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?
The first matter for you to conclude is to agree the terms of a shareholder agreement between the two founders. This shareholders agreement should govern the management of all significant governance matters. Without this you will subject to the constitution documents of the company and local company company law. This is a standard type of agreement that any decent corporate lawyer will be able to advise you on.
As the voting shares are held equally, then no major changes will be able to be made without both founders agreeing to the changes. The non-voting shares (assuming all other terms are the same) will have equal rights to financial returns (dividends and liquidation rights), but will not be able to participate in voting issues. In simple terms, you will have an equal say in the running of the company with your co-founder, but will receive 25% of the returns, while they receive 75%.
My first question to you is what are you trying to protect?
It sounds like you are trying to protect your controlling interest in the company. If that is the case you will accomplish the same thing if you have 50% of voting shares or 50% of total shares. You are in the same position either way. It will take both of you to "do" anything with regards to corporate actions.
You obviously will only have half of the ownership though under the scenario you presented. So if you are OK with that I don't think you have much to worry about.
My experience has been that the golden rule applies to partnerships. In situations where one person has 75% equity and 50% voting, the business may soon have financial problems either real, perceived or invented, that is the time for the partner with the most equity to negotiate more voting shares by injecting a little more money. Beware. This is not intended to be legal advice.
Don't stop taking massive action.
Best of Luck,
Michael T. Irvin
michaelirvin.net
My books are available exclusively through Amazon Books. Check out my book "Copywriting Blackbook of Secrets"
Copywriting, Startups, Internet Entrepreneur, Online Marketing, Making Money
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.
