How to prevent deadlock in business decision-making
The best way to prevent this scenario is to create one or more mechanisms at the time the business is formed
“Happy families are all alike; every unhappy family is unhappy in its own way,” is the first sentence of Anna Karenina by Leo Tolstoy.
Like family relationships, the number of ways business relationships can go sour are too great to count. Even the best of business relationships can devolve into bickering, finger-pointing, and discord.
And when disagreements arise in businesses with an equal ownership structure or with equal voting powers among the owners, directors, or managers, the result is a deadlock where the company is left paralyzed at the highest level.
The best way to prevent such deadlocks is to create one or more mechanisms upfront, preferably at the time the business is formed.
Documenting it in writing, while the business partners still have mutual trust, is just good business practice.
As corporate counsel, we often draft such mechanisms into either the company’s governing documents or a separate buy-sell agreement.
Here are some we often recommend to our clients:
1. Unequal Ownership/Unequal Voting Power
The most obvious way to prevent deadlocks in decision-making is to structure the business such that it has unequal ownership and unequal voting power. Even with unequal ownership, clients come to us because they failed to tie the voting power of the managers or directors to ownership structures. If you are a business owner, you should consider whether you need such mechanisms in your company’s governing documents.
For example, if a board has six owner-directors but one director owns 51% of all ownership in the company, then his voting power at the director’s table should reflect that and he should have a greater say in how the company is managed.
2. Neutral Advisors
Every business should have a team of professionals, such as CPAs, attorneys, or other industry-specific experts, who can advise the Company’s directors or managers if needed. Having third parties who are familiar with the business and who can provide a neutral voice is sometimes enough to prevent or resolve deadlocks.
If there is an advisor that the owners fully trust, that’s perfect. That advisor can be appointed as an independent manager or director whose sole role is to cast a vote in the event of a tie. Such arrangements should be spelled out in the company’s governing document.
By agreeing upfront to good-faith negotiations, mediation, and/or arbitration, both sides are committing to a process, whether amongst themselves or using a paid third-party neutral (likely a retired judge or other professional) who may have industry-specific knowledge, is skilled in resolving differences, or has experience in mediating and/or ruling on disputes. What seems like an absolute impasse to business owners may just be a misunderstanding.
4. Planning Ahead. Business owners should also prepare ahead of time for the possibility of a split by putting in place a mechanism which allows for the orderly division or buy-out of ownership interests. A Texas Shoot-Out provision, sometimes referred to as “Russian Roulette,” is a popular provision to place into buy-sell agreements.
Properly drafted, a Texas Shoot-Out provision gives both owners a fair opportunity to buy out another owner’s ownership interest in the company.
After a party makes an offer, the shareholder receiving the offer then has the option to either sell at the offered price per share or turn around and buy out the offerer at the same price per share. Often, the risk of the other party pulling the trigger or matching the offer forces parties to talk before giving up on the other business partners.
Whatever you decide, the key is to put something in writing. The best time to put in place mechanisms preventing deadlock in business decision-making was yesterday. The second-best time, today.
Andrew Blaylock is a business attorney at Minor & Brown, PC with a passion for helping business owners with their legal needs. Andrew loves to help clients make their deals happen, and his litigation background informs his thinking on the pitfalls to avoid in order to stay out of court. Andrew’s practice focuses on business formation, corporate governance, mergers and acquisitions, real estate transactions, and commercial contracts. Contact Andrew at firstname.lastname@example.org or directly at 303-376-6008.
Sherap Tharchen is a business attorney and director with Minor & Brown, PC. He has a unique business background. In Nepal, his family-owned and operated a successful traditional, hand-woven rug business, which employed approximately 200 weavers and exported rugs to Europe. Sherap understands the challenges and successes of small businesses and draws on his experience to counsel business owners. Sherap helps clients with a variety of business matters such as business formations, consulting arrangements, bonus and incentive packages, governance agreements, corporate restructuring, mergers and acquisitions, and tax planning. Contact Sherap at email@example.com or directly at 303-376-6024.
(Sponsored content for this article provided by MB Law)