A typical business startup usually begins modestly and all is friendly among those involved. For example, two doctors, or two software engineers, might combine their efforts to form one or more medical groups (or software development companies) and find it advantageous to incorporate. Each doctor/engineer contributes an equal amount of capital toward, and each receives an equal amount of shares in, their newly formed corporation. The capital raised pays for an attorney to draft the typical incorporation documents, including the shareholder agreement which sets forth the parameters of the relationship between the shareholders. Because these relationships start out friendly, the shareholder agreement usually contains boilerplate or standardized language that may not avoid business disputes as the company progresses.
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For the first years, the businesses grow, developing smoothly, and the corporation’s income increases each year. However, by year three, it suddenly becomes clear to one doctor/engineer that she (1) is carrying too much of the workload and/or (2) has been left out of corporate decisions involving leases, equipment purchases, and employee-related decisions.
Unfortunately, the corporation’s shareholder agreement does not adequately address disputes between the shareholders except to state that all decisions must be made unanimously and if the shareholders can’t agree, one shareholder must sell its interest to the other shareholder. But which shareholder buys out the other? And even if that is determined, then who sets the value for a fifty-percent interest in the corporation?
The selling shareholder will value the corporation at a very high price, while the buying shareholder will value the corporation at a very low price. What is the result? Usually litigation. And even where the shareholder agreement provides for a buy-out price, litigation frequently follows, along with a costly disruption in the business as well as in the shareholders’ lives. The selling shareholder will value the corporation at a very high price, while the buying shareholder will value the corporation at a very low price.