set based on current profit levels, the departing partner needs to sign a non-compete agreement. Alternatively, the agreement can be to allow the competition, but to value the business at a lesser price, based on an expected decrease in sales and/or price reductions because of competition. In no case should the departing partner be allowed to have his/her cake (value of present business) and eat it too (open up a profitable competitor, decreasing your profits).

Also, it's not at all uncommon to specify that payments for the sale of a business will be based on future sales and/or profits (the former is less subject to accounting manipulations).

If the partner really, really needs a bunch of cash, now, consider co-signing for a loan rather than borrowing the money yourself. That way, you can separate out his/her cash needs from what you really owe him/her for the 1/3 of the business. (Yes, co-signing does put you at some risk, but you can make your payments (for the purchase of the 1/3 share), in future years, to the bank rather than the partner. So, for example, the sale of the business is for an estimated $120,000 (based to some extent on profits), payable over six years without interest; the partner borrows $100,000; you co-sign; at the end of each year, you pay $20,000 to the bank; at the end of six years, the loan is paid off ($100,000 in principal, plus some interest).
posted by WestCoaster at 11:55 AM on March 31

FastGorilla's answer about the shotgun clause is the traditional way these kind of things are settled.
posted by bystander at 9:48 PM on March 31

Thanks everyone so far for the responses.

I am inclined to take b1tr0t's approach, seeing as how this company was entered into as a long-term venture, and is being bailed on by partner A. We would like to offer them a figure that partners B and C feel is reasonable, with payment terms over a 5 year period, and either they accept or they remain in the country and work for the company, sharing the risks and liabilities.

FastGorilla, as far as the shotgun clause, it seems that this would not be an option, as partner A definitely does not want to buy and partners b and c definitely not want to sell. Also, this is not the type of business that could be turned around and sold to anyone outside of our company. It seems that partner A is very motivated to move country, and wants money with which to do so. Our accountant said that if partner A moves away and no longer works for the company she can be forcibly bought out. Is this true?
posted by timshel at 2:50 AM on April 1

Our accountant said that if partner A moves away and no longer works for the company she can be forcibly bought out. Is this true?

This is exactly the thing you need a lawyer for.

I am inclined to take b1tr0t's approach, seeing as how this company was entered into as a long-term venture, and is being bailed on by partner A.

Yes, of course as far as being an employee of the company. On the other hand partner A is also a shareholder of the company just as much as your wife and has a right to get out. The ongoing payment westcoaster suggests (perhaps a declining share: 1/3 of the profits for the next 12 months, and 1/6 for the following 12 months) was what we had in our shareholders agreement.

Again, you stipulated that this is a close family member. Think about how much you want to further a family rift over money.
posted by shothotbot at 5:36 PM on April 1

I didn't see the thing about this involving family members.

Never go into business with your family.
posted by b1tr0t at 8:06 PM on April 1