Dear Norm, I have a four-year-old custom crystal and glassware company whose sales are exploding. I started it when I was 22. I ran it by myself for almost a year before bringing in a friend and giving him 30 percent of the equity in return for his help in growing the business. Over the past three years, we've become closer than ever. Thanks to our mutual dedication and hard work, the business is flourishing, and he now feels like an equal partner. He thinks we should divide our profits 50-50. I find this difficult to accept, because I am the founder. I took the risk and maxed out all of my credit cards to start the business. I feel a little guilty about not wanting to share equally, but I also believe the 70-30 split is fair. Any advice would be greatly appreciated.
—Andre Janus, founder and CEO, Cristaux International, Chicago
It happens all the time: A new entrepreneur starts a business, brings in a friend, promises him some equity, and figures they'll work out the details later. No need to get lawyers involved. They'll handle it like friends. That's what Andre Janus and his partner did, and it wasn't a problem until they suddenly found themselves with a lot of money in the bank. Now what?
I told Andre that, to begin with, he was confusing ownership with compensation. Unless there is a written agreement that states otherwise, the majority owner can do whatever he wants with the company's cash. His partner's 30 percent stake does not entitle him to 30 percent of the profits—or any other share, for that matter. It is strictly Andre's decision.
And though the two of them needed to talk through their differences and reach an understanding, I discouraged Andre from making his friend an equal partner. I don't believe you should ever give anyone more than 49 percent of the stock in your business unless it's absolutely necessary—say, to raise capital you need to grow. The majority owner controls the business. If partners each own 50 percent of the stock, the company has two heads, which seldom works well in my experience and often leads to disaster.
Mainly, however, I said that Andre and his partner should retain an experienced lawyer to help them draw up a contract that spells out their respective rights and obligations beyond the ownership percentages. I'm all for relationships based on mutual trust, but circumstances change—often in completely unexpected ways. Andre and his partner are young and single. They have no idea what lies ahead. They can barely imagine what might happen to alter their relationship in the future, what complications could arise because of developments in the business or in their lives, or even what they will feel like doing five or 10 years from now. They need a formal agreement that explains, among other things, how funds will be distributed, what happens if one partner can no longer perform his duties, and how the partnership can be dissolved. Then they should review the contract every year or two and decide what needs to be changed. They should do this not only to protect themselves but to protect the company. Theirs wouldn't be the first to go out of business because of a failure to have an ownership contract with adequate safeguards.
Please send all questions to AskNorm@inc.com. Norm Brodsky is a veteran entrepreneur. His co-author is editor-at-large Bo Burlingham. Their book, The Knack, is now available in paperback under the title Street Smarts: An All-Purpose Tool Kit for Entrepreneurs.