Deadlock is Often the Ultimate Demise of Good Business

Consider this common scenario.

You’ve entered into business with your spouse, friend, or relative. At the inception of your business, you agreed that both of you would serve as the directors or managers of the Company, and you would be equal partners, each allocated fifty percent (50%) of the shares or ownership interest in the Company. Your relationship with your partner is healthy; you trust them; you trust their judgment; you’re excited about your idea, about your business. And life is great until…….

….. You have your first real dispute. The one that does not solve itself nor does it resolve with a drink at the bar.

As the business develops, you’re faced with decisions about the future direction of the business, about major business activities. Eventually, there may be a decision on which you simply cannot agree. And because you have equal control of the Company, your conflicting views ultimately stalemate or deadlock the business until you come to some agreement or decision.

Unfortunately, more often than not, people in this common scenario do not properly plan for or consider the potential for corporate deadlock, and it can lead, not only to the deterioration of a personal relationship, but also a business relationship and a business.

 HOW TO RESOLVE CORPORATE DEADLOCK

Planning for the Future.

The best way to avoid corporate deadlock is to plan ahead.  This should be a major consideration when you enter into a business relationship with anyone.  Sit down with your partner and discuss setting up a procedure for what happens if a deadlock arises.  It may not be an easy conversation to have – it may be difficult to imagine disagreeing with your partner. But sit down with your partner early and really consider the following things: (i) the nature of the business; (ii) your business plan; (iii) you and your partner’s individual ideas of the direction of the business; (iv) what problems that could arise in the business, financial or otherwise; (v) each person’s individual skill set. All these things can play a role in your deadlock discussion and the most appropriate procedure for resolving a potential deadlock. These frank conversations are even more important when one party is providing the money and the other is providing sweat equity.

Shareholders’ Agreements and Operating Agreements.

We find a lot of times that people who enter into business with a family member or close friend don’t even have a Shareholders’ Agreement or an Operating Agreement. This might be for a variety of reasons – they didn’t plan for initial legal costs and fees; they feel that they will be able to run the business through oral agreements and understandings; or, they find it uncomfortable to discuss the issues found in corporate governance documents, like transfer upon death, disability, divorce, debt, dissolution, or simply the desire of one partner to monetize and be paid out etc.

We recommend to all our clients, regardless of relationship between partners, shareholders, or members (even husband and wife), that they have some form of Shareholders’ Agreement or Operating Agreement in place establishing the governance of the entity, the rights, duties and obligations of the parties, including, if necessary, provisions addressing potential deadlock scenarios in management or between members or shareholders.

Alternative Provisions.

There are a number of different ways that an entity can resolve deadlock, and, in fact, it may be beneficial to a Company to implement multiple or hybrid deadlock methods. These methods can easily be incorporated into a Company’s governance documentation. Here are a few ways to resolve deadlock:

  1. Create a third party advisory board – either with other Members or Shareholders of the Company, or even an outside third party knowledgeable in the business and/or decision subject to deadlock;
  1. Consider implementing automatic mediation or arbitration – this may not be feasible for all companies or for all deadlocked scenarios – it can be costly and time consuming – but it can be quite effective in preventing dissolution when there is a deadlock for a major decision;
  1. Consider splitting or designating certain decisions to each partner – for examples, this partner has the ultimate decision making authority on banking and property, and the other partner has the ultimate decision making on sales and marketing – this method requires the partners to determine strengths and weaknesses and delineate accordingly – this method is useful when doing some form of hybrid deadlock provision;
  1. Consider a buy-out provision – if the partners cannot agree, one partner can buy the other partner’s shares or membership interest – there are a number of ways to structure a buy-out provision;
  1. If nothing else works, provide for a definitive right to withdraw or force dissolution or liquidation without court intervention. In this instance, you may be left relying on the default solutions contained in the Florida Statutes [Sections 605 and 607] or the decision of a judge who is unfamiliar with your business.

Need help in putting in place a shareholders’ agreement or an operating agreement?

Need help revising your current agreement with some alternative deadlock provisions?

The Walk Law Firm is available to review your current Shareholders’ Agreement or Operating Agreement in order to help you determine if, in fact, it’s appropriate for you and your partner(s).  Document review and drafting can be handled on a Flat Fee or Fixed Fee basis. To learn more, please contact us at the Walk Law Firm.

 

Sweat Equity v. Money Investors: Who Makes the Rules? [The Golden Rule of Business]

Many years ago, while working as the General Counsel to a large public company going through a Chapter 11 Bankruptcy, I learned that the Golden Rule as we all learned it in kindergarten [do unto others as you would have other do unto you] is not the only Golden Rule when it comes to business. I certainly support and believe in the Golden Rule we learned in kindergarten and try my best to adhere to it, but when it comes to money and business, I have learned that the Golden Rule really is: the person with the gold makes the rules.

In business large and small, there is often reward and equity for those who have a great idea or are the work horses driving success (the “Sweat Equity Owner”). Typically, however, the greatest percentage of equity and, hence, the greatest return in pure dollars, goes to the person who put up the money in the first place (the “Cash Equity Owner”). Once the business gets going, this often leads to resentment of the Sweat Equity Owner and frustration of the Cash Equity Owner.

Not surprisingly, the Sweat Equity Owner often feels like he has worked harder and should be compensated for the hard work and ideas. In addition, the family of the Sweat Equity Owner has started to feel the pain of long hours and missed meals and events, resenting the Cash Equity Owner whose life and lifestyle has not changed at all.

The Cash Equity Owner is frustrated because the project is taking longer than expected to show a return and the Sweat Equity Owner continues to ask for cash, primarily to meet living expenses in the form of  salaries for business personnel. The Cash Equity Owner usually has other investments or businesses and more business experience and wants the Sweat Equity Owner to work differently and take his advice on how to get the work done more quickly so that product can get to market faster. His family (or fund investors) wants to know when they will see a return on investment.

Not to sound like a broken record on the reasons for Business Divorce, but there are some things that can be done at the onset of a relationship to avoid these dilemmas. Too often, when the relationship is formed, there is no substantive discussion of duties, timing for deliverables and exit strategy for the Cash Equity Owner. The conversations are very high level and never transcribed into a detailed agreement. One party calls cash loans while the other considers it equity.

In the last 12 months, I have encountered among other missteps: companies in which the equity was never issued despite cash being infused; standard Bylaws from companies like Legal Zoom were used, but no one ever read or understood what they meant; Articles were filed on www.Sunbiz.org indicating the names of managers, managing members, officers, owners … who were not in fact in the positions indicated and who had no authority to act on behalf of the business; domain names and other intellectual property placed in the name of one owner instead of the business …. This list is hardly exhaustive, but all have led to expensive legal battles between business partners on break-up.

When I get the call, whether as an attorney or mediator, that business partners are seeking to terminate their business relationship, the first step in my analysis is to look at the agreements between the partners.  These documents become the guide on how to proceed. If they have been carefully crafted and reflect the partners intent, often the cost to the business as well as the individuals for navigating the business divorce is emotionally and financially insignificant —- Owners typically know what to expect and time is spent implementing already agreed plans. Without these written agreements or mutual acknowledgment of intent of unwritten agreements by the Owners, the cost in the first days of efforts to separate can be thousands, and at times, tens of thousands, of dollars.

At this point you are probably thinking that I am exaggerating, but in fact, if a lawsuit needs to be filed  in order to keep the business running and make it clear who has authority to act, the effort is significant and lawyer time and cost is high. We start by preparing a complaint seeking injunctive relief and serve it with requests for admissions, production of documents and interrogatories. At times, we demand a receiver be appointed if we are representing the Cash Equity Owner and our client is not ready or able to step in and run the business. We seek emergency hearings to ensure if our client in good faith believes irreparable harm to, or waste of, business assets will occur if action is not immediate.  We often need to include third parties such as the domain hosts or banks to require them to turn over account codes and keys or to freeze assets.

Courts do not like to get involved in daily business activities and if the situation  lacks clarity, the court may appoint a receiver on its own. Domains and intellectual property will need to be be place in escrow; bank accounts will need to be frozen or unfrozen; payroll companies, customers, vendors, employees will all need to be notified as to who has authority to direct activities just to keep the business operating  and attorneys will be stepping into conversations with domain hosts, bankers, customers, vendors and employees…. all while on the clock. By the way, the Receiver will hire an attorney as well and both the receiver and attorney will also be on the clock.

Back to the Golden Rule — needless to say, the Cash Equity Owner often has the gold necessary to stay afloat while the Sweat Equity Owner does not.

Although good friends and family members make great investors because they are trustworthy, life changes and needs change over time. By having a frank conversation up-front and documenting the deal, before money is invested, much of the financial and emotional cost can be minimized on business divorce and friendships and family relations can remain favorably intact. Like a good pre-nuptial, shareholder agreements, operating agreements, and buy-sell agreements, can minimize cost in the future and avoid undue emotional harm. To me, it is well worth spending a couple hours in frank discussion and a couple thousand dollars up-front when investing in a business to avoid a later fight at ten times that expense.

At the Walk Law Firm, we regularly advise clients on these matters and encourage open discussion between owners. We can work as company counsel or as counsel to a business owner in helping businesses sort through these issues.

What is a Business Divorce?

Last month, I wrote about the not so odd couple – business divorce. In continuing my educational efforts and with the hope we can help folks in business avoid some of the most difficult issues faced when breaking up with a business partner, I am continuing my blog series on Business Divorce….

Business Divorce comes in many forms but has one common characteristic — the owners are at odds, or in agreement, and want or need to attend to the separation of their business interests. The typical reasons include, but are not limited to:

  1. Generational transitions;
  2. Owners are deadlocked on a material matter preventing the business from moving forward;
  3. The owners have different visions for the future;
  4. One or more owners needs or wants to cash out;
  5. A partner has become disabled or divorces and there are no contractual provisions which are triggered;
  6. One of the owners of a business is divorcing or separating from his or her spouse or life partner, which triggers one or more clauses in governance documents of a company;
  7. An owner becomes a debtor in a bankruptcy;
  8. An owner has committed fraud or has taken corporate assets as their own without the consent of other owners;
  9. An owner manager has committed waste;
  10. An owner is no longer contributing or supporting the business as part of management or financially.

When these matters come to me as a lawyer, I still deploy my mediator skills to seek an amicable resolution whenever possible. As a mediator, I employ my extensive knowledge of business law and my creative energy to find middle ground that brings the matter to resolution. As an attorney and mediator, I look to the governing documents (Bylaws, operating agreements, partnership agreements, shareholder agreements, actions by the Board and Management …. ) and governing law to advise my clients and to navigate the often treacherous waters.

I am often surprised that lawyers and clients have failed to address some of these items up front when creating the business. My clients know that we always discuss the “Parade of Horribles” when drafting governing documents, with the hope of avoiding undue conflict at the time the business is sold or owners separate.

In future articles, I will focus on the specific concerns that arise in business divorce and ways in which owners might avoid these issues with some up front planning.

Business Divorce – The Not So Odd Couple

Recently, I added the certification of family law mediator to my already extensive list of mediation certifications to the surprise of many of my friends and associates. It should not be surprising that an attorney with an active mediation practice would mediate family law matters in addition to other business, insurance, bankruptcy, patent and intellectual property and other disputes, it’s just that my law practice has been heavily focused on business matters and it appears that I have never been engaged in the area of family law, but actually I have.

My typical practice involves representing businesses and their owners in all aspects of business life.  I have been the Chief Legal Officer and Chief Administrative Officer for public and private companies, have navigated Boards of Directors and CEOs through Chapter 11 Bankruptcies, hostile take overs, mergers, acquisitions and a variety of other crises. Sometimes those crises and matters include the addition of new owners, the separation of executives and owners, disgruntled minority owners and overcoming deadlocks. In my post “big” business life, I have started a law firm that offers the same quality and level of service provided to our nation’s biggest companies to small and middle-sized businesses on a fee structure that smaller businesses can afford. The issues are no simpler; the legal services no less complex, and the need to protect business assets, confidentiality, dignity and reputation at least as challenging.

Complicating the business of small business today is the close relationship between business partners and life partners. I am finding often that the break-up of life partners can cause mass disruption to unrelated business interests and partners, especially when there are no provisions in operating agreements or shareholders agreements covering these issues. Sometimes, life partners are business partners as well. Even without the complication of life partners, I am finding that business people go into business with others without adequate diligence and without formalizing agreements at all. In the last six months alone, I have been engaged or consulted as either a mediator or lawyer in at least a half dozen situations in which business partners are seeking a “business divorce.” And I must say, my skills and knowledge gained through family law mediation combined with my business law knowledge and acumen has come in pretty handy.

If I can help you as a mediator confidentially settle your business disputes, or help you as an attorney negotiate your deal with your partners, please contact me by completing the form below or calling our office at 813.999.0199.

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Florida Legislature Passes New Revised Limited Liability Company Act – Important Reading for Members and Managers of LLCs

Intro

On May 3, 2013, the Florida House of Representatives unanimously passed the new Florida Revised Limited Liability Company Act (the “New Florida LLC Act”).  The Florida Senate unanimously passed a companion bill a week earlier.  Governor Scott approved the bill without issue or opposition on June 14, 2013.  Since LLCs are the most common form of business in Florida, this article is important reading for all business owners, especially owners seeking to protect their LLC assets and personal assets as soon as 2014. The New LLC Act will be codified as Chapter 605 of the Florida Statutes and will govern limited liability companies (“LLCs”) within the state of Florida.  The New Florida LLC Act is materially different, in both form and substance, than the Existing Florida Revised Limited Liability Company Act (the “Existing Florida LLC Act”), which is codified in Chapter 608 of the Florida Statutes.  If you or your company is an existing Member or Manager of a Florida LLC, or if you plan to become one in the near future, it is extremely important to understand the New Florida LLC Act and how it may impact your existing and future operating agreements and other governance documents.   The summary below is not a comprehensive review of the new LLC Act and is not intended to replace the advice of an attorney, but rather is designed to help you assess your own LLCs and potential need to take action.

When will the New Florida LLC Act become effective?

 The New Florida LLC Act becomes effective on January 1, 2014 for all LLCs formed in Florida on or after January 1, 2014.  For all LLCs in existence prior to January 1, 2014, the New Florida LLC Act will not become effective until January 1, 2015; however, the members of an LLC may elect to have the New Florida LLC Act become effective as early as January 1, 2014. To do so, the governing documents of the LLC will need to be amended.

How will the New Florida LLC Act impact my LLC?

 The New Florida LLC Act, like the Existing Florida LLC Act, and like most business organization statutes, is a default statute, which means that it provides a set of standard rules governing LLCs and how they are organized, how they operate, and how they are governed.  These standard rules may be modified, with limited exceptions, through specific language contained in either the Articles of Organization or the LLC’s operating or management agreement.  Like all LLC statutes, the New Florida LLC Act specifically prohibits the LLC from including language that modifies or supersedes certain statutory provisions (these are often referred to as “non-waivable provisions”).  This is significant because the New Florida LLC Act expanded the number of provisions which are now,  non-waivable and may not be altered by agreement of the members.

What changes were made in the New Florida LLC Act?

Expanded Non-Waivable Provisions.  The New Florida LLC Act has clarified that an LLC’s operating agreement may not remove certain rights, obligations and authority granted by the Act. Some of the provisions which an operating agreement may not change include:

  1.  The ability of the LLC to sue and be sued in its own name
  2. The right of a member to maintain a direct cause of action against the LLC, another member, or a manager in order to enforce such member’s rights and otherwise protect such member’s interest
  3. The right of a member to maintain a derivative action
  4. The right of an LLC to refuse to relieve persons, including members and managers, from liability if such persons acted in bad faith or committed willful, or intentional misconduct or a knowing violation of the law
  5. A Member’s or Manager’s duty of care, duty of loyalty, or obligation of good faith and fair dealing The  power of a member to dissociate from the LLC
  6. Statutory requirements with respect to the  contents of a plan of merger, plan of interest exchange, plan of conversion, or plan of domestication, plan of dissolution, articles of organization, statutory agents and other similar provisions
  7. The applicable governing law of the Florida LLC

Managing Member Eliminated.  Under the Existing LLC Act, there are three potential management options:  (1) Member managed, (2) Manager managed, and (3) Managing Member managed.  The New Florida LLC Act has effectively eliminated the concept of Managing Member managed.  It is possible that your operating agreement may need to be amended in order to avoid confusion, unintended results, and unintended personal liabilities, and to make very clear which of the remaining options you intend to use for your LLC.  For example:  once the New Florida LLC Act becomes effective, for those LLCs that are Managing Member managed, the Managing Member may no longer be able to act alone and may require all authorized actions to be subject to a member vote in accordance with the operating agreement.  In order to avoid an unintended result, you should revise your operating agreement and governance documents to reflect the intent of the members.

New Statement of Authority.

The New Florida LLC Act allows an LLC to file a statement of authority with the Florida Department of State as a way of providing constructive notice to third parties regarding persons authorized to act on behalf of the LLC.  The Statement of Authority will be effective for five years from the last amended or filed Statement of Authority, unless terminated earlier in accordance with the New Florida LLC Act.  You should consult with an attorney to determine the implication of filing a Statement of Authority and whether such Statement of Authority would be beneficial for your LLC.

Other Changes.

  •  Non-US entities are now permitted to domesticate as a Florida LLC
  • Non-economic members (members that don’t or are not obligated to contribute) are now permitted
  • The new Act includes specific service of process rules for LLCs

What should I do with my existing operating agreement?  Moving forward, how will my operating agreements be different?

If you or your company are a member or manager of an existing LLC, or are planning to enter into a new LLC, you need to understand the New Florida LLC Act and all the changes that were recently made.  At minimum, you should review your operating agreement with a qualified business attorney. LLC Agreements need to reflect how the members desire to operate the business. An experienced and practical business attorney will help you navigate the new Florida LLC Act in a way to help you amend your operating agreement to be consistent with your intent and operations.

The Walk Law Firm is available to review your operating agreement and help you understand the impact the New Florida LLC Act will have on your Florida entity. Operating reviews can be handled on a Flat Fee or Fixed Fee basis.   As experienced Florida business and commercial law attorneys, we have studied the New Florida LLC Act and can work with you to revise, amend, restate and draft new provisions for your LLC management and operating agreements eliminating unintended confusion or results.

 

Attorney Rochelle Friedman Walk has Achieved the AV Preeminent® Rating – the Highest Possible Rating from Martindale-Hubbell®.

NEWS:    In the world of lawyers, there are many honors and opportunities to buy plaques and spend money to bolster one’s career, but in my book, only some honors worthy of sharing. I have recently learned that I was named a Top Lawyer in Tampa Bay for 2012 and again for 2013 by Law.com, the National Law Journal and some other related publications. This honor stems from my AV – Preeminent Rating, which I achieved and have maintained for more than 10 years. It truly is an honor to be rated by other attorneys in the top category for both ethical standards and legal ability. Some details of the honor:

Rochelle Friedman Walk, a lawyer and mediator based in Tampa, FL whose primary areas of practice are Business and Commercial Law and Alternative Dispute Resolution, has earned the AV Preeminent® rating from Martindale-Hubbell®

“Tampa, FL, March 4, 2013 – Martindale-Hubbell, a division of LexisNexis®, has confirmed that attorney Rochelle Friedman Walk still maintains the AV Preeminent Rating, Martindale-Hubbell’s highest possible rating for both ethical standards and legal ability, even after first achieving this rating in 2002,” according to the press release I received today.

The Martindale-Hubbell AV Preeminent® rating was started more than 130 years ago and is used by attorneys while searching for their own expert attorneys. With websites and social media, anyone can determine a lawyer’s rating by looking  it up on Lawyers.com or martindale.com. The Martindale-Hubbell® AV Preeminent® rating is the highest possible rating for an attorney for both ethical standards and legal ability. This rating represents the pinnacle of professional excellence. It is achieved only after an attorney has been reviewed and recommended by their peers – members of the bar and the judiciary.

The Walk Law Firm provides general counsel and mediation services to a diverse array of local, national and even international clients with particular focus on providing practical business counsel and alternative dispute resolution for businesses with small or nonexistent legal departments. I initially launched the firm to better serve business and mediation clients. Our focus is to assist businesses and entrepreneurs achieve their goals in a cost-effective and expedient manner. Our lean cost structure is designed to keep the burden of significant overhead costs low.

I am also a Florida Supreme Court certified Circuit Civil and Appellate Mediator, serve on the FINRA, Bankruptcy Court and Middle District mediation panels, handling business and financial meditations for parties wanting an experienced executive and lawyer mediate their matters.

To find out more or to contact Rochelle Friedman Walk of Tampa, FL, call 813-999-0199, or visit www.WalkLawFirm.com.

As a result of this honor, American Registry LLC, has added Rochelle Friedman Walk to The Registry™ of Business and Professional Excellence. For more information, search The Registry™ at http://www.americanregistry.com.

I am very proud that I have achieved the AV Preeminent® Rating – the highest possible rating from Martindale-Hubbell®.