Of all the issues that arise from a small business partnership, one of the most problematic to address is moving a partner from an active to inactive status. The circumstances that dictate this change are varied and can include scenarios such as an older generation in a family-owned business wishing to cede management duties to the younger generation. Or it could be one partner wishing to exit in order to concentrate on launching other ventures while keeping an equity stake in the business.
Whatever the situation, there are several lessons that small business owners should heed to make the transition as smooth as possible.
Make sure the deal is equitable
Whether it’s for you or your partner, it’s important that the person seeking to transition out of the daily operations of the business be comfortable with the terms that are agreed upon. If not, then there’s no guarantee that the soon-to-be silent partner might not have a change of heart. Or worse yet, pursue litigation to score a better deal or higher percentage stake in the business. Either option is not exactly conducive to promoting internal harmony at your business.
Rudy Southwell, CEO of Ideal Restaurant Group, a New Rochelle, New York-based startup that builds franchise restaurants, is a seasoned silent partner in a number of small business ventures. He echoes this sentiment: “All arrangements must be sound so the new silent partner doesn't have the ability to come back or one day change their mind and waltz back in to business.”
Consult a lawyer
Experts say getting the proper legal counsel to move forward with a silent partner arrangement is essential. To do so via an oral or handshake agreement, they say, is not enough. Protect your business and your stake in it by learning what you need to do legally to undertake this arrangement.
John Wright, a lawyer with McDonald Sanders, a firm in Fort Worth, Texas, has frequently handled such matters for business clients. He feels small business owners that are seeking to move a partner into silent or investor mode, have no other viable recourse but to seek out legal counsel for myriad reasons. To fail to do so could have a disastrous effect on the bottom line if not properly addressed, he says.
“[ h[The parties involved] need to understand what the precise role of the newly silent partner will be going forward,” Wright says. “[They also need to know] the percentage ownership interest the silent partner is going to have in the restructured relationship. Is the silent partner going to be contributing capital to the business? If so, on what terms? The silent partner also needs to understand what he or she is giving up in the transition from active to silent partner.”
Also, according to Wright, small business owners must speak to a lawyer to discuss how and if they will need to restructure their business as a legal entity to accommodate a partner moving from active to silent mode.
“For example, if the parties are conducting business as a general partnership and a general partner wants to become a silent partner, the entity structure will need to be changed to accommodate limited liability and elimination of management duties as desired by the silent partner,” says Wright.
In addition to seeing a lawyer, the parties involved should also contact an accountant to help assure them that the business structure is not only legally tenable but that, as Wright notes, all “tax consequences are carefully considered.”
If you or your partner seek to go silent, then it wouldn’t make sense for either one of you to be a ubiquitous presence in the workplace. At the same time, don’t vanish overnight. Gradually ease up on the number of hours regularly allotted to your work schedule to help you, your partner, and staff get used to the change.
Says Southwell: “I currently own a preschool and a restaurant and I am at these businesses a total of 8 hours per month. I’m essentially a silent partner with both. Over the next 24 months those 8 hours will likely be reduced to one quarter of that time while I add other businesses.”
Transitioning from active to silent partner at a small business can be a complicated undertaking. But if the procedure is approached with care and consideration, particularly toward the legalities of the new arrangement, then it should pose little distraction to the running of the business.
Consult a lawyer, accountant, and other business professionals before making any decisions regarding a change in ownership.