Can My Business Partner Lock Me Out of My Own Business? The Answer is
Is it legal for your partner to lock you out of your business? Maybe. But, even if legally possible, they had better have a very good reason or things could go very wrong for them.
This comes up more often than it should. A partner takes control of a business and freezes out the other partner. The locks are changed. The credit cards are frozen, sometimes at very embarrassing times. Bank privileges are terminated. How is it possible to lock someone out of their own business?
Let’s answer the big question. Is it legal for a partner or partners to lock out another partner? That answer is “yes” under certain circumstances. If a partner has harmed the business through misconduct or flagrant mismanagement, a partner may take control and prevent the other partner from doing more damage. This falls under the business code as ‘fiduciary responsibility’. That can be somewhat subjective, but the failure better be flagrant if it is to stand up in court.
The reasoning goes like this. You and I are partners in a business. We both put in $100,000 to start our venture. We agree that you will manage operations and I will generate and manage sales. After 6 months of growth, the business begins to decline. Formerly happy customers won’t take my calls. I can’t figure out what’s going on until a customer tells me the truth. You make very crude jokes every time this customer calls in with a question. When I check with other customers, I find this is a common complaint, and our customers are agitated. To prevent you from doing further harm to my investment, I can take action to keep you from interacting with our customers. Bam!
Locking you out isn’t the best way to handle the problem, but it is legal. If you decide to sue, remember that the courts are a big fun-house type circus. Anything can happen. The only certainty is cost. Land in court and things get expensive. Winning is probably not going to be worth the cost.
Worse yet, winning in these cases is very rare. Typically, the courts stay out of disputes between partners unless laws have been broken. The ruling most often is to order the partnership dissolved.
The Structure of Your Business Matters
There are no easy answers to this topic. Some partnership and operating agreements provide for a partner taking control. If the business is formed as a corporation, shareholders may have the ability to vote out a managing partner. It is a lot harder for you to prevail in court if multiple shareholders have agreed to remove you. This is also true if your partner has a greater stake in the business than you. Before anyone can help you, they will need to review your business documents. This is why it is so important to have an Operating Agreement and a Buy/Sell Agreement in place before trouble starts. Read more…
What Can You Do If You Have Been Locked Out of Your Own Business?
Start by getting advice on how to proceed. By far, the best approach is to open talks with your partner or partners, but you need to approach those talks carefully. You don’t want to go into that conversation with threats and accusations.
Once all parties are talking civilly, there is a much higher chance that things can be worked out. If you have harmed the business or made a serious mistake in judgment, you may need to approach the situation humbly.
Be very careful about what you discuss with your partner or you could make things worse.
Fighting for the win doesn’t usually have a happy ending. If your partner has a greater interest in the business, she can take control. If you are an equal partner and end up in court, most often the court will simply order you to work it out or dissolve the partnership. Usually, the business closes. Read about mediation here
A buyout is a possibility. However, if there is a significant dispute it is pretty tough to negotiate a reasonable price for your stake. Often clients tell me that it’s more important to get out than to get a fair price. That’s too bad but it is often the reality. More about buyouts here
Here’s a tip. Get a Buy/Sell Agreement in place before trouble breaks out. And, if you are already in this situation, get help immediately. The tension will only get worse as time passes.
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“Even if you were removed because of something you did, you still have rights. You can’t lose your ownership unless you’ve committed crimes through the business.”
What Should You Do?
Get advice. Even if you are frozen out, you still own your stake in the business. That ownership comes with rights. You have a right to regular updates from whoever does the accounting. You must receive an annual statement from the business. And, you may have a good case against your partner.
Start by keeping your thoughts to yourself. Don’t threaten the other partner. Don’t push your partner toward lawyers! Once these things get into court, they get very, very expensive. You generally cannot recover legal fees if you win! Stay civil with all employees including the partner who locked you out.
Have your documents reviewed. That’s always going to be the first step. For someone to assist you, he will first need to understand the rules of engagement.
If you work with a mediator (I call myself a moderator), that person may be able to obtain some sort of agreement with your partner if there isn’t too much hostility. I’ve had some success in these cases because people are less defensive when talking to me. I work for the business with the goal of bringing peace to a tense situation.
I’ll know very early in the case whether things can be resolved without a court fight. If I see that my client is better off with a lawyer, I will make that recommendation immediately. But, if we can get things worked out at a fraction of the cost, why not try to moderate the problem before ‘lawyering up’?
Remember, it’s always better to avoid the fight than to battle it out and possibly lose. The fight is expensive, and winning might cost you everything.
Chris Reich, Partnership Moderator and Business Luminary