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Experts share top pitfalls to avoid when separating tech business. Part 3

Thursday, June 3, 2021

Startup Jedi

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There are different reasons why partners may disagree from incompatibility of temper and different approach to business to a boring routine. But it’s always better to part on good terms. And to do so you need to consider some nuances.

Let’s conclude with the expert opinion of Vyacheslav Ustimenko, lawyer (Ukraine):

— It is clearly easier to separate a business that is properly legalized. Unregistered partnerships pose the threat of business loss, unplanned exit or dilution of the share of one of the partners, as it was the case with Facebook co-founder Eduardo Saverin. When Zuckerberg invited two new investors, Saverin’s share in the authorized capital of the company was reduced from 34% to 0.03%. In order to retain at least part of the shares, he was forced to conclude an amicable agreement. A few years later, the court confirmed Eduardo’s right to 5% of the company’s shares.

To avoid such situations, it is recommended to use a partnership agreement or corporate agreement — an agreement between the founding partners. We have a Check-list of what aspects you should address in these documents.

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A corporate agreement can be entered into right before exiting a business. You also need to know how to leave: a well-thought-out exit from a business allows not only to recover some of the assets or close debtsbut also to preserve the business reputation of the entrepreneur.

  • Try to negotiate. Estimate the real market value of the partners’ share, so that one partner buys out the other’s share. The part of the participant’s share is determined by the market value with the aggregate of all the shares of the company’s members in proportion to the size of the share of such a member. Discuss the timing and stages of the share buyout. This can also be done a little later, say, within a year, which will help the company not to run at a deficit.

  • Use mediation, a method of dispute resolution that involves a mediator.

  • Part of the partner’s share can be made passive. For example, he owned 40% of assets and took an active part in business activities, and now he will receive 5–10% of liabilities. This can be included in a corporate agreement for an LLC or in a shareholder agreement for a JSC (joint stock company). This is how the partner’s consent to refuse from operating activities in the company is registered, and the corresponding provisions are introduced into the statutory and other documents. In addition, in such a case, before the separation procedure itself, it is necessary to make changes that reduce the contribution of one of the participants to the authorized capital.

  • Look for a new partner or investor who will be willing to buy out the stake of the partner who wants to exit.

How will conflicts in business be resolved if partners cannot come to an agreed solution? In the Anglo-Saxon system of law, the term deadlock provisions has long been used, when none of the partners has enough votes to make a decision on any of the key issues of the company’s activities.

When Steve Jobs and Steve Wozniak created the Apple company, Ronald Wayne became the third owner, whose role was reduced to smoothing out conflicts between the two main business partners. The current legislation of Ukraine does not provide for legislative regulation of mechanisms for resolving “deadlock situations”, despite the fact that the legislation is gradually being improved and is approaching international standards.

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In the meantime, difficult situations in the division of business, based on the principle of freedom of contract, can be settled in a contractual manner. Part 3 of Article 7 of the Law of Ukraine “On Limited and Additional Liability Companies” makes it possible to include the conditions or procedure when the partner will be obliged to buy or sell a share in the company in the agreement.

You can also apply the right of first refusal, according to which, if the offer to buy a share is not accepted, then the shares can be sold to anyone. Or apply the right of the first offer: an offer to buy a share before the shareholder selling his share can request offers from third parties for his shares. You can also use the Drag along right, according to which the majority shareholder selling his share has the right to force the remaining minority shareholders to join this transaction. But it should be remembered that without the consent of one of the partners to exit the business or sell his share, the exercise of these rights is impossible.

If the conflict cannot be resolved, then it remains to go to court. Just do not forget that during the trial, the functionality of the company will be partially blocked, the parties will temporarily not be able to use their own assets, and the division of the business may not be entirely fair, since the actual circumstances were not always recorded.

To conclude, a partnership is clearly built on trust, but this does not exempt from compliance with legal formalities. Agree at the start and regularly review contracts with partners. Your business is changing and growing, so the contracts must be up-to-date.

3 Jun 2021

 

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