Insight

Don't Let Business Divorce Happen to You

So many things can lead business owners to divorce, but there are persistent commonalities.

Tips to Avoid the Risk of Business Divorce
Robert A. Royal

Robert A. Royal

July 25, 2017 11:11 AM

Introduction

As a business divorce lawyer handling owner disputes commencing with negotiation and ending in litigation, people ask me what I have learned about business owners who avoid business divorce. So many things can lead business owners to divorce, but there are persistent commonalities. Due to their positions of control, corporation management’s directors and officers (or managers, in the case of LLCs) are ultimately the people that cause the owners to suffer irresolvable conflict.

Here are some tips to avoid or reduce the risk of business divorce:

Inspire Trust

The unique nature of a private business and the relationship of its owners who usually serve in management requires trust. The element of distrust is present in every business divorce. Distrust usually stems from not discussing or even hiding financial transactions from other owners. Questionable decision-making unbeknownst to the other owners creates distrust. So keep the books, financial and business records, and decision-making in front of all owners.

Avoid Self-Dealing

When owners take company funds for their personal benefit and exclude other owners, conflict arises. Failing to properly account for doing so in the books and records exacerbates the problem. (Proper accounting can cure the problem as long as other owners are treated fairly or equally.) For instance, taking company funds to pay for personal flight lessons that otherwise could have been distributed as profits or used as operating capital is improper. Make sure company funds are used for company business, not stolen without the knowledge of the other owners.

Don’t Control Management Decisions without Meaningful Input from Other Owners

A sole dictatorship excluding other owners from management is usually not well-received. Put decision-making on the table, gather input, and fulfill owners’ expectations of contributing to the management of the company. A manager or officer, or perhaps a controlling group in the management such as a majority of the board of directors, may need to make the ultimate decision. Democracy must reign. A democracy includes the right to be heard. So let all owners be heard and contribute meaningfully to management.

Engage in Similar Management Philosophies

With the inception of a private business, the owners immediately share common goals and means to achieve those goals by virtue of creating the company. Stay on task. As the business grows and is subject to normal business cycles, opportunities arise to alter that management philosophy. Have a mission statement and stick to it. Follow precedent. Discuss openly, and set short-term and long-range policies that all owners can live by, then follow them in the operations of the business. For example, set your policy on reasonable salaries, and when profits are available, determine an appropriate profit distribution without taxing the capital of the company.

Don’t Take Advantage of Your Position

A person or a faction of people that can control certain aspects of the entire business may be in a position to take advantage of the situation for themselves, causing business divorce. This may lead to financial rewards going to one person or one faction discriminating against another. Remember the golden rule, and always be fair, honest, and reasonable with your fellow owners. By keeping the best interest of the company and your fellow owners at the forefront of your decision-making, you will not be taking advantage of your position.

Family Issues Are Not Business Issues

Closely held businesses are oftentimes owned only by family members or by a mixture of family members and others. Separate family issues from business decisions. Intra-family disputes at the dinner table should not spill into the boardroom. Check sibling rivalry, parent/child issues, in-law problems, extended family concerns, or other family conflicts at the door.

Solve Personality Conflicts

Owners enter into business relationships as friends—or at least not as enemies. They believe that by joining forces, they can create a successful business to support themselves and their families. Hopefully, these business owners have vetted each other enough to understand what to expect going into the relationship. Have they spent enough time together discussing and hashing out their business plan? Can the business owners accept each of them as they are, including the personalities the other owners bring to management? Don’t jump into business together too fast. If conflict does arise because of personality traits, consider not only an open discussion but the possibility of seeking counseling from business psychologists or relationship advisors specializing in business.

Enact Owner Agreements

Documents such as a Shareholder Agreement in a corporation, an Operating Agreement in an LLC, or a Partnership Agreement are designed to provide the rules and regulations of how to operate a business. Good agreements that provide conflict solutions, problem-solving for owners, and an exit strategy are vital. Follow them.

Act in Good Faith

In managing the company for the benefit of the company and the other owners, always act in good faith and in the best interest of the company, as you would expect a reasonable management person to do under similar circumstances. Investigate, gather information, and make informed decisions for the benefit of the company and its owners. By doing so, you will be protected under the law by the Business Judgment Rule. Generally, if you exercise business judgment for the benefit of the company and act in good faith, you are in conformance with the Business Judgment Rule; even if your business decision is not the best one, you are properly discharging your responsibility. A judge cannot question such decision-making. You have the right to rely on others—in particular, professionals who provide input into decisions beyond your expertise. If you think there may be a conflict between you and the company regarding a business decision, opportunity, or contract, bring it to the attention of the other owners and have it approved by them or ensure that it is fair to the company.

Conclusion

Be honest with your business partners/owners. Treat them with respect. Be fair, reasonable, and put the company’s interest and your partners’ interests first. This will benefit you. Open and regular communications and transparent access to the books/records assist in meaningful management for all owners. These basic management principles will serve as anchors to avoid business divorce.

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See also: https://www.bestlawyers.com/article/divvying-up/859

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