The Chris Gethard Show is AMAZING; it’s a comedy talk show that is NOT for everyone (and that’s an understatement). Really? Is it raunchy? Eh, it’s not like Howard Stern, but its topics can be. For example, in its 2014 Halloween show it took up the topic of “Who’s Your Favorite Serial Killer?” Chris starts off that specific episode by saying- “If you want your comedy to be safe and happy all the time and easy, this is not the show for you, man. We never made that promise. If you want it easy, go watch CBS and ABC and you can laugh when the laugh track tells you to laugh and you can cheer when the applause sign lights up. We do not prescribe to that; we have never claimed that we do.”
What does this have to do with marketing, or with partnership agreement questions to talk through with your co-founder before you start a company? Not much; I just watched that episode last night, it’s top of my mind, and I was struggling for an intro. That said, the intro works. “Who’s Your Favorite Serial Killer?” is an awkward and, for some, hard question to answer, but (here’s the transition) so are the types of questions you should talk through before you have a partnership agreement drafted up.
When we started Iron Horse we wanted to have a partnership agreement in place. In searching online, we were unable to find a comprehensive list of partnership questions to discuss in advance of meeting with a lawyer, so we spent several hours compiling our own by finding questions on different lawyer blogs, articles, and the like. I’m not a lawyer, and after going through this exercise and all the filings to set up Iron Horse, any shred of a thought of wanting to get a law degree is gone. That said, below are the partnership agreement questions we came up with. We hope that if you’re looking to draft up a partnership agreement this list of questions is helpful. As a recommendation, read them through separately and then talk them through over a bottle of scotch.
Liability Partnership Agreement Questions
- Partner actions. Will the agreement limit the joint and several liability that partners have by law for their partners’ behavior? What is my liability if my partner does something illegal while representing the company?
- Authority/decision making. How will authority and decision making be structured? Will we operate by consensus or based on share of ownership? What is the tie-breaking mechanism used to avoid deadlock? Will partners have authority to control certain functional areas of the business without the approval or involvement of the other partners? What is the authority to act on behalf of the company without unanimous agreement?
- Money spending/borrowing. What is the procedure for borrowing money in the company name? When does borrowing require approval of the other partners? What is the scope of expense account authority before needing to consult with the other partners?
- Debt. What happens if any of the partners becomes financially insolvent and declares bankruptcy? Will you have to take on that partner’s creditors as your new partners? Usually in the case of bankruptcy, the economic interest of the insolvent partner will revert to the other partners, or, at the very least, be strictly limited to economic interest and not any voting or controlling rights to protect members of the partnership.
Personnel Partnership Agreement Questions
- Service providers. How will we choose a lawyer, accountant, banker, insurance agent, or any other professional service provider?
- How to bring in new partners. If we want to bring in new partners in the future, what will be the process for doing so?
- Employee hiring. How will we hire employees or contract workers?
- Vendor selection. How will we select vendors and suppliers?
- Customer selection. How will we select customers or clients?
- Family in the business. What if a spouse or child later wants to join the business?
Insurance Partnership Agreement Questions
- Business liability. What kind of business liability and/or property damage insurance will we purchase?
- Medical. Will we provide medical, life, or disability insurance or a pension plan for ourselves and our employees?
- Key man. Will we provide key man insurance on the lives or disability of the partners?
Ownership and Compensation Partnership Agreement Questions
- Ownership. How will ownership percentages be determined?
- Profit allocation. How will profits be apportioned? How will losses be allocated?
- Reinvestment. What amount of profits will be withheld for investment back into the business?
- Salaries. How will salaries or draws against profits be determined?
- Perks. How will company perks be assigned? (cars, stadium seats, etc.)
- Vacation. What other benefits will we provide? (vacation, holidays, sick time, etc.)
- Side Business. Are there any restrictions on engaging in other outside business activity?
- Conflict of interest. Will we forbid conflicts of interest and direct competition?
- Distributions. Who will determine when distributions are to be made? How will the members share in distributions? Will there be any preferences, or will all distributions be made pro rata? Will members be compensated for services they render to the LLC (beyond their rights to participate in distributions generally)?
- LLC tax distributions. Will the LLC be required to make distributions of available cash on at least an annual basis to permit the members to pay taxes on their shares of the LLC’s income?
- Work absence. What extent of absence from productive work will require renegotiation of the partnership agreement? How or will this change if the absence is driven from a serious family illness, disability, or some other life event that disrupts a partner’s ability to work productively?
- Disability. What happens if one of the partners is hurt and is no longer able to contribute time and talent to the partnership? How will this affect their ownership interest and the way profits are split?
Buy/Sell/Termination Partnership Agreement Questions
- Investor if gone? If a partner leaves, will the company pay for his share? Can a departed partner remain as an investor?
- Share allocation if join competitor. Will a departing partner receive the same amount for his share if he joins a competitor?
- 3rd party stock share sales. What restrictions and approvals apply to a partner selling his share of the business to a third party?
- Non-competes. Will the partners be required to sign a non-compete agreement?
- Partner firing. What is the process for firing a partner for incompetence or malicious behavior? What happens if a partner becomes impaired by drugs or alcohol, or gets arrested?
- Outside offers for purchase. What process will we follow if an outsider offers to buy the business?
- Shared asset division. Upon dissolution of the partnership, how will shared assets be divided?
- IP rights. Who gets the rights to intellectual property, customer lists, company files, and records?
- Name/logo rights. Who can continue to use the company name and logo?
- Mediation. What method of alternative dispute resolution (arbitration or mediation) will be used in lieu of litigation to resolve disputes between the partners? How will the arbitrator/mediator be chosen?
- Termination provisions. Will there be any special provisions that take effect upon termination (e.g., regarding the ownership of particular assets after the LLC’s termination)?
- Convert LLC. Will the managers and/or some quantum of the members have the right to convert the LLC’s form of organization
- Death. Insurance, trusts, and wills all come into play on this topic, so you’ll have to think through who in your life you trust to make decisions on your behalf. Who would inherit your shares of the company? Would you want your beneficiaries to have a say in what happens to the company (or, conversely, are you prepared to share power with your partner’s spouse/family member/friend)? In death, this is usually handled with a buy-sell clause that is funded with a life insurance policy.
- Quitting the business. How do you plan to exit the business? Is the remaining partner obliged to buy another partner’s interest if he chooses to quit the business? How will a buyout be calculated?
- Liquidation. If neither partner wants to continue the business, how will partners liquidate and divide all assets? How will partners asses the total value of the business upon dissolution? Who will appraise the business and what methodology will they use?
- Transfer of rights. What rights will members have to transfer their interests in the LLC? Will all the members have the same rights to participate in buy/sell transactions (or will some members have greater or lesser rights than other members)?
- Change of control. Under what circumstances, if any (e.g., death, disability, expulsion, bankruptcy, termination of service or, in the case of a member that is itself an entity, change of control), will the LLC and/or the other members have the right or obligation to buy out a member? If there will be buyout rights, how will the price be established, funded, and paid?
- Deadlock. To avoid deadlock, should there be a provision permitting a member (or group of members) to initiate a process as a result of which that member (or group of members) will either buy out, or sell out to, the other member(s)? In such a process, the determination of who will buy and who will sell is usually made by the non-initiating member(s). The price is usually determined by the initiating member(s) or by some valuation procedure.
- Divorce. How will you handle interest in your business where one partner loses partial interest in a divorce settlement? Will you take the ex-spouse on as a partner as well?
Contributions and Capital Partnership Agreement Questions
- Initial investment. What contributions of cash, property, or services will each of the owners (who are called “members”) make to the LLC?
- Additional contributions. Will there be any required contributions after the initial ones (e.g., to fund working capital needs)? If so, what penalties will apply if a member fails to make a required contribution when due?
- Additional interests to existing. Under what circumstances, if any, may the LLC issue additional interests to existing members (e.g., to fund working capital needs)? Will all existing members have rights to participate in any such issuance?
- Additional interests to new. Under what circumstances, if any, may the LLC issue additional interests to new members (e.g., to new investors or to provide service providers with equity stakes in the LLC)? Will existing members have rights to participate in any such issuance?
- Loans to LLC. Under what circumstances, if any, may the LLC borrow money from members (e.g., to satisfy working capital needs if other members are unwilling or unable to make a pro ratacontribution to the LLC to satisfy the needs) or third-party lenders? Will members have rights to participate in any loans to the LLC? Will members who lend money to the LLC have rights to look to non-lending members for reimbursement if the loans are not repaid?
Management and Governance Partnership Agreement Questions
- Management. Who will handle what? How will your roles and responsibilities be divided? Who will have what management duties?
- Operations. What are the expectations for how you’ll operate your business? What are the roles and responsibilities of the partners based on their skills and desires?
- Communication. How will you establish routines for daily communication? How and when will you discuss how you envision the future of the business and the steps to take in getting there?
- Decision-making. How will you make decisions for the business, especially when there is no consensus among partners? Will you make decisions without unanimous support?
- Book keeping. Who will keep the books? What financial statements will the partners receive? How regularly will they be prepared?
- Management structure. How will the LLC be managed? LLCs may be managed by their members (like general partnerships) or by one or more managers appointed by their members (either expressly in the operating agreement or by some voting or approval process). If a corporate model is preferable, LLCs may be managed by boards of managers that function like corporate boards of directors. If the LLC will have a board that functions like a corporate board of directors, how many people will be on the board, and how will those people be selected?
- Approval rights. If the LLC will have managers, what, if any, actions (e.g., issuances of additional interests, mergers, significant asset sales, significant capital expenditures, borrowings) will be subject to the approval of the members? Will particular members have special approval rights? Will particular actions require higher levels of approval than other actions?
- Disagreement. What happens if you and your partners reach an impasse on a fundamentally important issue? How will you handle it? Will one of you have the final say? Or will you instead have the last resort be a carefully thought through buy-sell agreement?
Still feel like starting up a company and signing a partnership agreement after reading through these partnership agreement questions? Even after those questions that feel like there is no right answer and that you’re just trying to select the least worst answer? 🙂
How did we talk through the partnership agreement questions? We took the approach that it’s the same set of rules for both of us, so we split the questions in half (if one of us had a very firm opinion on a specific question that he got that question) and we jotted down answers and then we talked them through. Discussing the answers versus a squishy question helped us quickly understand where we were fully aligned (over 90% of the areas) and the 10% where we should spend more thorough time to talk through.
If there are other topics that need to be considered or things that you didn’t consider and later wished you had, please add a comment below. Others can benefit from all our thinking when working through what to include in their partnership agreement.