Business partnerships that break down often result in the restructuring, dissolution, or sale of the entity. Regardless of the cause, when business partners choose to separate and sell or restructure their interests, this process, known as a “business divorce,” can become complicated due to conflicting interests.
Disputes are inevitable during this process, resulting from differing visions, financial disagreements, strategic differences between partners, and more.
To resolve disputes among business partners while avoiding costly litigation, this article provides business owners with practical tips and strategies to aid in the process of amicably resolving business disputes while remaining contractually compliant with operating agreements.
1. Understanding the Roots of Disputes in Business Divorce
Business divorces result from numerous types of disputes among business partners, including:
- Differing visions (e.g. short-term operational strategies or long-term decision-making)
- Financial disagreements (e.g. reinvestment of profits, debt management strategies, profit shares)
- Disputes over ownership stakes or intellectual property rights
- Personal disputes
- Loss of credibility (e.g. a partner commits fraud or breaks a contract)
The process of a business divorce further intensifies these disputes, exacerbating professional and personal tensions between partners. When advocating for their self-interests, partners may adopt an “all-or-nothing” mindset that interferes with a fair resolution.
2. Key Legal Considerations During a Business Divorce
When preparing for a business divorce, it’s essential to review partnership and operating agreements to understand how buy-sell agreements, exit strategies, and termination clauses impact each partner’s responsibilities.
While under contract, partners have fiduciary duties to one another that compel them to act in the best interest of the company over their own self-interest. Breaches of contractual duties, including financial misconduct (e.g., fraud), quite often come to light during this process.
Additionally, each partner has a legal duty to uphold the rights of minority partners, including their voting rights and their right to financial transparency. Under the partnership agreement, minority partners may have legal recourse available during the divorce process if any of their contractual rights have been violated.
3. Strategies for Resolving Business Disputes Amicably
Business partners can follow these simple steps to resolve business disputes amicably:
Maintain clear communication, prioritizing the importance of honest discussions between partners, financial transparency, role assignments, and legal responsibilities.- Revisit partnership agreements, reviewing documented contracts to guide the decision-making process, including profit allocations.
- Negotiate and compromise, encouraging a collaborative approach between partners to identify mutual interests and ensure a fair and amicable split with minimum litigation.
4. Formal Legal Dispute Resolution Options
Even without contention, as the divorce process progresses, partners will require formal dispute resolution options, which can include:
- Mediation, which enlists a third party to assess the dispute, including existing contractual agreements, to foster agreement between partners. Mediation can ensure confidentiality and cost-efficiency while preventing disputes from escalating to litigation.
- Arbitration enlists a third party to make a binding decision in the dispute based on current contractual agreements and other considerations. Unlike mediators, arbitrators have the authority to legally resolve disputes, which can be faster, more private, and less costly than litigation.
- Litigation may become necessary in a business divorce if disputes escalate beyond the ability of mediation and arbitration to resolve. Litigation is most often a high financial and time commitment, and often brings potential risks to the business’s reputation if the court forces a buyout.
5. Common Areas of Dispute in a Business Divorce
Business divorces often focus on five key disputes:
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- Equity or Ownership Rights, such as who owns what percentage of the business, how interests can be fairly divided, and how capital contributions and fiduciary responsibilities will impact the final results of the dispute.
- Buyout Terms and Valuation include decisions over whose interests can be bought, the value of buyouts, and the methods for conducting fair business valuations (e.g. independent appraisal, an agreed-upon formula, or a buyout negotiation).
- Intellectual Property (IP) Ownership, such as who owns the business’s intellectual property (e.g., trademarks, copyrights, and proprietary knowledge), can create potential conflicts over the future use of intellectual assets after the divorce.
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- Asset Division and Business Continuation, such as how to split business assets (e.g. real estate, inventory, and business accounts), including how goodwill is valuated will be relevant in the division process.
- Customer Relationships are the base of conflicts over customer lists, existing contracts, and key client relationships, including establishing non-compete agreements or clauses to protect the business or limit one partner’s interference post-divorce.
- Control of the Partnership, which partner retains control of the business and which partner departs the business.
6. Best Practices for Preventing Future Disputes
To prevent future disputes, business partners can follow these simple steps during the business divorce process:
Draft clear contracts from the outset, including partnership and operating agreements, to outline the ownership structure, capital contribution guidelines, operational responsibilities, legal duties, exit strategies, buyout provisions, and more for current and future partners.- Define roles and expectations early to reduce the ambiguity of each partner’s role and obligations to avoid misunderstandings.
- Establish dispute resolution mechanisms, including mediation and arbitration clauses as well as trigger situations for how future disputes will be handled.
- Conduct periodic valuations to reduce future disagreements over company worth in the event of another dispute, including maintaining financial transparency and accurate record-keeping to prevent claims of mismanagement or fraud.
- Consult experienced business attorneys to assist in drafting agreements and navigating the divorce process, including complying with state laws and protecting the rights of partners through the negotiation process.
Seek Legal Representation for Business Dispute Resolution
Business partners should recognize the signs that a divorce is imminent, including communication breakdowns, breaches of agreement, and threats of legal action. These signs imply the need for legal representatives experienced in resolving business divorces, including experience in reviewing agreements and identifying risks in similar businesses.
Appropriate legal counsel will lead businesses through the negotiation, mediation, or arbitration processes before resorting to litigation.
Contact the experts at KPPB LAW to protect your rights and interests in a business divorce while minimizing the damage to both personal relationships and business operations.