Build a SmartPartnership
Do You Really Need a Partnership?
Partnerships, whether formally or informally formed, are common in the business world. Often, they just start organically with a few scribbled notes on a napkin and a thought of, “Hey, you know what we could do?”
Sometimes, partnerships are conscious decisions to last for just a period of time and sometimes the plan is they will last forever. But, rarely do they last through all the ups and downs of business. Partnerships change, grow, evolve and sometimes they explode dramatically.
Too often the problem is there simply is no plan. And then when there is a big change such as too much money or not enough money, the partnership falls apart over disagreements.
Instead take a moment at the beginning and look thoughtfully at why you want to have a partnership. What are the benefits and the risks of partnering in your situation? If the possible rewards outweigh the risk, define roles, game plans in case of certain events and how you begin, add capital, pull out capital and end the partnership. This is something to discuss upfront before you really get going. If you have a difficulty or disagreement, work it out before it’s the end. If you’re not comfortable having that conversation, just imagine how uncomfortable it will feel when you’re in a bitter fight.
A Little Inspiration
Some partnerships aren’t just successful; they’re super successful.
I Scream, You Scream
In 1977, two childhood friends took a correspondence course in ice-creaming making. A year later, they founded an ice cream company based on their first names.
The initial investment was just $12,000 back then.
Have you figured out the name of the ice cream company? It’s Ben & Jerry’s.
Why did it work? If you ask them, they’ll say it’s because they were able to transition from a friendship to a business for two reasons: They had a joint passion for food and they wanted to do more than just make a profit.
The second part might be more important than you might realize. If your vision is for something larger than just you and what you will achieve, you will stay motivated. If you’re just in it for the money, you’ll likely make money and then get bored or burned out. Either way the business often doesn’t last more than 5-10 years. Businesses that have bigger purpose live longer.
Before we go into the assessing the benefits and risks in partnering, let’s look at one more partnership super success story.
The Crazy-Named Tech Stock I Should Have Bought
It was August, 2004, and the media was buzzing about a company that was about to go public.
I typically follow that type of offerings and in the past especially, would buy in initial offerings. Not this one, though. It didn’t make sense to me. Boy, was I wrong.
Larry Page and Sergey Brin met at Stanford, with common interests and skills but radically different backgrounds.
There were similarities that gave them similar values that helped them develop a laid-back atmosphere that attracted the right people to Google. They loved computers and they both had university professors for parents. They had a similar vision.
And they succeeded in the wildest way possible.
I wish I had bought the stock.
Putting aside my poor investment decision for a second, let’s look at partnerships in general. I see people who jump into getting a partner because they want emotional support, an extra pair of hands or simply money or the work-equivalent of that.
It works in the short run, but often does not work in the long run.
If you came to me right now with an idea for a business partnership, I would suggest you first look at the benefits and risks. In fact, that’s actually true for every financial venture, in my opinion. Do possible benefits outweigh possible risks? If not, find another venture.
The Benefits and Risks of Partnering
If you can’t achieve your financial goals by other, non-partnership means, consider a partnership. Otherwise, think seriously about whether you really need a partner.
A partner takes an equity position, which can be ultimately way more expensive than a loan for a successful business. They shoulder some of the risk as well, but only if they agree to put in at least as much as you do in the form of investment, capital contributions, work, energy and skillset.
If the person is just bringing work skills, consider hiring him or her. If they want a “piece of the action” and they really are worth that, give them a percentage of profit, but hang on to the business.
Partnerships are hard. You have to figure out how you can maintain the working relationship you need with a shared vision that is big enough to get you through start-up pains, growth pains, industry and economic changes and just generally, the changes that are going to occur no matter what.
Benefits of Partnerships
There really are just a handful of benefits to partnerships. And, interestingly enough, they are generally the same no matter what type of business you have.
For example, a partner may bring:
- Knowledge (or access to necessary knowledge),
Having a partner who knows the field can be critical in tech start-ups. This is especially true if you’re trying to do something that no one has ever done before. You can short-cut a lot of mistakes and shorten the learning curve by having a partner who knows what you don’t. If the knowledge your partner brings can be easily hired, though, hire the person instead. Don’t make the mistake of giving a partnership equity share to someone who only does admin work, for example. The knowledge must be unique and important to your business. The knowledge and application of it must shorten your learning curve.
- Access to resources,
Your partner might have necessary connections for technical expertise, experience, networks for manufacturing or sales, critical joint venture possibilities, fulfillment and the like. Again, if you can hire that skill set, do it. If someone is opening up their rolodex to you, and sharing vital contacts, they are likely to want a piece of the action and some control. That’s one time when you may not be able to do this without a partner. They want to make sure things go as promised or vital contacts to their business could be burned. At least, that will likely be the other person’s concern.
- Effectiveness,
Hand in hand with “access”, the prior benefit of a partnership, a partner may be able to provide skills, knowledge and contacts that will allow your business to be more effective. That will reduce costs and risk. You’ll make more money and roll out products and services faster if you’re more effective.
It could also be that the only way you’ll pick up this additional resource is by giving that partner a piece of the action. Make sure they truly possess what you’ve been promised. If they really are good, you should be able to check references fairly easily.
- Efficiency,
The real killer of business at the second stage are expenses. In the beginning, you need sales. But once it’s going, you have to be careful that you don’t pick up more and more expenses. It’s time to work on the efficiencies of your systems.
That may mean more fulfillment services and systems. You may need to look at new delivery systems and avoid duplication of work in your system. Again, a partner with experience could add invaluable resources.
If you’ve ever watched Shark Tank, you’ve seen how Daymond John is often sought out for people who want to reduce costs dramatically by manufacturing in China. He doesn’t want to be their employee. He doesn’t want to be a silent partner. He wants to be involved and he wants a partnership share to pay him for his time and expertise.
- Innovation,
If your prospective partner can provide something brand new and unexpected or new ways of addressing old issues and complex challenges, that alone can be a good reason to add him or her as a partner.
This is something you may be able to hire. But if you have a partner who knows and can implement on something new, plus they have a proven track record of providing results based on what they say, they can create your business. That’s probably worth a partnership stake.
- Human resource development,
If you have a business that is going to grow based on people, and almost all big super successful companies require people, you need strong leadership and HR development.
- Reputation and credibility,
If you’re a brand new business owner, you probably don’t have the reputation yet to make strategic joint ventures, get bank loans, find financing or get credit for inventory and fulfillment. In fact, it can be hard to even set up a Merchant Service Provider account so you can accept credit cards from sales without paying an exorbitant fee or having the provider hold funds for months.
If someone provides their good reputation so that you can get your business off the ground, they’re going to want a stake in the company and a measure of control.
The above are benefits that you can probably assess by reviewing paperwork. There are still other things you need to do to make sure you could build an effective partnership with another person. We’re going to talk about that after this next section about the risks of partnerships.
There is one more benefit that you and your partner need to discuss. What’s in it for you (or him or her)? You need to share a common goal for the business you’re building but you also have your own personal goals. You have something you want out of this, whether it’s tangible like income and wealth or intangible like reputation or fulfillment. Whatever it is, be honest about that as a benefit. If you don’t get that as a result of this partnership, or worse yet, it’s negative to any of your personal goals, don’t do it. This isn’t going to work.
Did you notice that one possible benefit was missing? In fact, the “benefit” that is missing is the one I hear the most. It’s missing because it’s not really a benefit, it’s an excuse.
I’m talking about the need for money or for services that the business can’t afford to purchase. In some cases, it may make sense to trade legal or CPA services, especially as part of the initial board of directors in exchange for part of the company. But, if your plan to grow is to give away part of your company, that may be the most expensive free work you’ve ever gotten. You’re better off looking for ways to provide sweat equity yourself, raise financing or bring in a partner who brings skills and access to funds.
Or, even better, in my opinion, boot strap your business. Sell services or pre-sell products to raise the money you need to get going. There are some great website now like Kickstarter that allow you to use crowd sourcing to get your business going. You don’t need to trade equity for services you can more easily hire.
Tech Spin-Off, Sort Of
Two equally talented guys at Blogger (later sold to Google) started off as rival employees at that company.
When Evan Williams left to work for another company, his former rival Biz Stone followed him. An engineer at the new company approached them with an idea and Twitter was born.
This partnership worked because they already had a tried and true successful working arrangement that had lasted over 10 years. They were equally knowledgeable, had mutual respect, genuinely liked each other and both had ambition that helped them stick together as the company grew through fits and starts.
It’s not enough for one partner to have a vision and ambition enough to follow through. All partners need to be able to take that leadership role from time-to-time. Otherwise, partnerships are doomed to failure.
Risks of a Partnership
Giving away equity and control to a partner as a low-cost way to a quick fix often doesn’t work. The costs of taking on a partner can be high. You’re giving away equity and possibly diluting your own dream for the company in order to appease a partner. Or you could be pressured to work harder and harder in order to provide a return for your partner.
Either way, you, your personal goals and your goals for the partnership will change when you take on a partner.
Here are some of the risks you should assess before you take the next step of taking on a partner or partners:
- Loss of autonomy,
It’s no longer just your company. You have to share decision-making and that alone can be an insurmountable challenge if you’re the lone pioneer type. You have to learn how to negotiate and “be political” so you can build consensus with partners before action is taken. There is also an implication of more accountability since you have to answer to other owners in the company.
- Conflicts of interest,
There may be times when a decision for the partnership is at odds with an individual partner’s interests.
In our case, we have a rule about the business “having a seat at the table.” What is best for the business? Your interests are important. So are your partner’s. And, so are the interests of your business.
- Commitment creates drain on resources,
I’ve never heard anyone tell me a new partnership took less time than he or she had expected. It’s usually significantly more time and energy than you expected. If one of you have an existing partner, you may find that you have key staff from your other business helping out. That can create unequal commitments of resources. You may also need to commit more financial resources than either of you expected. Are you and your partner prepared to be flexible in your commitments?
- Implementation challenges,
Businesses are work. Even if you’re building a passive income company ala “4 Hour Workweek”, you’ll work hard in the beginning. Are you and your partner prepared for theday-to-day demands of building a business as a collaborative effort? There will be additional management, necessary systems and tracking required because you have a partner. You might split the workload, but you have more work than if you did it by yourself.
- Negative reputation,
For good or for bad, once you have a partner, your reputation becomes linked with his. If the partnership goeswrong,it’s going to impact your reputation. And sometimes, it’s completely out of your control.
Does the potential benefit outweigh the possible risks? Does the person you’re considering bringing in at least as much benefit that can outweigh the risks?
Over 10 pages of this Home Study Course have been devoted to the main question, “Do you really need a partner?”
I will admit to a bias. When I go back and look at my business life, most of my partnerships ended badly. I went into them too fast and although the paperwork was all done properly, I hadn’t taken the time to look at whether there was sufficient benefit to outweigh the risks.
Most of the time, if I had done the exercises that were at the beginning of this course I wouldn’t have taken on a partner. I would have hired the work or brought in a temporary consultant.
To keep a fair perspective, though, I have included some success stories. Yes, it works. It just didn’t for me in most of the cases.
Is a Partnership the Best Business Structure?
After all of that, you’ve decided that you want to take on a partner or two for your business.
Usually the time that I first find out about this from a client is when they want to know what structure is best. Although you may refer to the person who has an equity stake as a “partner” they may actually not be a legal partner because your business structure is something other than a partnership.
If you plan to go public, you will need a C Corporation. You may want to start with another type of structure, though, and merge into a Corporation before you go public. The disadvantage of a C Corp for a beginning business is that any losses stay in the corporation. You don’t get the tax benefit of flow through losses. That can be a concern when you’re first starting out. If you’re putting a lot of money into a business, you may want the write-off against your taxes. In a C Corp, you don’t get that.
In general, most businesses use either an S Corporation or C Corporation structure to operate. Otherwise, the entity income will be subject to self-employment tax if the owner is actively involved in the business. An S Corporation is a flow through entity so that income or loss is reported on the owner’s tax return, but there is no self-employment tax. A C Corporation, as mentioned above, has income or loss that is reported and taken care of on its own return.