On how to save money on a partnership agreement and destroy the business

On how to save money on a partnership agreement and destroy the business

Doron Afik, Esq.
May 28, 2019

So, you met with some friends or family members and decided to set up a business together. Due to the existing relationship between the parties, you decided to not formalise the transaction (which sometimes takes time and delays the start of activity) rather just to start activity. Without a proper agreement between the parties, or worse, if the parties signed a standard agreement that they found on the Internet without consulting an attorney or even if they turned to an attorney but one without experience in the field, the business is at risk and may be in immediate peril at the whim of any of the partners.
Israeli law requires registration of a partnership in a public registry, in a manner similar to registering a company. However, even without formal registration, a partnership is deemed created if two or more persons conduct a business for profit. In order to examine, in retrospect, whether a partnership was formed one reviews, inter alia, the intent of the parties to be partners, the presentation of the relationship between the partners to the public as a partnership; the sharing of assets; the joint holding and joint management of the business; the participation in the obligations and profits and more.
Upon a decision to open a business together, it is very important that a comprehensive partnership agreement be drafted in consultation with a lawyer experienced in the field. Without a comprehensive agreement, the provisions of the law will apply to the partnership. Thus, inter alia, each partner will be entitled to a share in the business's capital and profits, and similarly will share any losses of the partnership. Each partner is entitled to be reimbursed by the partnership for amounts paid on its account (even if he did not receive the consent of the other partners to the expense), each partner is entitled to participate in the management of the partnership but is not entitled to a salary; no partners can be joined without the consent of all existing partners and a partner may not be ejected from the partnership (even if such partner causes great damage to the partnership), but other disagreements between the partners are generally decided by a majority vote.
The law also provides a clear regime regarding non-competition. For example, the Partnership (and thereby the other partners) is entitled to any private benefit produced, or obtained, by a partner without the consent of the other partners from any transaction related (even if indirectly) to the partnership or any use of the partnership assets, the partnership’s name or its business connections. A partner is also not entitled to establish a business that is essentially similar to the partnership's business and competes with it, without the consent of the other partners If a partner has established such a competing business, the profits of this new business also belong to the partnership.
Moreover, each partner may dissolve the partnership by a simple notice and the partnership will automatically go into a dissolution process in case one of the partners dies. These circumstances may have far-reaching implications for a business that was established with great effort and is constantly at risk that one of its partners will "flip" on the other partners and decide the fate of the partnership for the other partners, even without their consent.
So how do you protect the business and create the legal certainty that will allow its ongoing management? You approach an attorney experienced in the field in order to draft an agreement adapted to the parties’ needs and to the specific business so as to regulate the relationship between the parties and to reduce the apprehension of future exploitation of the loopholes currently existing in the law. Such an agreement may prevent future mishaps, save large amounts of money and prevent the partnership from being dissolved due to disputes between the parties. Without such an agreement, each of the owners of the business is always exposed to the risk of extortion by the other partners or to their individual whims. Such an agreement is even more important when it comes to a family business, or to intergenerational transfers – entering the next generation into the family business - because this is where business disputes that could easily be avoided by a proper agreement may harm the family fabric.