Breaking Up (with a Business Partner) is Hard to Do

Have agreement in place or face state default rules.

By Stuart L. Pachman and Rose A. Suriano On Feb 27, 2017

Before going into business with another person – whether as a co-shareholder in a corporation, a co-member in a limited liability company, or a partner in some other form – ask yourself why you want to be in business with, and whether you trust, this person. Siblings, friends, and even strangers who join together in business envision a profitable venture, but should also prepare for the day when one will want “out” or one wants the other “out.” Divorce in a business relationship does not come easily and, often, a hefty monetary and emotional price is paid.

At the outset, the “partners” should understand what each expects from the other on matters such as effort and capital commitment. A shareholders agreement, partnership agreement, or operating agreement, like a prenuptial agreement, can, when both participants are on the same side of the table, lay out agreed ground rules to govern the relationship and provide for the possibility of a break up. If the “partners” have not availed themselves of business lawyers’ advice resulting in a written agreement, their relationship will be governed by the default rules of the state’s law, applicable to the entity which they have formed.

When one of two co-equal shareholders or LLC members wants “out,” the applicable New Jersey statutes afford the possibility of relief through an application to the court either on the basis of deadlock or “minority oppression.” Deadlock alone may be insufficient because courts are reluctant to grant a no-fault divorce, particularly when the business is profitable. Court decisions have determined, however, that a person holding a 50 percent interest in the business can seek relief as an oppressed minority shareholder.

The first issue in a 50/50 break up is who gets to keep the business and who walks. The second issue is the price and terms. A third issue may be competitive restrictions imposed on the one bought out.

Among factors that guide the court on the first issue is who is better able to continue the business without the other; who is more at fault; whose efforts have resulted in the success of the business; and who has the contacts with vendors and customers. A difficult choice is presented when the person better able to continue the operation is also the one more at fault.

In a leading New Jersey case involving a 50/50 corporation, the court awarded the business to the shareholder less at fault, from whose efforts the company had grown, and the one whom people in the industry viewed as the “face” of the corporation.

In the words of an old song, “breaking up is hard to do,” and in the words of an old adage, “when you enter, choose your exit.”

About the Authors: Stuart L. Pachman is a member of Brach Eichler LLC and is recognized as an authority on corporate law. Rose A. Suriano is also a member of the firm and focuses her practice on business litigation and contract disputes for large- and mid-sized companies.