One of a small business owner’s primary goals is frequently asset protection. Small business owners are often wisely counseled not to “get into bed” with a potential business partner without conducting proper due diligence. The financial consequences should there be a fall-out in the business relationship or failure of the business could be devastating.
But what if the person you are “getting into bed with” in the business sense is your spouse? A fall-out in a marital relationship – i.e., divorce – can sometimes lead to unanticipated financial consequences. Where a business interest is among the marital assets to be divided, the parties may face the situation in which only one spouse was an active participant in the business, yet the other spouse is potentially entitled to an equal share upon divorce. In valuing the business interest and dividing the property, state- based property ownership rules certainly come into play, as do the terms of the business’s governing documents and any private contracts entered into by the spouses. If the terms of any such contracts are not crystal clear, however, it may be up to the courts to determine the proper valuation and division of a business interest acquired during the marriage.
One couple recently faced this situation and wound up in the Alaska state courts. In Gunn v. Gunn, No. S-15648 (Alaska, Feb. 5, 2016), a divorcing couple, Neil and Nona Gunn, disputed the nature of their marital interest in an LLC formed during their marriage. Neil was a 50% owner in the LLC, known as Venture North Group, LLC (“Venture North”), and a consulting company held the other 50% interest. Neil worked part-time for Venture North and part-time for an unrelated corporation. Nona, a stay at home mother, did some work for Venture North but was not named as a member in Venture North’s governing documents.
When the Gunns separated, Venture North had two clients for which it was working to broker deals: Brice, Inc. and Great Northern Engineering. Despite an otherwise amicable settlement, Neil and Nona disagreed as to whether they were jointly entitled to a 50% interest in Venture North and its future profits, or if Neil was entitled to a greater share based on the relative effort contributed by each of them during the marriage. The parties eventually entered into an agreement pertaining to the division of Venture North, which provided in part that: (1) Neil would retain sole ownership and control of the business interest, and (2) In the event of the sale of Brice, Inc. and/or Great Northern Engineering (a) before July 1, 2011, Nona should be paid 25% of the net commission from each sale, or (b) on or after July 1, 2011 and before January 1, 2013, Nona should be paid 20% of the net commission from each sale.
In July, 2010, Brice was sold and Venture North received a commission of $1,875,000. Neil proceeded to cut Nona a check for 25% of his 50% of the commission. Nona rejected the check, contending that the amount tendered did not satisfy the terms of their agreement. Nona understood that she was entitled to 25% of the full commission, and not 25% of Neil’s half of the commission. Unable to settle their dispute, the parties ended up in court.
Ultimately, both the Alaska Superior Court and, on appeal, the Alaska Supreme Court sided with Nona’s interpretation of the agreement. The court discounted Neil’s argument that he did not have a controlling interest in Venture North and, had the LLC admitted new members, Neil’s interest could have been diluted. He claimed that, had his interest been diluted, Nona’s claim of 25% of the total commissions would have been more than he was entitled to – an agreement Neil would not have made.
The court seemed most persuaded by the fact that Nona could have owned 25% of the company post-divorce, since the LLC interest was marital property. Nona relinquished her rights to ownership of the LLC in exchange for stepped down percentages of commissions depending on how long post-divorce the sales were consummated. The court also focused on the fact that the agreement did not say that Nona was entitled to 25% of “the net commission received by Neil Gunn [from] each sale,” but rather it said that she was entitled to 25% of “the net commission from each sale.” Thus, siding with Nona, the court awarded her a full 25% share of the commission from the sale of Brice.
Perhaps Neil Gunn honestly felt that his ex-wife was agreeing to not only give up her ownership interest in the LLC, but also accept only a quarter of the profits Neil received from the LLC. It seems unlikely, given Nona’s equal entitlement to the LLC interest under applicable state law. Assuming, however, that Neil understood Nona to be making such a lopsided agreement, he would have been well advised to draft the parties’ settlement agreement in a way that much more clearly conveyed that intention.
Assuming Neil Gunn misunderstood what he was agreeing to in the settlement with Nona, he is presumably unhappy with the attorney that prepared that agreement. WealthCounsel’s drafting solutions can help attorneys and their clients avoid such misunderstandings. Wealth Docx® and Business Docx® help attorneys draft agreements in a thorough yet straightforward manner. The drafting software also provides helpful explanations of more complicated provisions to ensure that attorneys are carefully considering various aspects of the relevant legal issues. Utilizing the communications tools available to members in the drafting software, including the Operating Agreement Executive Summary, attorneys can provide a clear and concise overview of the representation, issues and procedures involved, and the terms of the agreements prepared for them.
