A business partner dispute is never a pleasant experience. In the United States, such disputes tend to end up in lengthy court proceedings, under strict laws and expensive attorneys. Entering the American market without prior planning for the possibility of shareholder disputes is similar to building a house without a fire exit—you may never need it, but if you do, it will be too late to add one.
Preparing for the Worst-Case Scenario
Even the strongest partnerships may one day fall apart. Investors may change direction, founders may disagree on strategy, competitors may present tempting acquisition offers. The absence of clear rules can turn a business disagreement into full-blown litigation if one is not adequately prepared.
In one case I encountered, two Israeli entrepreneurs established a company in Delaware to sell medical devices. A dispute arose between them regarding strategy. Since there were no mechanisms in place to resolve it, one of them, embittered and frustrated, secretly sold intellectual property to a competitor. The company sued, and the court ruled that this constituted a breach of fiduciary duty, ordering the seller to pay damages for the harm caused to the company. But the damages could not undo the harm already done—the relationship between the partners collapsed, and the company never recovered.
Legal Mechanisms for Resolving Disputes
American law provides general protections for shareholders, but these are usually insufficient. Therefore, it is necessary to create customized shareholder agreements that fit the working environment and their specific needs. Such agreements must include Buy-Sell mechanisms, which set rules for valuation and the sale of shares when a shareholder wishes to exit. Without such mechanisms, shareholders may find themselves tied to an unwanted partner, or worse, compelled to dissolve or liquidate the company.
Similarly, a shareholder agreement should include Deadlock Resolution mechanisms for resolving stalemates when there is an even number of owners who are divided. These mechanisms often have intimidating names, but they may resolve difficult situations quickly. For example, “Russian Roulette” clauses, in which one side sets a price representing half of the company’s value in its view, and the other side is required to either buy or sell at that price. Of course, there are also less dramatic options, such as a multi-choice procedure or mediation.
The agreement may also include Non-Compete and Non-Solicitation clauses. These provisions protect against situations in which insiders leaving the company attempt to “steal” clients, employees, or technology. Such clauses reinforce and strengthen the obligations imposed by law on shareholders—for example, the fiduciary duties directors of an American company are bound by—and help prevent situations where disgruntled parties harm the company when they do not get their way.
Staying Optimistic and Prepared for Anything
Disputes between partners are not inevitable, but they may arise even between partners who have known and trusted each other for years, as well as between partners living in different countries, when there is no clear contract defining obligations and rights. Israeli startups operating in the U.S. can avoid being dragged into legal quagmires if they devote time and resources to building a well-crafted shareholder agreement that contains clear mechanisms for resolving disagreements, partner exits, and directors’ duties. In this way, even as business realities change, shareholders will stand on solid ground with a legal framework that protects them.
Legal Disclaimer: This article is not a substitute for legal advice. To make informed decisions, consult an attorney experienced in the field.
Michael Ehrenstein, Esq. is a founding partner of the U.S. law firm Ehrenstein|Sager, specializing in commercial law, complex litigation, and large-scale international arbitration.