Written by Alice Stevens | Last Updated February 24th, 2020Alice Stevens has managed the health and life insurance content for Best Company since 2018. She’s passionate about conducting good research and understanding the details you need to know about insurance. When she's not writing and researching, she enjoys good food and travel.
Working with a friend to start a business can be great. You probably already work well together, have good rapport, and have established trust. All of these things bode well for a successful business and business partnership.
Caroline Conway, who runs her own law office says, “Many people who start their own businesses — and nonprofits — are caught up in the vision and passion for what they want to accomplish, and legal advice is a back burner subject for them. It's not natural to consider the possibility of future disagreements among partners. There may be conflicts about employee management, how to handle finances, and contracting with vendors.”
Planning ahead for conflict resolution and defining how business decisions will be made can help your business partnership function well and protect the business. While difficult to envision the worst case scenario when starting on good terms, failure to do so may have consequences down the road.
Write an operating agreement
Justin Kelton, Partner at Abrams Fensterman focusing on complex business litigation, says “For any new business, I always recommend that clients have a clear operating agreement setting forth the legal rights and responsibilities of each of the owners and investors.”
Operating agreements are often part of establishing the legal structure of a business. They can be drafted with the help of a lawyer or independently using online legal services.
Take the time to consider potential issues that your business may deal with now and in the future. Having the terms set and agreed upon at the beginning will prevent conflicts from arising and resolve conflicts if they arise.
Conway says, “I would also suggest contract templates, review of software licensing agreements, discussion of data privacy issues, non-disclosure agreements, advice regarding independent contractors, and other labor and employment issues.”
Non-disclosure agreements protect sensitive business information from being shared with other businesses and competitors. They are a great way to ensure that should a partner leave, they will not share sensitive business information without legal consequences.
Reviewing all the legal aspects relevant to your start-up and its future will prepare your business for growth and mitigate potential risks.
Define separation terms
As you are working through the Operating Agreement, think about potential scenarios and keep your options open, especially when it comes to partners leaving the business.
“Think through and negotiate the terms of separation for any partnerships at the outset,” says Elena Ledoux, Chief Mommy, attorney, and founder of Superb Maids and MommyGO.
Maybe you’ll want to buy out your partner one day or plan for retirement. Maybe you’ll want to take advantage of a dream opportunity and leave the business.
Conversely, if one of your partners wants to leave the business and take their own dream opportunity, you’ll want the business protected.
Kelton says, “If the business will rely heavily on certain key individuals, the company should consider whether non-competition agreements may be appropriate.”
Non-competition agreements limit an individual’s ability to start a competing business or work for a competing company. Usually, non-compete agreements have a time limit.
While a non-competition agreement won’t keep your partner from competing with your business indefinitely, it will allow time for your business to prosper and grow.
Protections for minority shareholders
If you’re entering the business as a minority shareholder, you’ll want to make sure that you’ll receive dividends from your investment. Unfortunately, that can be tricky.
Tina Willis, an Orlando injury and accident lawyer and owner of Tina Willis Law, says, “Under most states’ laws, minority shareholders have very few rights to get paid, even if they want to sell their shares and leave the business, or share in profits. These state laws can be circumvented with a written agreement between shareholders.”
Minority shareholders should pay close attention to the terms of the operating agreement and negotiate for terms that will protect their rights. Failure to negotiate these terms from the outset can lead to financial and legal headaches later.
Willis says, “My own husband faced many years of not being paid when a family business went bad. We finally had to pursue legal action to sell his shares. Even then, he was only able to sell because he had proof that the majority shareholders were starting a competing business and using money and other assets from the business in that new business. Without that new development, he would have had no ability to get paid for his shares as a minority shareholder, even though the company grossed about $20 million per year.”
Understand the terms
As with any legally binding document, it’s important to understand the terms.
Ledoux says, “I would suggest that entrepreneurs should really make sure they understand the legal agreements they're signing. Whenever the terms are too complex or obscure, they should require simplification and explanations.”
Of course, you and your partner can do the research to understand and review your partnership agreement. Doing so will take more time and effort on your part, and you may prefer to spend it on other aspects of your business.
It may be worthwhile to work with a lawyer when setting the terms of your operating agreement.
Willis says, “Make sure, if they have partners or other shareholders, they pay the money to have a lawyer draft, negotiate, and carefully review the terms of any partnership or corporation documents.”
A lawyer can explain the legal terms in an agreement and explain how the terms of the contract would play out in different scenarios. A lawyer will also ensure that your agreement is legally enforceable.
Working with a lawyer can help you have confidence in your business and set you up for success.