Business transactions or investments often require the formation of an entity. Individuals are tempted to use on-line legal services to obtain the formation at a low price. Are there any benefits to these individuals if they consider meeting with a local business lawyer before forming the entity on-line?
The answer is yes. The benefit is the opportunity to listen to the “right questions”.
Sitting down with a business lawyer for a consult should involve the professional asking questions. Those questions should uncover some issues that need to be considered prior to going forward with the formation and the underlying transaction or investment.
It has been my experience that people spend a lot of time trying to decide which type of entity they should form. Should it be a Subchapter S corporation or a limited liability company? While this analysis needs to be undertaken, the better questions often consider the three “C” building blocks of any investment or formation that involves more than one party. Those three “C”s are: (1) contribution, (2) control; and (3) conclusion.
Contribution
The question at the outset should be “what is each participant bringing to the joint venture”? Often one party is bringing technical ability or business experience. Another party may be bringing an extensive history of networking or business contacts. Another party may be bringing access to financing or to the land or a key asset to be used by the joint venture. In addition, it is imperative the parties agree on the value of each contribution at the formation stage.
Control
Both specific practical concerns and technical rules apply to the governing or control issues. Formal rules exist that concern various subcategories such as the appointment of directors and officers or managers, limitations on the power of those individuals, and the reasons for their removal both voluntary and involuntary. Both these rules and the practical concerns must be reviewed and approved during the formation stage.
Conclusion
Sophisticated clients or experienced investors review the conclusion scenario first before they consider contribution and control issues. Put simply, they ask the overriding question: “if this joint venture or investment fails miserably, how am I affected?” Or to put it another way, “does a failure affect my lifestyle?” If the answer is “yes, it probably would affect my lifestyle”, then the risk is most likely too high for the potential reward. At a minimum, a serious and impartial analysis of the risk involved must be undertaken often by a trusted unbiased third party advisor. If the risk/reward analysis indicates going forward is acceptable, the crucial tool for the conclusion category is a thoughtful and comprehensive buy-sell agreement. This agreement must attempt to consider all possible scenarios for business succession. Those scenarios include a voluntary third party buy-out, an involuntary forced sale or entity reorganization, death, disability or divorce.
On a final note, it is important to remember the on-line legal services market typically offers the questionnaire and one-size fits-all approach. Often this approach omits the most important “conclusion” document – the comprehensive buy-sell agreement. While the on-line alternative is a valid approach to formation, it is important for the reader to consider each of these categories and the potential sub-questions before entering into a new business venture and making a new investment.
Chris Johnson is an Attorney with the Riverside law firm of Reid & Hellyer, and manages the Temecula Office. Chris’s practice areas are Business Transactions, Real Estate and Estate Planning.
