How to avoid a partnership dispute

14th November 2023

As partnership practitioners, we have heard countless times the instructions “we are equal partners; and see eye-to-eye on everything” – as we reel off a comprehensive list of “what if’s”. Yet our battle-scars prove that this is just simply not the case. It is said that the road to hell is paved with good intentions. Simple measures, rather than good intentions, will keep your business on course to success.

Step one: strategy and goals

As to which any successful business owner will set testament, having a long-term strategy will inform the direction of the firm and future plans. Partners should consider from the outset how they envisage growing the firm – admitting new partners, and possibly even investors at the right time. Is the plan to sell the business in the future, for example? What happens if they disagree about this at the time? What are partners’ expectations around the knowns and unknowns – parental leave, sickness, retirement, exits and death?

Long-term leadership and management is often forgotten in the excitement of setting up the business. Yet it is important to consider how the firm is to be run, the work culture, and client-facing image. Partners will have different strengths – attracting new clients, running workflows and teams, and decision-making and management. Rarely will all partners excel at all these attributes, and in any event, they wouldn’t have time to do so. Early on, disgruntled partners tend to be those who look at revenue generation only, without attaching value to the other critical aspects of running a business.

Agreeing a mission statement and appraisal criteria at the outset will serve the partners well and assist any lawyer in drafting a partnership agreement with genuine value.

Step two: consider the worst case

Whilst it may sound obvious, it is far easier to agree on how to resolve disputes when you are not in dispute. Many firms have now moved away from the traditional capital in and capital out model and will often want to extract payment for the inherent value of “goodwill” generated over time.

The sums can be quite sizeable and most often the subject of the dispute on an exit. Consider at the outset how these payments are to be calculated, and the circumstances in which they will be payable.

Synthetic goodwill payments, earn-outs and anti-embarrassment clauses are often complex in the partnership context and specialist tax and legal guidance should be sought in drafting these bespoke provisions.

Step three: early discussion

Steps one and two will generally highlight whether partners are, in fact, “equal” and “see eye-to-eye on everything”. This evaluation process must be viewed as positive. All parties approach the venture with their eyes open, and in-step with the direction of the fledgling business, rather than embarking on a venture that is ill-advised.

Step four: the partnership agreement

And so to the “what if’s”. Personal relationships are rarely a good basis for a successful business, even in a family context. Businesses grow, more partners join, and partners’ personal values and situations change. Sadly, the road paved with good intentions does, all too often, lead to hell.

A partnership agreement should be fit for the next ten years and reflect the practical and aspirational aspects of the partners’ relationship. A well-drafted partnership agreement contains clearly defined duties and restrictions, equity ownership and growth potential, profit sharing arrangements, management and appraisals, and an exit strategy in line with the values of the founder partners. It should also provide for the impact of new partners, possibly with junior status.

Each partner is well-advised to seek their own independent legal advice throughout this process. Document the “what if’s” and consider the worst-case scenario if you want to avoid the battle-scars.

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