Considering a Partnership?
Weigh the benefits and challenges of organizing small business around key people.
A client/friend was looking for a way to reward four key people at his plumbing and heating company. He decided to offer them ownership and worked out stock shares for each of them. He figured this could save him cash in the short run, and reward them all in the long run. It’s a lovely idea conceptually. In actuality, it can get a little messier. And, it did.
One of the four shareholders embezzled about $10,000. His explanation was that he could just “borrow” it from his stake in the earnings. Another of the shareholders needed to be fired; he didn’t come to work on time and rarely fulfilled his job duties. My friend didn’t know how to fire him without reworking the ownership structure, so the unproductive fellow just stayed on for a couple of years. The other two were family members with very different ideas about how the company should be run. And, ever since they were awarded stock, they had been “lording” their positions over other team members, with confusing results.
Fortunately, my friend maintained majority ownership of the company. He finally sat down with his family and his lawyer, and crafted buyouts for the non-family members. It was a heart-breaking experience, and the relationships haven’t fully recovered.
When I asked him, “What did you learn from your experience?” He said, “I wanted my team to know how much I appreciated them. I thought it was a no-brainer to offer them stock in the company. I should’ve hit pause, and studied up on stock arrangements and partnerships. I still think ownership is a way to reward key people. However, next time, I will plan it out.”
What to do and not do
Interested in sharing the wealth and the stock? Below is a list of the best of what I’ve learned about partnerships.
“Know the way out before you go in.” — Al Levi
Before you jump in: Put a business plan together. Answer the big questions: What, why, for whom, how much and by when. Take a swing at the ‘how’ and assemble your list of top projects. Delegate some of the projects to your prospective partners. This is a good way to discover if you are on the same page and share the same values.
Create an organizational chart. It seems to be hip these days to roll without an org chart. However, an informal one will always evolve, and that gets weird and confusing. Be intentional and clear about team assignments, and flexible as needed.
If it makes sense to create a partnership: Don’t create 50/50 or other equal percentage ownership arrangements. There is room for one at the top of any organization. Someone has to ultimately set the point on the horizon and steer the ship.
Determine who gets to participate. What are the specific, behavioral criteria for becoming your partner, or a shareholder?
Clarify the investment from each partner. Determine if the money put in is an investment, or a loan, or sweat equity. Clarify how and when and in what order partners will be paid back.
Don’t offer stock as a replacement for paying people what they should be earning now. It’s a risky proposition to defer income that people believe they are currently owed.
Craft a legally binding operating agreement. You may want to encourage each partner to create an LLC, and to partner up the corporations. Each of you is well served to have his or her own lawyer.
You might profit share instead:
Instead of ownership, profit sharing may be a good way to reward key employees. Consider sharing a percentage of profits above a minimum established level of profit. Start with your budget and work together to come up with a compelling game with your team members.
A downside of profit sharing on net profits is that you, as the owner, dramatically impact that number with your “personal” spending decisions and tax strategy. You may want to attach profit sharing to the gross margin number.
Get a handle on the money: Note that none of these options make any sense if you are not operating at a known financial position (KFP). If you are going to offer ownership, or profit sharing, you have to keep meticulous score and share the data.
Operating at KFP allows you to track expenses and additional money paid in. Good to know if the partners ever want to be reimbursed.
Partners can prosper!
A couple years ago, I started ZOOM DRAIN franchising company with my best friends and colleagues, Al Levi, and brothers Jim and Jason Criniti, as my partners. Our plan was, and is, to franchise a drain and sewer company based on their shop as our model center.
So, we spent about a year laying out the details of the partnership. First, we talked about our vision, and what our company would look like. We nailed down goals in terms of numbers, dollars and time frame. Then, we dove into our values. Why were we doing this? What was the mission?
At Levi’s sage insistence, we mapped out how to get out. Life changes. No one wants to anticipate things like death, divorce or disaster, but they happen. What would we do if one or more members of the partnership wanted, or needed, to leave? We clarified the process we would use to valuate the company.
All of this was agreed to in writing, and signed. We formalized our organizational chart. Levi is the senior partner and investor, and the “buck stops here” guy. We each have our roles and help each other out as needed.
We even successfully reworked the capitalization structure about a year into our plan. We’ve agreed to how our investments will be recouped and in what order. I’m proud that we did so with no drama and in full support of one another. That takes what isn’t in the contracts or operating agreement: Trust and character.
I love my partners. I hope to have them as friends beyond the life cycle of our partnership. The partnership — the business — is a vehicle for us to achieve our goals, for what it will make of us in the attempt. It is so cool to celebrate the wins together! We are far from perfect, and I understand that life, well, gets lifey, and we may be challenged by unforeseen events. Still, I could not be prouder of my partners and our partnership.
Want to learn more?
A great resource is “A Stake in the Outcome,” by Jack Stack. Stack has created more than 30 employee-owned companies of all shapes and construct. He is generous with his best advice and real-life stories.
A terrific read for introducing yourself — and your team — to “open book” management is Stack’s other book, “The Great Game of Business.” This book was re-released on its 20th anniversary in 2013. Stack’s still cutting-edge business approach has had a huge impact on my philosophy and businesses. I heartily recommend both books.
Ellen Rohr is president of the franchise company, ZOOM DRAIN, www.zoomdrain.com, and offers “in the trenches” insights to contractors and family business owners. Reach her at 417-753-1111 or firstname.lastname@example.org. For free business tips, problem-solving webinars, money-making tools and lots of love, visit www.ellenrohr.com.