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Five critical questions to ask when going into business with others: Kristen Porter

Not too long ago I worked with a client who didn’t have formalised rules drawn up around expenditure, drawings, or dividends in their business.

Despite this, it was usual that they would draw a certain amount of funds each fortnight, that their accountant would later reconcile as dividends.

It soon became clear there was insufficient cash available to meet the business’s short to medium term debts – which is a problem, because dividends can only be drawn from profits.

More issues arose when this client demanded their fortnightly payment, while their business partner refused, due to the risk of trading insolvently. With no set rules in place, tensions grew.

If the pair had a shareholders agreement that clearly outlined how and when dividends were to be paid out, this dispute could have been avoided, saving a very profitable business, as well as a friendship.

A shareholders agreement is basically an enforceable relationship roadmap; an outline of the rules and responsibilities that will apply to both parties throughout the duration of the partnership, and beyond.

Last month, we looked at what you should consider before deciding whether offering ownership in your agency, or going into business with someone else, is the right call.

Once you’ve made the decision that it is, you’ll need to ask some important questions before taking the plunge. 

Take off the rose-coloured glasses

I see this often when friends or family go into business together. Yes, you know each other well, and may think you’ll offend your partner by asking for a shareholders agreement.

But by drawing one up early in the piece, you’re actually protecting the relationship right from the start.

Just like the rose-coloured glasses often worn at the beginning of a marriage, the same can be said for a new business partnership – all you can see are the possibilities.

But like all relationships, you can’t predict the future – there will be bumps in the road, and disagreements are inevitable. 

A relationship road map, or shareholders agreement, will ensure your relationship is future-proofed to deal with any contingencies, and may include rules around behaviour, what you can and can’t do (both during your partnership and after it ends), rules around capital and financing, and how an exit will be conducted.

The agreement will be enforceable, but there are no strict rules about what goes into it.

The optimism around the start-up phase makes it the perfect time to share the ideal outcomes of the venture, including everyone’s overall end game strategy.

The first step is a conversation – but what exactly do you need to talk about?

Whether you’re going to be partners, shareholders, unit holders, or joint venturers, the big strategic questions that should be asked are very similar.

Whose call is it?

When making decisions, do you both get a say, or does one party call the shots? What happens when you don’t agree on things? You don’t want small issues getting between you, so it’s best to set this out clearly from the start, when everyone is getting along.

The percentage of ownership you take may determine the level of say you have in the running of the agency. Often, big strategic decisions require all shareholders to agree on the direction of the agency, however smaller day-to-day tasks may be in the hands of one of the principals or directors.

Ownership

There are various ways you can structure your real estate agency, such as using a company, trust, partnership or other vehicle.

Regardless of structure, you will need to determine what percentage of ownership all business partners are to receive. 

The contributions of each party will likely determine the ownership level.

If a cash buy-in is required, then ownership will depend on the business valuation and the cash being contributed. If in start-up mode, one person may contribute the capital (cash), but another could tip in intellectual property, client database or services to make up their equity share.

Profits

Again, the company structure will determine whether you receive profits as dividends or as distributions. Honestly, the distinction doesn’t really matter – what matters is that you agree how and when this will happen.

The ‘how and when’ will relate to whether certain KPIs need to be met before taking profits out, or if debt needs to be paid down first.

What if one partner wants to pump profits back into the agency to drive growth, but the other wants cash in their pocket via dividends to pay off their mortgage or go on a nice holiday (when we are allowed to again, of course!)? All things are possible, but you need to make a decision from the start.  

Client database

We all know the CRM and client database is the lifeblood of any agency. But who owns that database?  

If you’re merging with another agency this can get especially tricky, and is often overlooked.

Does each party retain ownership of their part of the database? What about the client data that is collected over the time you work together? If an employee buys into the agency where they work, and their boss leaves, who keeps the database?

The main issue arises when someone wants to leave the business. You can be as creative as you like when it comes to who retains ownership (subject to privacy laws), but spell it out from the start.

Exit

When going into business with someone, it’s hard to think about how it might end. At some point though, it will happen, be it by your choice or otherwise.

Although leaving by choice makes succession planning a little easier, we still recommend having a plan in place, such as whether the remaining partners get first option to buy you out, or whether you are free to sell to a third party.

Involuntary exits are much harder and must be agreed from the start. An involuntary exit can be on the death or disability of the business partner, or ‘bad leaver’ mechanisms, where a partner is kicked out – such as losing their real estate licence, stealing from the business or other bad behaviour.

Do it sooner, rather than later

Don’t leave the most important discussions with your partners until red flags start cropping up. Long-term, things will change.

You want your partnerships rock solid. Having an agreement in place can prevent conflicts, people getting burnt, and friendships going sour.

Now that you know what you need to talk about with your new business partner, you’ll have to figure out how you’re going to make that happen.

In the coming weeks I’ll share with you the best way to approach your business partner in order to have ‘the talk’, and the four steps to help you get through the process.   

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Kristen Porter

Kristen Porter is a legal practitioner specialising in real estate, property management and privacy laws. She is the founding Director of O*NO Legal.