Partnerships, like marriages do not always last. When a partnership is being dissolved the biggest area of contention is usually the valuation of the business. Valuation is generally very subjective. Areas of contention can be as simple as the current value of manufacturing equipment, book, or replacement value, to future profitability, to what value an individual partner may have to the ongoing business.

How can former partners agree on a fair market value of the business? There are companies that specialize in valuing businesses, but again, this type of valuation suffers from the same problem of subjectivity.

Hopefully, when the partnership was initially formed the individuals involved created and agreed to a partnership agreement. In the agreement, there should have been a method whereby the partnership could be dissolved and in order to do that an equitable method of valuating the business is stated. The best and by far the most equitable solution comes in the form of a shotgun agreement.

This agreement provides for one of the partners to make an offer to the other partner for his share of the business. The partner receiving the offer has the option of either accepting the offer or buying out the partner who proposed the offer for the exact same deal. This satisfies 99% of problems associated with the dissolution of the partnership on a fair and equitable basis.

The inherent reason that a shotgun clause is fair and equitable is because it removes subjectivity out of the equation. If the partner who made the original offer to buy the business undervalues the business in the view of the partner that received the offer, the partner who received the offer can buy the business at that price, hence that partner should believe he received a very good deal. On the other hand if the partner who received the offer believes that the partner who made the offer over valued the business, he can accept the offer and should be pleased that he received more than he believed the business was worth. Either way, both parties should be very satisfied with the outcome of the transaction.

The only situation that can impair the equable nature of a shotgun clause is if one partner performs a function within the company that cannot easily be replaced by the other partner. As an example, if the company is involved in developing a new drug, and one of the partners is the lead biologist behind the development and the other handles all the administration it would probably be much easier for the biologist to replace the administrator than it would be for the administrator to replace the biologist. In other words, the company has a much greater valuation with the biologist partner still involved in the company. In a situation such as this, the company may have little if any value if the biologist leaves.

This, of course, is the reason that partnership agreements are so important.

Robert Berman

Robert Berman is a business consultant specializing in business development (agent, distributor, dealer motivation and retention, domestic, national & international sales & marketing, public relations, vision planning, business plans), strategic planning, acquisitions & mergers and international sales & marketing. He has been a columnist for the National Post Newspaper under the byline of "The Business Doctor" and he has authored "The Business Buyer's Manual". He is available as a keynote speaker in many areas of business. He may be reached at Robert.Berman@sbhc.ca.com