Conflicts with business partners are not just a serious distraction for majority owners of private companies, these ownership disputes can be expensive, time-consuming and harmful to the long-term prospects of the business.  The start of a new year is therefore a great time for majority owners to consider whether there are steps they can take to head off disagreements with business partners. Fortunately, the answer is yes, and this post looks at New Year’s resolutions that majority owners may want to consider that will lessen or completely avoid these ownership conflicts.

The Sweat Equity Problem

The first New Year’s resolution majority owners may want to make is to decline to issue  “sweat equity” in the company.  Sweat equity refers to the grant of an ownership stake in the company to employees or outside consultants who provide services to the company, but who do not provide any financial capital for their interest in the business.  Sweat equity is granted most often by new or emerging companies that are short on cash, and they therefore issue stock rather than paying compensation for the services needed.  In other cases, owners provide sweat equity to longtime employees as part of a succession plan.
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In the private company world, the buck stops with the majority owners, who generally hold the reins to running the business.  In our experience, however, it is not uncommon for some majority owners to push the limits of their control by engaging in self-dealing transactions that are for their own benefit.  The self-interested transactions in which majority owners may engage can take many different forms, including paying excessive bonuses to themselves, directing the company to enter into “sweetheart” deals with their other companies, taking company opportunities for their own gain, and using company assets or personnel free of charge.

When minority investors seek legal recourse from abuse of authority by its majority owners, the controlling owners will often point to a little-known Texas statute, which they contend renders them immune from liability for their actions.  See Texas Business Organizations Code § 101.255.  As we say in Texas, that dog won’t hunt.  This post explains why the existence of Section 101.255 does not provide majority owners with a “get out of jail free” card, and why this statute does not validate their improper conduct when they engaged in self-dealing.
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