Crafting the happy “divorce”

> The Right Partnership Agreement

Advisor: A few years ago, I teamed up with another advisor in my firm to share office and staff expenses. Since then, our association has been a good one; we have expanded beyond our original intent to the point at which we don’t hesitate to ask each other for advice on managing our individual practices and even deal with each other’s clients if one of us is unavailable.

We both have been watching your series on IE:TV regarding the buying or selling of a practice and have concluded that we should probably formalize our working relationship into a true partnership and make provisions for all the contingencies you have described in the videos. Do you have a sample partnership agreement that we could follow to make sure we don’t leave anything out?

 

Coach says: Congratulations on taking the progression of a successful relationship between two advisors to the next level in your practices. I love to see that happen because I believe that partnerships between two or more advisors are probably the best way to ensure the long-term viability of practices in light of escalating client expectations for service when rising costs are squeezing margins.

The short answer to your request for a sample agreement is: “Sorry, no.” Over the years, I have made a conscious decision not to distribute sample legal documents because I am not a lawyer and believe strongly that a qualified professional needs to be consulted for such an important transaction.

That said, I am happy to describe a few of the essential things that I think you might want to ask your legal counsel to include in your partnership agreement. Before I do that, however, let me establish some context. For clarity of illustration, I will use you and your partner as examples. In situations in which there are more than two partners, the issues, in my view, simply become more complex and, therefore, increase the need for a professionally drafted agreement.

A partnership of advisors is no different than a partnership in any other privately held business, in that it is subject to the same potential for conflicting politics, competing priorities and contrary personalities. The good news in your case is that you and your associate have been effectively working as partners for some time and, as a consequence, have come to accept each other’s strengths, foibles and peculiarities.

Despite your great experience in the past, however, you are still wise to want to formalize the terms and conditions of your ongoing working relationship. There is no guarantee the next few years will be as amicable as the past ones have been. In fact, don’t be surprised if you find that putting your agreement in writing crystallizes some of your own and your partner’s thoughts regarding likes and dislikes — it happens all the time.

Here are some of the “big rock” questions I encourage you to ask your legal counsel if it makes sense to include answer in your agreement. I make these recommendations based on my past observations. They are areas in which I have seen serious points of contention arise among advisor partnerships most often.

> Who’s The Boss? One of the challenges in a two-person partnership is that, at some point, you are almost inevitably going to disagree on something. It might be a major item, such as a significant capital expenditure on office space or hiring of staff. Or it may be something less significant (to one of you, at least), such as the design of your business cards. With only the two of you there, on opposite sides of the issue, who gets to make the final decision in the event of a standoff?

Again, I hope that your working relationship will allow you time to come to a mutually agreed-upon resolution. However, particularly when substantial money is involved, it will be important to conduct your negotiations with an awareness of the terms of your agreement regarding who gets to decide what — and how.

> Gunsmoke. This is probably the reason that most motivates partners to want to have a written agreement in the first place. That’s because it’s one they can see actually happening. Few people would enter into a partnership they expected to unravel as a result of personal conflicts. They can, however, imagine themselves or their partner falling victim to one of the “big Ds”: death or disability.

In fact, however, there are more than two “big D” contingencies. There is divorce (half of partnership assets is at risk); disqualification (loss of licence); discipline (regulatory investigation); deadbeat (bankruptcy); disappearance (failure to show up); or simple disillusionment (“I no longer want to be your partner because…”). I have encountered all of the above in real-life advisor partnerships.

Any one of these “triggering events” might give rise to the right or obligation for one partner to buy out the other or to sell their own position in the partnership. Your agreement should specify how the transaction will work for each event. For example, will there be a purchase of shares by the other partner or the company (if your partnership is a corporation)? How you will determine price at the time of the transaction, and what terms of payment will be available, should also be clearly stated. On these points, note that different triggering events can call for different valuations or payment terms. For example, there are often less attractive terms for a partner who simply wants out, vs those exiting due to death or disability.

> The Price Is Right. In our series on IE:TV about buying or selling a practice, we have talked extensively about the limited usefulness of “rules of thumb,” such as some percentage of assets under management or multiple of revenue, in determining an accurate and fair market value of a practice. I generally favour these rules only as very rough guides to the true value of a practice because there are so many variables at play that can cause two practices with the same revenue or AUM to have quite different valuations.

Furthermore, in my view, there are too many things that can happen throughout the lifetime of a partnership to be confident that a formula that makes sense in the early days will still be appropriate 20 years down the road. If you insist on inserting a predetermined formula into your agreement, at least commit to reviewing it regularly and updating it as required — and make sure you do it! My preference is to state that value will be determined by an accredited professional valuator at the time of an event.

> Family Feud! Many partnership agreements contain put (sell) or call (buy) options that are treated in the manner suggested above for other triggering events. Because there are only two of you in your proposed partnership, you might want to consider a “shotgun clause.” This allows you, for example, to offer your shares to your partner at a certain price and if he/she refuses to buy according to the terms of your offer, they are compelled to sell to you under the same terms.

In a similar vein, most agreements would also have a “first right of refusal” provision that requires a partner wishing to sell to offer their share of the business to the other partner(s) first. If there are no takers, the aspiring seller is then free to seek third-party bidders.

Finally, let me emphasize that your partnership agreement has only one real purpose — to provide guidance in the event of a dispute so that there are no unintended consequences. As partners, you have total flexibility to operate your business in any way you agree, without regard for what your agreement says. It’s only when you can’t reach consensus on a critical matter that the agreement comes into play. And even then, hopefully, only as a route to further negotiation and compromise.

Good luck!       IE

 

George Hartman is president of Market Logics Inc. and managing director, advisory services, with Accretive 360 Inc./AccretiveAdvisor.com. Send questions, comments and opinions on any aspect of practice management to
george@marketlogics.ca.