When One Business Partner Wants Out and the Other One Doesn’t

Welcome to Partnered Up: Business Law, Deals, and Dynamics. Hey everyone, welcome into an all-new episode of Partnered Up: Business Law, Deals, and Dynamics with Jeff Fink, a partner over at Corrin, Lichtenstein, LLP, Out, and Massachusetts. I am your host, Mike Leon. You know, Jeff here advises business owners and partners on formation, growth, and dispute resolution for closely held companies. Today's episode, we're going to be talking about what happens when one business partner wants out, and the other one doesn't. Jeff, it's good to see you as always. I'm sure this is pretty common. You can kind of fill us in here. Like, how come I have you seen it where the one partner reaches a point, one wants to leave, the other one wants to keep it going? Is it something you see routinely? Well, first off, thanks for having me, Mike. And second is, you know, I don't want to sell my friends singing emo music, but everything ends. You know, from the perspective of an individual partner, you know, you may move on to a different job or a different company. You may move forever higher. You have passed away. So, you know, in that sense, it's universal, but there's so many businesses that go on for years and years without problems. So I wouldn't say it's universal that all partnerships are dealing with all these things all the time. You know, the other thing is that partners come and go, and the business may stay on. I mean, this law firm, for example, has been around for a long time. It's not all the same people who were here at the beginning. So it's just a natural thing. So bottom line is that it's good to have hard conversations. It can bind you together better as a group, but people can stick together for a long time. It's kind of like a marriage that way. Yeah. Singing groups break up. Everything comes to an end. Like you said, Jeff, you know, let me ask you, what usually drives that imbalance that you've seen in these arrangements where it's starting to dissolve. One partner's ready to exit, the others feel stuck. Like what's usually driving the imbalance? It's really the same things that come up over and over again, and there are a lot of different reasons for it. One is mismatched expectations at the outset. When you start the business, one partner will want it to be one thing when it grows up, and another partner doesn't want something completely different, and they don't realize that at the time until conditions start to change or as time goes on, you know, changes in the business environment can change expectations too. You know, the example somebody gave me when I was a young lawyer was that if you had a huge supply of whalebone at the time that corsets were popular, and then suddenly they weren't, and one partner wanted to stay in the business just in case corsets ever came back into fashion. And the other said, no, I think we're time to move on. So that kind of change does affect things. Another one is if people work together a day and night to build a business, and then somebody has children and wants to dial back on the work to spend more time at home, a very common situation. One owner can get a better offer, like a new job. The business itself can start to have problems, and people worry about how to fix them or disagree on how to fix them. Deadlock is happens a lot. There's aging out like retirement, fiduciary duty issues, like where you find one partner has been taking money or behaving badly or are really not working in the business at all anymore. Somebody dies, obviously it ends. And the last thing is good old-fashioned personal dislike that develops over time. You know, you could be best friends at first and maybe not after a while. Sometimes that happens. I'm laughing because I've had friends that have started businesses that have gone through something similar. But here's the question I asked them, but let me ask you because you're the lawyer, how much is the original operating agreement or the partnership agreement now that they made before, shape what options are available for one of them to exit, or for the other one to keep the business? Well, you mentioned singing groups breaking up before. A lot of them don't have formal agreements, and if suddenly there are some residual checks coming in for something they recorded, and they're not around as a joint entity anymore, how do they divide it up? It's problem. So if the agreement has a provision that addresses the issue that comes up it usually directs what the options are, and we can write these agreements so that they cover the most common problems, but you can't think of everything in advance. So there are a lot of things that can go wrong, not that many new things. Sometimes there aren't great solutions for things like deadlock, but there are okay solutions to a lot of them. And of course I always tell people it's less expensive to try to fix it up front when the problems are just typed up that ago, than to fix it down the road. Well, Jeff, let me go back to something you just said because in that singing group exam, I got hauling notes in my head for some reason, but let's just say in that example, in isolation, just in a business, there isn't anything. There was no operating agreement. What tends to happen if there's no clear exit path that's laid out well in advance? It's the million dollar question. So most of the time people can negotiate a solution. And what they negotiate and the parameters that they work under are, what's the phrase, they're negotiating in the shadow of the law, very dramatic sounding. So there's usually some background law that addresses what happens and what that will depend on, what the problem is, what jurisdiction is, what type of entity is, and what went wrong. So example, what does somebody just wants to leave? And the question is, can you just withdraw? Can you walk away? If you do other people have to buy you out and how much do they have to pay for it? So there's some stature law about that, but that really informs the way that you negotiate things. If somebody passes away, is that automatically withdrawal from the business, clearly they're not working in a day to day anymore, what happens to their ownership interest? It goes back to their estate. And that's something that you want to have happen, or do you want to have an arrangement for it to get bought out? The kind of nuclear option is that one partner will step in and try to trigger a judicial dissolution of the business. And if people start fighting about that, that can end up in long, expensive litigation. So, again, most of the time people are able to talk the way out of a box, but not everybody. Jeff, can you walk us through, obviously without giving examples, specific details, I should say, a situation where one partner wanted out, the other one resisted, how the standoff kind of ultimately played out? That is a great question, Mike. So here's an example, two 50-50 partners. They had developed a really successful business. They were negotiating the sale of the business, and we're pretty far along. And one of these guys had even moved to Florida, you know, anticipating that he would retire down there to the sun and never have to think about money again. And then the other one got cold feet at the last minute. So they're stuck together. The LLC agreement they had didn't have a deadlock mechanism to decide these things. And the partner who got cold feet just refused to engage in any discussions of the situation other than to say, I'm never going to sell your stuff with me, or I'll buy you out for pennies on the dollar. So that led to big, nasty, expensive, multimillion-dollar legal fee litigation, which is, you know, should not be your plan A, since the owners couldn't work together anymore, because whatever trust they had had been destroyed, the court appointed a receiver to run the business and the receiver ran the business into the ground. At the end, the court ordered a sale of the assets that were left, and it sold for a whole lot less than had been on the table year and half later. And everybody lost. You know, that's not always the case in situations like this, but it was here. So it's, you know, really a cautionary tale to people to think about the stuff in advance and try to address the problems that you know are going to come up in advance before you're stuck with that million-dollar lawyer bill. Jeff, the follow-up for me, even on that example, you mentioned cold feet, but what other choices or reactions tend to kind of make the situations escalate themselves? Because in that scenario, cold feet then led to argumentative, you know, over my dead body, X, Y, Z, like what other kind of choices or reactions tend to escalate the situation? Greed, temper, you know, people get angry at each other and they do things like that. Kind of the the smartest person of the room syndrome, which I'm sure you run into, you know, somebody thinks they know everything, and you know nothing because they're smarter than you are, and everybody else in the room, and usually they're not, or they may be in their little narrow area, but not outside of that. Whatever dynamics and choices are written into the shareholders agreement, or the operating agreement, like in that example above, there was no mechanism for breaking the deadlock, and so because of that, they were stuck, they had to go to court in order to separate. The last thing that happens is that we see all the time, and if you think about it, you probably see it in your personal relationships, too, when things start to go south. There's something the the psychologists call fundamental attribution error, which is a fancy way of saying everything that's going well in the company is because of me and my efforts, and everything that goes wrong is your fault. Before I enter the fancy word for it, I used to call it toxic fly paper, because you know all bad things that happen stick to you, and all good things that happen stick to me, and those are really the main dynamics that happen, you know, if people start to get dug in, and they can't get unstuck from that, then then they're going to end up spending a lot of time talking to people like me, which they don't want to do. Well, unless they do it for a podcast. Exactly. Exactly. Thank you for putting up with me. Exactly. I know everything about the smartest person in the room syndrome. That's me to a tea, but listen, before we go here, let's give the people, the people that are watching this, that maybe they do have a partner right now, that they're like, oh man, I'm stuck with this person, XYZ, Jeff's giving me all these examples. Maybe they aren't there yet, but they want to be realistic. Like you said, plan out for this. What kind of exit conversations would you recommend that they start having, before anyone actually wants to leave the business? Well, first thing is to look at your operating agreement. Look at your shareholders agreement. You know, sometimes when people start to ask questions or make suggestions about how to change those agreements, it signals the start of something difficult, and maybe that'll be a discussion about how people separate and maybe not. That's a more complicated question. You know, you have greed, you have temper, you have the emotional intelligence of the people who who are involved. Yeah, it actually shocked me when people started saying I had emotional intelligence because the lawyers don't as a rule, but you need that in order to navigate these situations. How can you have tough conversations without pushing your partner's button? It's not always easy. You know, and probably the biggest thing is third party advisors can help people who have been through these discussions before and can look at your situation and kind of give you an impassive suggestion on how to move forward. You know, lawyers like me can do that, business coaches can do that, good accountants can do that sometimes, but you know, get some help because you're too close to it, and sometimes it's hard to separate your own feelings about things from your rational choices, and those feelings can be anything from disappointment, betrayal, anger, you know, again, greed, and sometimes you need to get past yourself because you can be your own worst enemy with this stuff. Yeah, it's great advice. Jeff, thanks again for the time to Insights. I appreciate it, my friend. Thank you. Really appreciate your time today, and thanks for talking to me. And that's it for today's episode of partnered up business law deals and dynamics. If you want to learn more about Jeff, you want to connect with the team over at Corn Lichtenstein, do me a favor, visit cl-lawgroup.com. Do me one other favor before you go. Hit like, hit subscribe, leave a review, comment, share the episode with somebody who's in an operating agreement right now. As always, I'm Mike Leon. See you everybody next time. Thanks, Mike. Thanks for watching. Be sure to hit that like and subscribe button, and leave us a review in the comments.