Next year’s New Year’s resolution for business owners should be to revisit their documentation– particularly those aspects which cover exit provisions. You must ensure it remains relevant and provides a clear process on how to conduct a smooth exit under varying circumstances.
Separation is a part of life and for many it is the right decision. An effective resolution allows all concerned to rule a line and move on.
However, when the dissolution does not go smoothly it becomes an expensive exercise that drains finances and emotion in equal doses. The consequences of protracted unresolved business relationships have far-reaching effects.
Firstly, there is the cost of each party engaging legal representation which inevitably adds an adversarial flavour to the process and quickly extinguishes any goodwill that existed between the protagonists.
Both parties are constantly assured they have a strong position and the desire to “WIN” overtakes common sense.
Secondly, there is the loss of commercial value as the distraction from business that occurs whilst the battle rages and eats away at the principals time, energy, profits, and sustainability of the enterprise.
The result can be that by the time agreement has been reached as to how much of the pie each is to get becomes irrelevant, as the pie no longer has any substance.
Thirdly, the process of dispute takes a significant emotional toll on the participants particularly where they have conducted business together and been brought close by the joint endeavours. The loss of trust and respect manifests itself in a bitter unforgiving scenario.
Fourthly, when matters go to court a ‘no holds barred’ approach is deployed and people’s dirty linen can be aired in the most public of forums. Personal issues are often viewed as impediments to a professional’s ability to discharge his or her obligations to partners and colleagues.
Such human failings can destroy partnerships just like marital break-ups often lead to home lending foreclosures. Without some confidentiality agreement for protection, this can quickly spiral out of control with information of a personal and sensitive nature aired in public.
However, without doubt, the major cause for dissolutions escalating into significant disputes can be sourced back to poor or absent documentation around the agreed exit terms for the stakeholders.
This inattention is quite astonishing amongst professional advisers who would be scathing in their criticism of their clients if they paid as little attention to critical business issues under their watch.
A documented agreement should provide a road map on how to part ways with a minimum of disquiet and in a manner that maximises the value for all parties in an equitable way.
The process should be flexible and reflective of the reasons for separation, timeframes required for settlement and the process used to determine a separation value.
The triggers for separation fall into two categories – insurable or uninsurable events.
Insurable events are usually well thought through but difficulties can still arise if procedural aspects around the management of the claims in remittance process do not exist, if valuation methodologies are not well documented, if payment timeframes are not clear and linked to receipts from insurers.
Furthermore, additional documentation is required to address matters outside the insurance process including procedures around the settlement of debts, the release of security or guarantees, and other external factors that may impact the business.
The CGT taxation treatment around insurance policies are complex, avoiding the tax office taxing a significant share of any proceeds is essential. So, confirmation of arrangements around buy-sell agreements need to be correctly structured.
Non-insurable events including the following examples of the varying reasons behind the desire for people to separate –
- desire to move to greener pastures
- a partner not hitting contractual KPIs
- loss of trust
- a sudden departure due to family or health reasons
- alleged theft or fraud
- relocation interstate or overseas
- financial stress or external demands (if equity used as security)
The difficulty is that no single document can predict the nature or reason for a request to separate. However, this does not prevent a business from documenting the framework in a manner to enable the effective and smooth management of the separation request.
The strength of any relationship can be measured in the ease with which parties can discuss and resolve differences in opinions or views in a manner that enables the relationship to grow and be rewarding.
The inability to have open dialogue is an early indication of potential future breakdown and should also be a prompt to reflect on what documentation exists to enable an orderly exit should a separation be necessary.
The intent of the exit document is to provide a clear balanced and fair process to facilitate an exit while taking into consideration the circumstances of the separation and the ability for the business to operate going forward and that any acquiring party receives an appropriate value for the assets they purchase.
In some circumstances, the separation may be managed by an agreed allocation of the revenue source, with each party electing to manage the allocated clients in a manner suitable for them.
This becomes more difficult when the equity ownership is split to parties primarily performing different functions in the business i.e. one to a sales and advisory function and another to a back-end operational and administrative function. In these circumstances it is difficult to segment a client base by allocating the revenue source and as such an appropriate exit document needs to address funding mechanisms and payment terms upfront.
In conclusion, it is beneficial to reflect on human nature.
More often than not it is the accumulation of little things that destroys a relationship. It is rare for one isolated action to destroy a relationship but rather it is the aggregation of a number of little things.
Humans are often very jealous creatures and if an individual perceives another individual is getting too many non-reciprocal benefits then tensions will surely surface.
Ensuring your business has a mechanism and outlet to raise such concerns will prevent the snowball effect that may lead to a destruction of value and the end of a previously rewarding relationship.
In the absence of this or due to the need to separate it is essential a business has a clearly documented process.