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Can you trust your partner?


April 18, 2013
By Albert S. Frank

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A good partnership can improve a business; a bad one can sink it.

A good partnership can improve a business; a bad one can sink it.

Any working relationship is bound to come across rocky waters at some point – times change, friendships can end, shareholders could sell out, or a partner might die. Requesting a partnership agreement or a shareholder’s agreement lets you set rules on how to deal with issues like this before they happen, reducing the risk of serious disputes.

Here are a few of the many ways an agreement can save your business:

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Separate ways
Normally you cannot force out a partner or fellow shareholder unless there is a previous agreement giving you that power. Agreements should include a way for people to go their separate ways if necessary. There are also buy-sell methods, including “shotgun” sales or sales based on valuations.

With shotgun, one party offers to buy at a certain price. The other side then has the choice either to buy or to sell at that price.

For a sale on a valuation you would need a valuation method or an agreed figure. Be cautious because if an exact figure is in the agreement it could become unreasonable as the business becomes more or less valuable. You could then be stuck with that figure.

First right of refusal
Agreements also often include a right of first refusal, so that a partner or fellow shareholder who wants to sell his or her interest to an outsider must first offer to sell to those already in the business.

Restrictions on share transfers
You can have restrictions on share transfers so that you do not have to be in business with just anyone. This is often more of a concern in corporations with only a few shareholders.

Non-competition and non-solicitation
You can make clear in an agreement, that your ex-partner or shareholder will not be in competition with the business for a certain amount of time, and courts will enforce reasonable clauses. Courts will not enforce non-competition clauses that are too broad, or too restricting.

So an agreement that someone may not work in the fashion industry for the next 10 years anywhere in Canada would almost certainly be unenforceable. On the other hand, not allowing a person to sell cars within one mile of the joint business location for six months after ceasing to be a partner or fellow shareholder is more likely to be enforceable.

You can also agree that the person will not solicit business for a separate venture from the existing clients, and possibly also from existing prospects. Remember to be reasonable in the clause so that the court would be more likely to uphold it.

Decision making
You might want to set special decision-making rules. You could require agreement for certain types of decisions. Be aware, though, that to the extent shareholders take over the authority the directors normally have, the shareholders could be subject to the duties and liabilities of directors.

Dispute resolution
Hopefully disputes are rare. If there is one, you can set rules as to how to handle it. For example, you could provide for mediation followed by court if the mediation does not work, or mediation followed by arbitration.

Retirement, etc.
Someday a partner or fellow shareholder might be unwilling, or unable, to keep working in the business. You can set out in the agreement what happens then: generally there is some form of buy-out.

If the separation is resulting from a death, hopefully you had the foresight to work with an insurance company before the death that can provide the money needed for a buy-out and to soften the blow of losing a key player.

Review
An agreement should last for a number of years, but should be reviewed from time to time. I suggest reviewing annually, or at least every second year. After all, things change, and the agreement might have to change too.


Albert S. Frank is a business and trial lawyer with Rosenbaum & Frank LLP in Toronto. To contact him, please call 416-929-7202 or e-mail afrank@franklaw.ca