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There are two problems in business–either you have a partner or you don’t

Most businesses require both an inside person and an outside person. The skills and personality required for each are quite different, and they seldom reside within the same individual. As a result, the business owner is likely to be much better at one than the other...and therein lies the problem.

It is hard to find employees who bring the right level of commitment and take the load off the owner....but a partnership brings with it all kinds of issues and complications as well. It is really a devil and the deep blue sea kind of situation.

No Partner

If you go it alone, you face all the issues inherent in being the sole decision-maker. You either rely on employees for one or more of the key elements or limit the growth of the business by doing too much of it yourself.

If you rely on employees, you face two different but allied risks. Either they simply do not have the focus and commitment that an owner does and are not up to the task, or they are and they will probably identify that they can do it better than you can, and leave at some point.

If they are simply not up to the task, then what I have found is that it takes way too long for the average owner to identify that and even longer for them to take action. If they are up to the job, then there are very different risks in the mix.  

I built a 225 employee firm without partners and relied on my VP of Sales and my Chief Operating Officer to handle key parts of the business while I filled the CEO role. Both started within a year of me launching the business; both were with me for 10 years almost to the day; both left within a week of each other and both started competing with me. One of them did some things that would make you flinch.  

There were many issues and lessons learned, notably that I should have fired both of them about three years previously...see http://www.stevedavies.com/steveisms/term-limits.html. The salient point here, though is that if your employees were better they would not be working for you. Sooner or later the better ones are likely to leave unless they have some kind of equity upside interest. 

In the second alternative where you keep control of all the important tasks yourself you limit the growth of the business.  Everything revolves around the owner who is working IN the business instead of ON it...the classic E Myth syndrome described by Michael Gerber in his classic book "The E-Myth Revisited" http://www.amazon.com/E-Myth-Revisited-Small-Businesses-About/dp/0887307280.

What that says is that people start a business because they know how to do something. They are the "technician" and chief employee and they reach a stage where they hit an invisible ceiling because there is a tangible limit to how much they can achieve.

What they need to is to free up some of their time and become both the "entrepreneur" who thinks about the direction of the business and the "manager" who puts in systems to make the business run more efficiently without relying completely on the owner.        

Partner

While many partnerships run harmoniously for years, if you take on a partner, then there are some really dramatic pitfalls lurking for the unsuspecting and unprepared: 

  • You may simply not get along from the beginning and take too long to realize it
  • Your roles may not be properly defined and one may feel that they are more valuable to the business than the other
  • You may grow at different speeds and have different life goals

I have seen all of these and have a plethora of war stories, and my first rule of partnerships is to start with the end in mind. The partnership will end at some point, at either your bidding or your partner's. Before you ever start up together, think about the disengagement and address how that will work.  

Whatever the structure, the legal side of the arrangement must be spelled out in a shareholders agreement. At the outset of any partnership, it is essential to work with a lawyer to create a comprehensive shareholders agreement that covers all the what-ifs inherent in joint ownership of a business entity.

That is equally true whether it is a C Corporation, a Sub S, an LLC or an LLP. It will contain, among other things, a buy/sell agreement, which is often funded by insurance.  Life is a lot simpler if the ownership is not 50-50, as that creates all kinds of issues.  As a practical matter, if you must be 50-50 then make sure that the shareholders agreement has a mechanism for resolving disputes.   

Not to have a proper document is sheer folly. I have seen a number of instances where no shareholders agreement existed and this is a huge landmine that could destroy the business at any time as there are no set "rules" or mechanisms and resorting to the courts is never a good option.

While most partnerships do have a shareholders agreement, very few have a partnership operating agreement.  This agreement covers the day-to-day activities and should set out the roles, limits of authority, what to do when there is a disagreement and so on.  This is a really important document that can have a dramatic impact on the success of a business.

One of the things that I constantly see is that partners think that their salaries should reflect their ownership share. This often tends to be the case with 50:50 partners (or shareholders) who feel that the salaries should be equal. This confuses ownership and operational responsibilities and is a serious mistake.

The salaries should reflect what the partner actually does in the business and there is no reason why they need to be equal.  The salaries reflect operational responsibilities and come out before the determination of net profit. It is the resulting net profit after the correct costs of running the business that is split in line with the ownership percentages.

What often happens is that one partner feels that they are working harder than the other, and this starts to create a dynamic where their dissatisfaction can destroy the relationship between the partners.  I have seen it a number of times in the medical field, where one partner is running the business while the other is seeing patients full time. 

What frequently happens is that the partner who is seeing more patients thinks that they are working harder and do not see the value that the other is bringing by doing the things necessary to make sure that the business is running properly.  These roles need to be spelled out very clearly upfront, and the salaries need to reflect the different activities. Perhaps both partners should be compensated on a per-patient basis, and the partner running the business should have a separate compensation package covering that activity.

This dynamic also happens in professional practices where one partner is the rainmaker and the other is the “inside man” who handles more of the work in the partnership.  Some years ago I was working with an accounting firm and the rainmaker was very frustrated that the “inside man” was not developing any new clients. 

I knew them both, and it was clear that the “inside man” would not be effective as a rainmaker.  I pointed this out to my client by saying, “You should never try to teach a pig how to sing…You won’t succeed and you’ll only irritate the pig.”  This amused him but drove home the point that each of the partners should do the thing that best suited their talents and that forcing his partner to do something where he would be ineffective was simply a waste of time.   

It may be that the rainmaker deserves some additional compensation for bringing in clients because that is a more valuable activity and changing the compensation structure before the remaining profits are distributed is often a good idea.

What also happens is that the goals change, and this can change the dynamic in a partnership.  I have seen this most often when one partner gets divorced. Quite apart from the emotional trauma that this creates, there is also the complication that the share in the partnership is part of the marital assets, and there is often a temptation to want to do things to reduce the value which fly in the face of the goals of the other partner.

For a number of reasons, one partner ay simply not want to work as hard as they have historically worked. This may be because of family issues or part of an exit strategy. The judicious use of salaries as described above can help alleviate this problem before it rips apart the partnership.

The overriding point about all this as I said at the beginning of this article is that you have to start with the end in mind.  The time to think about what you would do in some of these situations is at the very start of the relationship. It is much easier to handle things proactively on a “what if” basis rather than reactively on a “what-have-you-done?” basis.