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Partnerships - Part 4

You might not have enough funds to kickstart your business but chances are you know someone who has the money, and you are already thinking about making him or her a partnership offer.

On a personal note, I hate partnerships. They are messy and, in my experience, one of the partners always seems to carry the load. This leads to frustration and ultimately resentment. Most notable is the fact that a partner typically takes a salary and a share of the profit.

If you are prepared to pay a salary, you can get the skills you need without sacrificing equity. If you get it right, a partnership can work but the parties must have synergistic skills and perfectly aligned goals. If your prospective business partner has only money to invest, he or she is better as an investor with a well thought out exit strategy and limited upside rewards.

One of my clients is a manufacturer. When it comes to business ability and logistic management, she is a master. Her people skills are, however, almost nonexistent. The business is successful, but I believe this is in spite of her and not because of her. She desperately needs a front person to connect with the network and grow the business. She cannot afford to employ a person of the right caliber, but there are many suitable people who would jump at the chance of a partnership.

When choosing a partner, you should make sure they will add value in terms of their activity and not just their money. Include a performance clause in the partnership agreement so that if they under deliver you have a pre-defined exit strategy for them.

The most important rule is, never offer more than a forty percent share to a prospective partner. The optimum number is twenty-four percent. This limits their voting rights and thereby their power over the business. People who are providing money as part of their partnership deal are purchasing a share of the enterprise. There is, therefore, no need to give personal surety. As a partner, they will invest time and money and shoulder some of the risks. Remember that it is your business and you set the terms of the partnership. The better your business plan and the business opportunity, the more conservative you can be with your partnership agreement.

You should never enter a partnership on a handshake alone. Always have a lawyer by your side and make sure that a partnership agreement has been signed. This deal is worth nothing when things are going well, but you will be grateful to have it if things go awry.

‘The Texas Shoot-out’
It is essential that you have an ‘exit strategy’ built into your partnership agreement. My favorite is ‘The Texas Shoot-out’. The primary rules are that the partners can only sell to each other and that the process is final.

Here is how it works:
One partner notifies the other partner of their intention to sell their share of the business at a particular price. If the offer is declined, the declining partner is obliged to sell all his/her shares to the partner who proposed the sale at the same price.

Let’s take a look at an example:
Let’s assume that Tom and Keith have a partnership in a Network Marketing company. The net worth of their venture is $1 million, and Tom would like to exit the business. If they had included a ‘Texas Shoot-out’ clause in their agreement, then the following scenario would play out:

Tom would notify Keith that he would like to sell his half of the business for $500K. Keith now needs to decide whether to accept or decline this offer. If he accepts the offer, he must pay Tom the $500K. Tom gets the money, and Keith acquires the business.

If Keith declines the offer, then he is obliged to sell his share to Tom at the same price. Tom now has no option and must pay Keith and take over all the shares of the company. On the surface, this seems simple, but deciding on the price is an extremely delicate process. You need to determine a bid that will give you what you want. If your offer is too high, you may end up owning a business you do not want and overpaying for it as a bonus. If the offer is too low, then you may land up giving your company away for less than it is worth.

The main advantage is that it is fair - you only bid as much as you are prepared to pay, and the result is quick and final with few lingering ‘bad feelings’ between the partners.