The 50-50 Partnership: A Recipe for Disaster
On too many occasions, I have seen the same issue come across my attention. It is always the same story of two close, childhood friends who decide to make their dreams come true of starting a business together where everything including ownership and decision-making gets split 50-50. Do you see a problem with this? Well, soon you will.
Business partners believe that equal shares are the simplest way to go about things. They opt for this in attempts to avoid discussions and problems early on and believe it is the fairest possible way to approach matters. However, this is rarely the case. A 50-50 partnership is much more complicated than splitting candy bars and trading cards. Many people fail to see the potential negative ramifications that can stem from a 50-50 partnership.
Business partners are incapable of agreeing on everything and this quickly becomes apparent even if your business partner is a close friend. For this reason, it is imperative that as business partners you come up with a sophisticated method or management structure early in the business in order to solve conflicts in a reasonable manner when they arise.
First of all, this issue should only occur when regarding conflicts that truly affect the value and mission of the business. Such issues include material decisions, selling, buying, merging, and closing issues. They are important matters that are the “make or break” issues, which can cause lawsuits or liquidation. They are to be resolved at the highest level: the Board of Directors’ level. Resolving these matters are made much easier if each partner recognizes their responsibilities and are in control of their departments on an operational basis. Operational matters are to be broken up into their respective departments and decided at that level as opposed to the board of directors’ level. Usually, this is an allocation of power utilized in order to reduce a larger issue into a manageable one in which an agreement can be made.
I understand how easy it can be to enter a 50-50 ownership/decision-making relationship, and I understand the respect you may have for each other as partners. Sharing the hard work, respect, and the good and bad times together may seem like a meaningful concept and the right thing to do. However, this is the stuff movies are made of. The expectation that every matter will be agreed upon and that everything will work just dandy is seldom effective and highly unrealistic.
A great example of the difficulties encountered by a 50/50 relationship is marriage. Marriages are made of mutual and equal sharing and yet it is still difficult to keep one going. Although there are different issues involved, partnerships share the same quality.
Through observations, you’ll find that partnerships require a clear decision-making procedure. In order for things to get done and for decisions on larger issues to be made, there must be a “tie-breaker” concept and someone must have the final word when disagreements arise. A disproportion in the investment of time, capital, credit, assets, or skills invested can occur frequently. No relationship is ever exactly 50/50. Usually, cash is respected the most. As a result, the individual who brings the most cash into the business is the one with greater amounts of control in decision-making, leaving them at a 51% with the remaining partner having 49% of the share.
When dealing with a 51/49 split, when push comes to shove, the “money partner” can vote their extra 2% in order to control factors. With this split, they can presumably afford an opportunity to protect their investment and resolve the issue at hand. As a result, the importance of the cash investment is respected. I completely understand the value of sweat equity. However, keep in mind that cash is king in today’s business environment.
The main point here is to avoid 50-50 business ownership relationships as they can result in a great disaster. Control, a “tie-breaker”, and a final word will always be necessary.
In fact, the legal resolutions for these situations entail terms and procedures that are as follows: when a material disagreement exists within a 50/50 relationship of ownership interests, the business will be incapable of advancing. As a result, it will be considered as “trapped in a bottle’s neck“ in which the court will decide upon an orderly liquidation of assets for the benefit of the shareholders.
This issue should be avoided at all costs. It is the worst possible conclusion because it is always a disaster for all parties involved. However, if there is a 50/50% of shared power and authority with no arguments over important matters, this will be inevitable. The business will no longer run effectively and a disaster will arise for certain. So what about fairness and equality?
Here’s the advantage of Legal organization and operation agreements of an LLC: profits, capital gains, and losses can beshared differently than that of decision-making. For example, you may maintain a 50/50 profit split and hold a 51/49 decision making split.
Or you can have an even profit split and split the decision-making into two thirds. There are various ways to go about this conflict, but the result you want is to ultimately have one person with final control. Only one person is to say that there will be no impasse.
Only one person should have the authority to say there will be no deadlocks. There must always be a “tie-breaker.” Sharing profits equally and decision-making authority unequally is the best compromise. If you’re encountering this issue, it is not too late to change your plan but know that it will be difficult.
If logic is to prevail, resolutions should be made privately before a judge where the judge will order a sale of assets.
(See our more recent blog entry: “More About Structuring a 50/50 Partnership Successfully,”)
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