Responsibilities to Co-Owners

April 13, 2006

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If you co-own your business with partners or other shareholders, the law imposes certain duties on you to deal fairly with them.

Partners have the most demanding duties to each other, and under state laws are required to act with the utmost good faith toward each other and to the partnership. Partners are required to fully disclose to each other any material facts that come to their attention and that relate to the partnership in any way. This fiduciary relationship partners bear to each other means, among other things, that if a partner gets any benefits from the partnership, he or she must share them with the other partners, in accordance with the arrangements set out in the partnership agreement. In the context of the sale of the business, this means that no partner can seek to benefit himself by the sale, to the detriment of the other partners. If he does, the other partners can sue to obtain their fair share of the benefits, whatever those might be.

Depending on your state law, shareholders of close corporations may be treated as having essentially the same duties to each other as partners do. In fact, some courts refer to close corporations as "incorporated partnerships." Since most small or family-owned incorporated businesses are close corporations under state law, it's a good idea to consider carefully the effects of your actions on any other shareholders of your company.

Many small corporations have buy-sell agreements in place that specify what happens if one of the shareholders dies, becomes incapacitated, or wants to get out of the company. The agreement may state that the corporation will redeem (buy back) shares using a specified valuation formula, or that other shareholders have a right of first refusal to purchase the shares. It's also common for small corporations to set up voting trusts or agreements that will determine who needs to agree to any important corporate decisions, such as a sale of assets. If your company has ever set up such agreements, your lawyer needs to look them over and determine their effect before you try to sell your company.

Officers and directors of corporations also are considered to have a fiduciary duty to the shareholders. They must act in good faith, in a manner reasonably believed to be in the best interests of the corporation. So, even if your company is not considered a close corporation under state law, and even if no buy-sell agreements are in place, you'll have to consider the interests of any other shareholders when deciding whether and how to sell your company. If you don't, you open yourself up to the possibility of litigation, and who needs that?