The original founders of most professional firms are willing to take risks. They start their firms by themselves or with one or two partners. Their focus is on getting the operations going, building a client base and servicing these clients. Usually they do not dwell on "what can go wrong" in the future with their partner relationships. Instead, they share a level of excitement and trust with their new partners, whom they often may have known for years.
But, over the ensuing years, issues often develop within an ownership group between the founders themselves, or with newer owners who have subsequently joined the firm. These matters sometimes lead to great unhappiness and even separation. This article will help the ownership group of established firms resolve serious disputes among their owners, and it will also assist prospective new partnerships in avoiding these potential disasters.
In my experience as a consultant to firms, I continue to be amazed at the number that do not have a shareholders/partners agreement, or that have one that has not been reviewed or updated for several years or more. Furthermore, many agreements do not seem to deal effectively (or at all) with some of the most critical issues.
THE BIG ISSUES
Certain issues are so critical that if not dealt with or resolved adequately they can lead to the break-up of the firm. Although other issues can be this serious, I find that the major ones are:
1. Retirement (buyout) provisions and/or amounts;
2. Compensation system and/or amounts;
3. Separation (split-up) involving parties that continue to practice; and,
4. Family issues (two or more family members in the business).
The retirement/buyout issue has become huge in recent years as firms grapple with the overall succession crisis. Older partners, who are concerned about their post-retirement financial strength, are feeling the need to keep working beyond their preferred retirement age because they are afraid that the firm won't survive without them, or that the retirement buyout that the other partners are willing to pay will be insufficient for their future financial needs. Many firms either have no agreement covering this buyout, or the existing agreement provides an inadequate amount (per the near-term retiree) or an unaffordable amount (per the remaining partners).
Compensation has always been a highly charged issue. People often perceive their own contribution as more valuable than that of their partners. Many compensation systems do not reflect the current contributions of the owners or the changes that have occurred over several years. In many firms, partners are reluctant to be confrontational, and so serious unhappiness or lack of motivation results. In others, someone may have "stirred the pot," and open conflict has developed.
Often the most devastating aspect of an internal owner conflict is a split-up or separation by one or more owners. Agreements need to cover this onerous situation to clarify what happens in these cases.
And finally, disagreements among family members can become the most personal and uncomfortable of all ownership issues, and therefore need to be resolved as early as possible, or better yet, avoided, by dealing with them fully in the firm's agreement.
HOW TO AVOID THESE ISSUES
To avoid these issues, the first step is to make sure that a comprehensive agreement is created when the firm is established. If a firm did not do this at the outset, or if an existing agreement has not been fully reviewed in several years, a full discussion of all the key issues should take place, followed by the creation or revision of an agreement.
In regard to retirement, the owners should annually share their current thoughts regarding slowing down or retiring. If someone is planning to "slow down" or retire in five years or less, the buyout provisions should be revisited to ensure that they are still viable.
In a related matter, if there are plans to admit a new owner within the next few years, the buy-in provisions should be reviewed to determine that, based on the current size of the firm, the buy-in is affordable and fair. Furthermore, in many firms, the buy-in formula is designed to mirror the buyout formula, so this is another important reason to review the terms of the buyout.
Annually, or at least every two to three years, the firm's owner compensation system (and compensation amounts) need to be evaluated to determine if they are fair and providing the right motivating factors and rewards. I generally recommend that the firm's compensation system and amounts be included as a schedule of the shareholders' agreement, so that this schedule can be updated and revised periodically, without requiring that the agreement itself be amended or changed.
HOW TO RESOLVE DISPUTES
In order of preference, I recommend the following:
1. Do not let the issues fester! Bring them out as soon as one person believes that it is important. A face-to-face discussion between the key parties is often the best technique to air the issue.
2. Try to resolve the matter directly by further discussions with the parties. It is critical to avoid putting these discussions off because of client pressures or other distractions.
3. If a resolution is still not developing, utilize a mediator. Ideally, this is a person who can understand the issues, can be independent and fair, and who is good at mediation. A practice management consultant, another professional, a highly regarded client, another partner, or even a qualified friend of one of the partners, are all possibilities. It is important to remember that mediation is a non-binding, give-and-take process, wherein the mediator tries to get the partners to agree. The parties must allow sufficient time to permit this to work.
4. More difficult matters that remain unresolved by direct discussion or mediation require a more formal resolution. Arbitration, which is a process that binds the parties to accept the arbitrator's decision, is a much more serious approach. It should only be utilized in the most severe cases, where all else has failed, and where the stakes are high (e.g., the separation of/by an owner). Arbitration can be time-consuming and expensive. This technique, however, is generally much preferred to the alternative, which is legal action. Since arbitration is not administered in a court of law, the arbitrator will generally be exposed to a more limited array of evidence and witnesses, and lawyers may (or may not) be part of the proceedings.
CONCLUSION
The relationship between owners is like a marriage. Communication, trust, respect and consideration are all critical factors in maintaining this union. It is important to avoid certain situations that can increase the likelihood of issues such as nepotism, no formal written agreements, no review of key agreement provisions after many years have passed, and serious breakdowns in communications.
Professionals, like accountants and lawyers, are often drawn to their clients' issues and, therefore, tend to defer their own internal needs. This tendency should be avoided so that these key issues are dealt with in a timelier manner.
Stephen Weinstein, CPA, of Branford, Conn., is a nationally known advisor to CPA and other professional firms. Reach him at swadvisor
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