What happens when two 50/50 owners become locked in a bitter dispute, but neither can fire or get rid of the other?
Let’s look at a common co-owner scenario with co-owners Don and Joe.
“When Don and I started as equal owners 15 years ago,” Joe told his advisor, “we agreed on everything. Lately, it’s become more and more difficult for us to agree to anything! It’s gotten to the point that Don doesn’t even show up for work most days but still draws a full salary and has access to the business bank accounts.”
Joe’s advisor, Roy, asked the logical question, “Have you offered to buy Don out?”
“I’ve tried,” Joe assured Roy, “but he refuses to even discuss it. And why should he? He takes home half the income with none of the effort. Not only that, but he also gets half the growth and value of the business that is 100 percent due to my efforts and management of the company! He’s not going to go willingly, so how do I get rid of him?”
Roy paused for a second to gather his thoughts and then replied, “Bear with me, but the solutions I can recommend are not simple or perfect. With planning, getting rid of a co-owner is difficult. Without it, it’s difficult and potentially an expensive undertaking.”
Roy continued, “In the absence of a written agreement between the two of you we can go to court. If we can establish that there is a true deadlock between the two of you, a judge will make one of three orders.
The first is liquidation of the company, with each of you getting half of the company’s assets. That, of course, would destroy the goodwill of your company and probably result in a large income tax liability for each of you. I’ll have to do some further research on this second possibility, but we might be able to ask the court to appoint a receiver to run your business. The third option is that a judge might order the business to be sold to either you or Joe. I don’t have to tell you that going to court is time consuming, expensive, and the results are uncertain, at best.”
How do advisors help their business owner clients avoid expensive and uncertain outcomes when two or more owners are deadlocked on any or all decisions regarding their business?
First, keep Joe and Don in mind because even the friendliest lifelong friends who own a business together can become bitter adversaries, incapable of communicating, let alone work alongside one another. In this unlikely but entirely possible event, it pays to be prepared.
Here are two planning suggestions, certainly not entirely painless ones, but both they provide for the continuation of a business or its reestablishment under single ownership.
Option 1: The Texas Shootout
We Coloradans call the first solution “the Texas Shootout.” Texas Shootout provisions are included in the co-owners’ buy-sell agreement. This is how it works: Either a co-owner may offer to purchase the other co-owner’s ownership interest. The second co-owner must either accept the offer to sell his stock OR must purchase the first owner’s interest at the same price, terms, and conditions of the original offer. Note that the second shareholder has only two choices: either accept the co-owner’s offer and sell his stock or turn the tables and buy the offering shareholder’s stock.
At the conclusion of this buyout process, there is only one owner left standing. It is a painful but aptly named remedy to be sure.
The very presence of a Texas Shootout Provision in a buy-sell agreement encourages owners who are not getting along to negotiate a buyout of one party or the other rather than trigger the provision. The beauty of the provision is the uncertainty it creates: no owner knows who must buy or who must sell, on what terms and conditions, and at what cost.
Option 2: Dissolution
As an alternative to the Texas Shootout, you can suggest a provision that allows either co-owner to force the dissolution of the business entity, pay off the company’s debts, distribute the assets, and start over. This may be the best solution for businesses without a lot of assets or value. For those that do, the tax consequences of a dissolution may not be pretty.
- All co-owned businesses are at risk of feuding co-owners someday down the road. Be sure to have provisions and written documents protecting each owner.
- Most likely your business owner clients have options if and when these feuds begin. The sooner you start planning, the more flexible your clients can be, and the more creative you are as an advisor, the more likely those options can come to fruition.