Partnership Agreements: Necessity in Small Business

By Dr. Jason White
Director of Investments, Family Investment Center

Many of us at one time or another during our careers are bitten by the entrepreneurship bug. Some will be successful, while others will not. Nationally, the sobering statistics are more than 60 percent of small business start-ups fail within the first five years of operation. The most common reason for failure is that the firm/owner runs out of working capital (money) before the business begins to make a profit.

Forming a partnership can help ease the individual burden of working capital contribution, as two or more partners can fund a business start-up with less personal financial pain than a single owner.

That said, anytime a business partnership is being contemplated, prospective partners should never go into business together until the details of their partnership have been hammered out. The document to accomplish this is commonly know as a partnership agreement.

Most attorneys with business law experience are easily able to provide prospective partners with a template outlining their rights and responsibilities to the business, and one another, for a reasonable fee. In my experience, you should NEVER enter a business partnership without first making such an agreement. Unfortunately, this is something I have learned from the school of hard knocks. The following is a list of basic items that should be covered in most every general partnership agreement.

Of course, the agreement should list all the “particulars” about the owners of the prospective business, including spousal information. The document should list the name, address and social security number for each partner, along with any other aliases, maiden names, etc.

The partnership agreement should discuss generally the purpose of the business partnership; the date of formation of the partnership; and the anticipated duration of the partnership, especially if it is to be for a finite period.

The agreement should nail down exactly how profits and losses will be shared by the partners, and how much capital each partner is contributing to the enterprise. It is a good idea to also codify how additional capital contributions will be treated. Will these be treated as loans from partners, or will additional contributions change the ownership structure of the firm?

The agreement should address what happens in the event of major changes to the partners, such as death, divorce and disability. What if one partner wants to sell his/her interest a few years down the road? What is the method for calculating the value of that interest, and do the remaining partners have first rights to buy the exiting partner’s interest before it is offered to an outside party?

The agreement should also be as clear as possible regarding the duties of each partner to the partnership, and how business disputes are to be resolved in the event of disagreement.

Dealing with these sorts of issues is much easier to do before a new partnership is formed than somewhere down the road when a pitfall occurs. I have seen, and been involved in, partnerships where the partners began the business as the best of friends and ended up as mortal enemies. A solid up-front partnership agreement can provide a road map to partners having to navigate these sorts of trying times.