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Family partnership

Expert: Kevin Tribe

Karen asked:

I have a small take out delivery restaurant, just bought, I put five thousand down and large monthly payments for a year, here is the question my brother wanted to come in partnership with me, I wasn't crazy about the idea, because of family, anyway he has put no money in.

I basically run the business, ordering and prepping. I put in average 72 hrs a week he puts in maybe 25, and the split of profits is 60-40, 60 me, he says the time I spend there balances out with my time because I get 60 per cent, this does not make sense to me, because we pays the bills from the business account so they are 50-50.

Kevin Tribe answered:

Well, this is interesting on a number of dimensions and to be fair more information is required before we could completely answer the question appropriately. There are several issues involved here: The first is one shareholder has invested money while the second one has not. A second is the issues of compensation for work completed, and a third is what an appropriate split of profits might be. Most important is that nothing was agreed to or written down so now they're in the business as shareholders; they're trying to build rules on how they'll handle things.

On the first issue, if the founder put the money into the company in the form of a loan, they should be entitled to interest which reduces profits to the company. If it was invested as equity, then when the brother entered the company, there should have been appropriate documentation to determine what the value of the company was at the time he entered, what his share was to be, and what if any investment was needed for him to acquire his shares. To receive 40% of the shares, perhaps he would have an obligation to pay the company 40% of the investment made by his sibling in order to buy in. This obligation might be paid out of future profits or employment earnings.

The writer hasn't said whether the two siblings each take wages out of the company, merely questioning the split of profits. I'm guessing because of the nature of the question, that the profits are the only compensation they're taking out of the company. It's an important distinction that the rights and obligations of the company to employees is much different than those of shareholders.

As an extreme example, employees who don't perform to standard can be let go and compensation discontinues, however in many companies they might still be entitled to be a shareholder and would receive their slice of profit distributions from the company. As well there has been a point made that one sibling is doing more senior work than the brother. In most companies different positions hold different responsibilities and therefore has different compensation. If one is working 72 hours and the other 25 then the company needs to address the question of how to pay the employees fairly, and hopefully there are profits left after this to distribute to the shareholders.

Finally the profit split is going to have to be resolved by the negotiation that determines what the shares of each of the two will ultimately be. This needs to be documented and should have been done before the brother stepped into the business. It sounds like a small simple business but already there are issues of contention. Imagine how these might grow and perhaps become a divisive problem in the family if the business takes off and is highly successful.

A good lawyer can help draw up the simple alternatives and a shareholder agreement that outlines the rights and obligations of the two shareholders. Document the deal and what happens if things don't work out, the business needs money, one shareholder wants to leave or other possible outcomes. A good shareholder agreement will be fair and equitable to both majority and minority shareholders, eliminating many sources of conflict.

About the author

Kevin Tribe is a partner in Pivotal Decisions Inc., a merger & acquisition intermediary assisting the executives of North American I.T. and high tech companies. Their primary focus is finding strategic buyers offering maximum valuations for shareholders.

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