Business Articles
	CO-OWNERSHIP: 13 REASONS TO NOT GO INTO BUSINESS WITH OTHERS by Mary Hanson

There are at least 13 reasons for going into business alone – for not having partners, co-owners, investors, or whatever you might call them. The following are just a few of the issues that are likely to arise, causing you to wonder "What was I thinking when I decided to share ownership with these other people?"

1. Each partner or co-owner will have his or her own ideas on management and business decisions. Their ideas are unlikely to be the same as your ideas. Their style of management may be very different from yours.

2. Sharing decision-making is difficult. Do you really want to share decision-making when it regards your most important asset (the business) and your source of income?

3. If you are stuck in an unhappy business relationship, it can be very difficult to get "divorced." It cannot be ended without some co-operation from your co-owner. Most likely both parties will want to "keep the business."

4. If you stay in a bad business relationship, will your business reputation be harmed by the lower performance level of your partner or by the management style that results from the difficulties between you?

5. Having a co-owner without having a corporation or other entity exposes you to personal liability for your partner’s acts and omissions relating to the business.

6. Bringing in a co-owner as a shareholder or member (rather than a partnership) requires you to comply with laws protecting investors and shareholders. Disclosure of information, including financial information, is required, even if the additional shareholder holds just 1% of the stock of the company.

7. Having more than one shareholder in a corporation means that you will have to hold formal meetings, give notice of meetings, take votes at meetings, and observe all the other corporate formalities with the other shareholders.

8. Even if your co-ownership is in a corporation, you still need to have a shareholder agreement to place restrictions on the shareholders. The agreement should restrict other shareholders from selling or transferring their stock to anyone outside the corporation without first offering the stock to the other shareholders. It can take time and effort to negotiate an agreement that covers all the possible problems, such as stock buyback in the event of death, divorce, and termination of employment. If you are expected to sign the agreement, your transfer of stock is limited, too.

9. Your co-owner may want to be paid more, or work less, or give his brothers-in-law, girlfriends, children, or other people jobs.

10. Your co-owner may want to sell the business when you want to build the business up or want to invest and build the business up when you think the business should be sold.

11. Your co-owner’s financial situation is most likely different from yours. When you consider lifestyle, income needs, other sources of income, other financial obligations, and tax circumstances, it is unlikely that you and another co-owner will be a perfect match. Can you both agree to put in money (and actually put in the money) when needed?

12. Your co-owner's management activities may create liability for you or the business.

13. If your co-owner has control of the business activities or finances, he or she may be taking actions of which you do not approve. Business partners or shareholders have discovered that their co-owners have:

                 * taken an unauthorized salary, rent payment, reimbursement, bonus, or other payment;

        * entered into agreements with third parties without consulting the other owners;

                * hired employees without consulting the other owners;

                * filed tax returns that seem more like creative writing than financial data; or

               * stopped paying insurance, bounced checks, and otherwise improperly managed the finances of the business.

PROBLEMS OF CO-OWNERSHIP AS A PARTNERSHIP

The challenges of co-ownership are significant whether the business form is a partnership, a corporation, or another entity. It is true, however, that the liability is much greater in a partnership.

The considerable risks arising out of partnerships result from the claims of third parties against the partners. Such claims can arise from contracts, loans, employment, nonpayment of taxes, accidents, and defective products or poor quality services to customers.

Under the law, partners are agents of the partnership, and as an agent, each has authority to act on behalf of the partnership. A partner can enter into binding agreements, hire and fire employees, accept orders, extend credit, etc. One partner's poor business decision making, poor judgment, poor negotiation ability, or poor management ability can doom the partnership and also expose all partners to significant liability.

The liability the partners face is "joint and several liability", which means that each partner is personally liable for the debts, taxes, and claims against the business -- and each can be held responsible for 100% of a partnership liability, even if the partner's interest in the business is only a small percentage. Even if you have an agreement that all liabilities shall be shared equally, that agreement does not prevent your being sued for partnership liabilities.

There is no agreement between you and your partner that will stop a third party from suing you. Your agreement with your partner just gives you a right to sue the partner to reimburse you – for his or her portion of liability in accordance with the agreement. This is far less than ideal for a number of reasons. If your partner doesn’t have adequate resources, there may be no point in pursuing him or her, no matter what your agreement says.

Even if your partner has a tremendous amount of money, do you have the resources, time, and inclination to sue your partner? This would be the point at which you would wonder what you were thinking when you went into business with him or her.

PROBLEMS OF CO-OWNERSHIP IN A CORPORATION

In a corporation, the principals are not necessarily agents of the corporation and their ability to act on behalf of the corporation can be defined and limited.

In order to limit the management authority of other co-owners (shareholders) as officers or other employees of the corporation, you need to have agreement among the shareholders on the issue of such limitations, or else you must have legal control of the corporation.

Because of cumulative voting in California, it takes more than 51% ownership to really control the board. The vote required to elect 1 of 3 directors is really 25% plus one vote. The vote required to elect 1 of 2 directors is really 33.3% plus one vote. The vote required to elect both directors where the board has 2 seats is really 66.6% plus one vote. A 51% shareholder does not have the power most people would think.

If ownership and control of the Board of Directors is 50-50, you can easily end up in a deadlock. The result of a deadlock (where the Board of Directors fails to vote in favor of any action) can be that the actions necessary for effective business operation are not taken, and even that a lawsuit is brought to break the deadlock.

Under California Corporation Law that a corporation with 2 shareholders must have 2 or more directors, and a corporation with 3 or more shareholders must have 3 or more directors. Even if you have 99% of the stock, you lose power on the Board of Directors by having to bring in additional directors.

In any event, whether you have "control" or not, a reckless co-owner who takes action without regard to consequences can cause a lot of problems.

WHY DO PEOPLE GO INTO BUSINESS WITH OTHERS?

All of the above points to the question "Why do people go into business with a co-owners?"

There are three common reasons that business people want to have a co-owner. The first one is the need for the additional funds. The second reason it the need for the other person’s skills, contacts, or reputation. The third common reason, whether recognized or not, is the psychological need to have someone else to "help out" or "share the pain."

Unfortunately, very often the expected additional funds are not forthcoming, or not a meaningful amount. This can be the most sensible reason for having a co-owner, but only if the amount of additional funding is truly meaningful. An additional $10,000 often only covers the additional costs of having a co-owner!

If the key reason for having a co-owner is to have someone else to share the burden, there is a high likelihood of disappointment. It is just too difficult to share responsibility. The co-owner is more likely to be the burden than to help you carry the burden.

If your co-owner is an employee and you expect that ownership will be an incentive to hard work, you will find it often does not work that way. Ownership may be an effective reward for past performance, but giving someone ownership does little to cause him or her to perform. Many individuals merely lack the ability to perform as expected. The best incentive is likely to be giving money to those who actually do perform.

If the reason for co-ownership is the need for another person’s products, skills, contacts, or reputation, this need can often be met in a more effective manner by contracting with that person for the goods or services. If the other person cannot perform, he or she can be replaced. If he or she does perform adequately, you should both have your own successful businesses.

If you are the key person in a new business, consider getting into business alone. If the business simply cannot exist without the financial contribution or personal services of another (and you can't afford to hire the person for their services), then co-ownership may be the way to go.

If the other person is offering money, make sure it is enough. If it is not enough money to make a critical difference in the business plan, then it is not worth having that person involved.

If the other person is contributing services, do everything you can to make sure the person has a good track record of performing exactly the type of services you expect from him or her.

Have a detailed agreement between you before you start the business with co-ownership. And remember, even a great contract can’t make a bad co-owner into a good co-owner.

Mary Hanson, MBA, Attorney at Law (310) 543-1355 Torrance (Los Angeles County), California USA