For small business startups, enlisting the help of a silent business partner may feel like a win-win proposition. The notion of a partner who will contribute money without demanding control likely feels too good to be true.
Better yet, when you consider that 82% of startups fail due to cash flow problems, finding a silent partner could be a vital step in your company's survival.
In short, silent partners share financial resources in exchange for partial ownership in your company. Sometimes referred to as limited partners, silent partners have a limited financial stake in your company and can only lose the amount of funding they've contributed.
And though it might sound like a can't-lose situation, it's important to fully understand this type relationship before diving in it headfirst.
How does a silent partner work?
Silent partners are brought on to contribute funds to your business without getting involved in day-to-day operations or major decisions. Because this type of partnership is uniquely valuable to both parties, it's important to choose an investor that your team trusts — and who trusts you.
Finding your silent business partner is the first step, and we'll talk more about this below). Next, draw up a partnership agreement with which both parties are comfortable. This is a non-negotiable, as this document clearly defines the roles, responsibilities, and expectations for your business and silent partner.
After you've settled the legalities of your relationship, how you and your silent partner work together (or don't work together) is up to you. Typically, silent partners simply make their investment and step back, letting you and your team manage all operations and decisions.
Silent Partners vs. General Partners
Silent partners provide financial support and partnership to help fund and grow a company, but general partners are individuals or groups of people who have control over the management, function, and spending of a company.
Silent partners aren't involved in day-to-day company operations like general partners are. Because general partners can make decisions on behalf of the company, they are less financially protected and may be personally responsible for company debts and liabilities.
Silent Partners vs. Secret Partners
Unlike silent partners, secret partners may have a say in the business' daily operations without public awareness of the relationship. Secret partners may, for example, worry that previous business failures will tarnish the reputation of the new venture. As a result, they may choose to keep their involvement private.
People often use the terms interchangeably, and it's possible that a silent partner can also be a secret partner. To protect all parties involved, make sure to clarify exactly how your partnership will be defined.
Speaking of, let's talk about how to navigate a partnership agreement.
Partnership Agreement
In order to keep your entire operation running smoothly and without surprises, you must clearly define the terms of your silent partnership.
Most states require partnerships to be formalized by legal documents that exactly outline the role of each partner in the organization. These agreements should clearly define the responsibilities and liabilities of each partner.
Consider enlisting the help of a securities attorney to help you create the partnership option that's best for your business and all its players. Although spoken agreements can be binding, you're better suited to document everything in writing so there is no room for dispute or confusion about what each party agreed to do.
Enlist legal help to protect the interests of everyone involved. Securities experts can help you structure your business properly and protect yourself against violations and penalties assessed by the Securities and Exchange Commission.
The internet is full of cautionary tales about silent-partnerships-gone-wrong, and many of the problems stem from people who failed to legally protect their own interests. Even if you're certain that you'd never find yourself in a legal dispute, consider the stories of those before you who believed the same way.
Just as silent partnership has many benefits and rights, it also has financial stakes and risks. Let's review those below.
Financial Stakes of Silent Business Partners
In return for their initial investment, silent partners often receive stock in your company as well as a percentage of revenue or profit. The amount of passive income they earn will depend on how well your company does and the agreement you put in place. In most cases, your silent partner will earn a smaller share of the profits than the active partners.
As for debts and losses, all partners in a business venture are responsible for the business' finances. Thanks to limited liability, however, silent businesses are generally only liable for the percentage they initially invested in the business. A partner who has a 15% stake in the business, for example, is only responsible for 15% of its losses and debts.
The particulars of the partnership must be decided at the beginning of the relationship and in the partnership agreement to avoid legal disputes and misunderstandings.
Both owner and partner must acknowledge the investment for tax purposes, with the silent partner responsible for any profits she makes on the investment.
Risks for Silent Partners
Because silent partners aren't involved in the daily operations of your business, trust is vital to the success of the endeavor.
Silent partners have no official input in the profitability of your company or its strategic choices. They have no control over issues like legal compliance, environmental issues, or accounting standards, nor will they have control over how assets are managed. This means the investment could be negatively impacted if incorrect or unethical practices happened to occur within your business.
Not only do silent partners have less responsibility to your business, they also have less liability in it. With the right legal documents in place, a silent partner will be only minimally involved for any losses the company incurs, making it a safer investment than direct, or general, partnership.
But because silent partners are protected from unlimited liability, they generally have no claim on company assets in the case of dissolution until all other obligations are paid.
How to Find Silent Business Partners
Because silent partners are focused on the return for their investment, you must develop a business plan that addresses revenue projections in order to enlist their involvement. You must effectively demonstrate how your company will create positive cash flow within a reasonable amount of time.
Start with friends and family who know you well and trust your efforts. Think of your initial efforts as a friends-and-family round in which you tap those closest to you for varying amounts of investment.
Friends and family may be more likely to delay payments if your revenues don't initially meet expectations, and they are less likely to take legal action against you in the face of catastrophic failure. This initial effort may also help you build experience and confidence to engage with those outside of your inner circle.
Next, look to angel investors who typically fund projects during the early development stages. These are often wealthy people who are open to silent partnerships. Venture capitalists, likewise, seek to invest in businesses that have the potential to provide a large return on their investment.
There are also entire online directories designed to help you identify possible investors.
Finally, consider complementary businesses whose operations might benefit from your efforts. If you launch an event space, for example, consider whether local wedding planners or caterers might be interested in investing in your effort. Their investment can help them diversify their finances and invest in a venture that could boost their own business.
How to Attract Investors
Investors want to find businesses with promising futures and plenty of room for positive growth. You can improve your odds of finding those investors if you establish realistic, quantifiable figures that spell out your business plan and answer any questions your potential investors might have.
Develop a pitch that includes your concept, product or service samples, and information about your existing competition. Also include survey results, marketing plans, bios of your key personnel and budget information.
Clearly outline how much money you're seeking and how you intend to spend it. Detail what you're offering to your investors in exchange for their help. And highlight any media coverage your business has earned as well as major investments you've secured, where appropriate.
Over to You
Effective partnerships can bring together people with complementary skills and varied experience to the benefit of a growing business. Additionally, though, partnerships can increase the likelihood of conflict given the added personalities involved.
Once you understand the risks and rewards of a silent business partnership, you can safely enter an agreement that benefits everyone involved in the transaction.
To learn more, read our list of small business opportunities for 2020.
