When most people think of a prenuptial agreement, they tend to picture wedded bliss, Hollywood celebrities and love gone wrong.
But a "prenup" is also a legal document that financial and legal advisers strongly suggest for new businesses.
All relationships are tricky, and often the hard work needed to start a company gets in the way of the human dynamic. Business partners who think they're working toward the same goal can suddenly find their businesses – and their lives – upended when their partner suddenly decides it's time to move on.
The ensuing crisis can destroy a company, particularly if one partner expects to be bought out but there's not enough cash in the firm to do it.
"Most of these problems come home to roost when some of the partners want out but they don't all want out," said Doug Irwin, a founding partner of Vancouver-based investment bank Capital West Partners. "Some people are thinking of running their businesses until they're 90 and others are thinking 'Freedom 55.'"
A prenuptial agreement can help partners avoid these dilemmas, by spelling out what will happen to the business if the relationship breaks up. It may also confirm the partners' goals and targets.
Jeff Read, a partner in the Vancouver office of business law firm Fraser, Milner and Casgrain, said these contracts – called prenups, shareholder agreements, partnership-dissolution agreements or joint-venture agreements – are important to all business partnerships, no matter how small.
"They delineate in black and white all the rights and various obligations of the stakeholders. It can be relatively straightforward and non-controversial to set one up, and hopefully it will not be needed," he said.
But business and emotional upheavals can erupt between partners without warning. At Capital West, which advises private and public companies, Mr. Irwin has seen business breakups damage a company's bottom line and end friendships.
"It happens all the time," he said.
"It's almost inevitable. Two guys start a business. They have an agreement between them but it's not a good one. Twenty years later, one wants to sell the business and the other doesn't, or one wants one of his kids to run it and the other doesn't, and there's no written agreement."
He and the other seven partners of Capital West have their own shareholder agreement. "The relationship between the founders [of Capital West]is 30 years old … If you've got a relationship that goes back that long, you can get by without [an agreement] but even then you are better to have the paperwork."
And in cases where you don't have that kind of a relationship, he adds, "You definitely need the paperwork."
As with most relationships, it's the ending that usually causes the most grief.
"The problems really manifest themselves in the exit. When you're starting something, you are rarely worried about the exit," said Mr. Irwin. But, "if you've been successful, the dollars get to be quite big … then what do you do?"
A basic agreement for a small business costs about $1,500, he said, but "a tailor-made" agreement can be much more. It's also common to revisit the prenup as the business evolves. "As businesses get larger and more complex, there are more moving parts and more scenarios that need to be contemplated."
At their most basic, prenups usually set out what happens if one of the parties dies or is unable to work, as well as "governance [and]approval thresholds for material transactions," said Mr. Read.
"And it's common to have a 'shotgun' [clause] whereby one party can force the other party to buy their position in order to deal with deadlock. They will often have what are called 'drag along' rights – for example, in a case that I'm dealing with, if there are five shareholders and four want to sell the company, the fifth shareholder is contractually obligated to go along."
As with their more romantic counterparts, the mere existence of a prenup agreement can cause friction. For entrepreneurs who see themselves as honourable people who can shake hands on agreements, a prenup can be divisive and occasionally even unfair, Mr. Read said.
"They can be controversial. Whenever you are preparing an agreement like this, there are certain terms that will favour a party with greater economic depth … It becomes a challenge to agree upon a balanced approach when the parties have [different]resources or divergent desires on what they want the business to achieve. It can cause resentment," he said.
Still, "it's a lot easier to deal with potentially controversial aspects of a business ahead of time, rather than try to deal with it in the middle of an issue having blown up," said Mr. Read.
Special to The Globe and Mail