I'm about to enter a partnership with someone. The original proposal was to be 50/50 partners, but now he wants to split the company into voting and non-voting shares. He would be effectively issue 100 voting and 100 non-voting shares.
He would like to inject $100,000 of his own money to help jump-start the business. In the end he would own 100 non-voting and 50 voting shares, leaving me with the remaining 50 voting shares, and effectively 25% equity.
I have also indicated that over time (if possible), I would like the right to buy back the other 25% equity to fully even it out. How can I protect myself in this scenario?
Entering a partnership where you hold 50% of the voting shares but only 25% of the equity overall exposes you to several risks, including limited control over decision-making and potential dilution of your ownership stake. However, there are strategies you can employ to protect your interests in this scenario:
1. **Clarify Voting Rights:** Ensure that your partnership agreement clearly outlines voting rights and decision-making processes. Even though you may hold 50% of the voting shares, verify that your voting power aligns with your ownership percentage. If necessary, negotiate for additional voting rights or veto power over critical decisions to protect your interests.
2. **Define Reserved Matters:** Specify certain "reserved matters" or major decisions that require unanimous or supermajority approval, regardless of ownership percentages. This can include significant changes to the business, such as mergers, acquisitions, or major asset sales. By establishing clear criteria for these decisions, you can ensure that your input is required for key strategic choices.
3. **Protect Against Dilution:** Implement safeguards to protect against dilution of your ownership stake over time. Include provisions in the partnership agreement that restrict the issuance of additional equity without your consent or impose pre-emptive rights, allowing you to maintain your proportional ownership in future capital raises.
4. **Maintain Control Over Management:** Secure management rights and responsibilities that reflect your ownership stake and level of involvement in the business. Ensure that key management positions are allocated based on ownership percentages or that you have the ability to appoint or remove management personnel as needed.
5. **Establish Exit Mechanisms:** Plan for potential exit scenarios and incorporate mechanisms to protect your interests in case of a disagreement or dissolution of the partnership. Include buy-sell provisions, drag-along and tag-along rights, and dispute resolution mechanisms in the partnership agreement to facilitate a smooth exit process and ensure fair treatment of all partners.
6. **Regular Communication and Oversight:** Maintain open and transparent communication with your partner(s) and actively participate in decision-making processes. Stay informed about the company's operations, financial performance, and strategic direction to ensure that your interests are represented and protected.
7. **Legal Review and Documentation:** Seek legal advice to review and draft the partnership agreement to ensure that it accurately reflects your rights, obligations, and protections as a minority equity holder with significant voting power. Address any concerns or discrepancies before finalizing the agreement to avoid misunderstandings or disputes in the future.
By implementing these strategies and protections, you can mitigate the risks associated with holding a disproportionate voting share relative to your overall equity ownership in the partnership. It's crucial to negotiate terms that safeguard your interests and promote a fair and equitable partnership arrangement.
