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November 8, 2015
It’s exciting when you and a friend formulate a plan to open your own business together. Whether it’s a bar, a line of apparel or a cup cake bakery, you’ll undoubtedly share a similar vision and agree on everything required to start the company. However, as a business owner, you’ll also need to look at several other considerations, some of which may seem far-fetched at the time. Preparing for the possible, no matter how improbable, is the best way to protect yourself and your business from unforeseen conflicts that may arise later.
1. Make sure you have an effective operating agreement
Starting a business with friends and family members can be a great experience. You already have a relationship of trust and you generally know how the other person thinks. However, even the best of friends or the closest siblings can find themselves at odds when it comes to financial decisions. Before you start your business, make sure you sit down and outline exactly how you want to run the business. Ask your potential partners to do the same. Then, get together and see where you agree and disagree. Take any of the disagreements and work out a compromise. In the end, you should have an agreement that satisfies all parties involved.
2. Think about how the business will wind-down if necessary
If you take nothing else away from this article, take this one very seriously: Make sure your operating agreement discusses the winding-down process. Many people get into business with friends and family because they get excited about the start-up process. They think about office space, customer acquisition, product development and all the great employees they’re going to hire. However, they often neglect to consider what happens should the business fail. How will you pay your vendors? Who will be responsible for determining if the doors stay closed? It’s easy to focus on the positives of your business, but don’t forget that there’s always a possibility the some of the negatives may come to fruition. Having an operating agreement in place that discusses the possible demise of the business, including responsibilities and liabilities, will make sure that you are protected should the unthinkable happen.
3. Determine how the business will pay for unexpected expenses
When you start a business, you undoubtedly considered your start-up costs and divided the capital requirements amongst the partners. However, make sure you also consider what you’ll do should unexpected expenses arise. If each of you contributed all you had to the business, what happens if the $30,000 tap system you installed in your bar doesn’t work and the vendor won’t get back to you? Where will the extra money come from to fix the problem? You’ll need to have an agreement with your partners on where to source extra financing. Options include bank loans, raising capital from investors, and digging deeper into your personal savings account to cover the expenses. Knowing beforehand how you’ll pay for the unexpected could save you unnecessary headaches and arguments.
4. Make rules on how business decisions will be made
It’s easy to assume that a partnership should consist on equal voting rights among the partners. However, that may not necessarily be everyone’s opinion. For example, the person who puts up 70% of the cash may not be happy that he only has 50% of the vote. Another example is the father with thirty years of experience sharing voting rights with the son who just graduated college. Prior to staring-up, make sure each partner understands the voting rights they’ll have when decisions need to be made. Keep in mind, you can have different voting rights for different types of decisions. For example, the “money-man” could have higher voting rights for purchasing decisions, but lower voting rights when it comes to hiring employees.
5. Remember that the rules can always be altered
I’ve seen partnerships fail to form because the partners can’t agree on every little contingency prior to starting. Remember, your operating agreement can always be altered if everyone agrees on the changes. The essential portions of the agreement can be laid out now, with the gaps filled in as the business starts growing. Don’t worry if you can’t agree on how much money you’ll need to expand. For now, focus on these elements and worry about the rest later: Formation, Capital Contributions, Voting Rights, Winding-Up.
If you or your partners have any questions about forming your company or operating agreement, feel free to give me a call.
Best of luck to you and your partners!
Mike Terkanian, Esquire.
DISCLAIMER: The information provided in this post should not be construed as legal advice. It is provided for research purposes to give you basic information on the content contained herein. This post does not create an attorney-client relationship nor should it be used as authoritative. If you have questions regarding the conclusions reached in this post, please call our offices or contact your legal counsel.