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In simple words, a memorandum of understanding is a mutually agreed upon terms, conditions or specified objectives and indicates a certain convergence of wills of both the parties. The only problem is that it is not as powerful as a regular contract. This is due to the fact that a memorandum of understanding is simply a mutual understanding which is not backed up by considerations.

“I will make him an offer that he can’t refuse”, is a very, popular and aptly suitable statement by the Godfather Don Corleone, in the famous book, The Godfather. Throughout the book we see that both Don Corleone Sr. and Michel Corleone, trying to make a Memorandum of Understanding with several other characters and there is one simple thing they ask for a well understood friendship. The Memorandum of Understanding, that they offer, in several cases is simple, “Don’t bring out your guns, or I go to the mattress and don’t intrude my territory or I blow your brains out”. Well this is a very, very brutal example for a Memorandum of Understanding that a law abiding citizen can dream about. On the whole, the entire concept goes that two parties make offers to each other on a mutually understood or acceptable basis.

About the Memorandum of Understanding

Several experts, businessmen and lawyers describe a Memorandum of Understanding as a bilateral or a multilateral agreement between two or several parties, which is non-contractual or quasi-contractual in nature. The following are the key characteristics that define a memorandum of understanding.

* A Mutual Agreement: A memorandum of understanding is a mutual agreement of fact, terms or conditions, etc. The drawback is, being a mutually agreed upon document its legal enforceability becomes quite limited.
* Quasi-Contract: This kind of document is chiefly a quasi-contract that is, it does not have legal enforceability beyond a certain premise. A quasi-contract is basically an agreement which has the guise of a contract, however, it does not have the features and the complete legal premise of a regular and pure contract.
* Bilateral or Multilateral: This kind of understanding is always bilateral or multilateral meaning that the parties which are involved in the understanding have an equal and distinct benefit or advantage from the agreed terms and conditions.
* Avoiding Unhealthy Rivalry: In the business world, one of the key objectives of a memorandum of understanding is to avoid risky and unhealthy competition between two direct competitors, which might drastically affect both the competitors, either financially or by the virtue of public image and market demand for its goods.
* No Legal Shackles: The memorandum is also a way of avoiding stringent and confining legal shackles. The initiation, modification, acceptance and execution becomes relatively easy and acceptable for either party in such a situation.

Incoming search terms:

• simple memorandum of understanding

You should consider a shareholders’ agreement as a “pre-nuptial” agreement. You are trying to reach a consensus in advance of a possible breakdown in the relationship. 1 in 3 marriages fail and the failure rate for business is much higher. Negotiating with your business partners ought to be a lot easier than with your spouse as the “don’t you love me” doesn’t come into it!

Here is a non-exhaustive list which you could use as a limited agenda for discussions between proposed or existing shareholders. This should be followed by detailed legal advice and then a written agreement between the parties.

1. Alternatives: limited company, partnership or limited liability partnership etc

Assuming you select a limited company:

2. Purpose of venture. Business plan. Expectations.

3. Share split
a. Implications of key thresholds: 5%, 10%, >25%, 50%, >50%, 75%
b. Deadlock vs controlling stake vs negative control/ability to block
c. “Ordinary”, “Special”, “Written” resolutions
d. class: ordinary, preferred, redeemable etc
e. dilution (now and future)

4. Directors
a. Day-to-day management
b. How many
c. Right to appoint/remove
d. Chairman; casting vote?
e. Service agreements: salary level?

5. Company name, company secretary, registered office, accountant/auditor

6. Finance
a. Share capital vs debt
i. Allotment of new shares
ii. Cash/non-cash
iii. Director’s loan
iv. Second round
b. Security? Debentures/charges. Personal guarantees. Indemnity to each other?
c. Working capital
d. Bank mandate: joint signatories?
e. Dividend policy
i. consider minimum % profits to be distributed or retained if no agreement
ii. dividend versus salary balance

7. Business plan and budget incl cash flow; agreed intervals

8. Exit strategy (the important one!)
a. Share valuation mechanism
b. Discount/premium for certain stakes
c. Ability to transfer part or whole stake only
d. Staggered exit – tax and valuation implications
e. Trigger events eg
i. Death/serious illness
ii. Divorce
iii. Trade sale
iv. One party wishes to leave
f. When to wind company up
g. Pre-emption rights
h. Ability to transfer to spouse/children
i. “Shoot-out” provision: party receiving notice must elect either to purchase shares of other party or sell its shares to that party
j. “Bring-along” provision: transferor must require third party purchaser to offer to buy also the other party’s interest at the same price per share
k. “Drag-along” provision: selling party can oblige other party also to transfer its shares to the same purchaser
l. Put/call options included at outset

9. Matters requiring unanimity

10. Dispute/deadlock resolution mechanism (Ultimate sanction: specific right after minimum period for either party to call for liquidation)

11. Personal tax planning issues affecting structure

12. Intellectual property

13. Non-compete/non-solicitation

14. Confidentiality

15. Life/term assurance: key man, cross option etc

As you can see there is a lot to consider when you go into business with some one. Better that you discuss these issues up front. We have run through this list with numerous clients and the most frequent feedback is: I really didn’t think about that. Thanks. Hopefully the answers you come up with don’t mean that your business relationship founders immediately. If you find it difficult to reach a consensus with your business partner now on key issues let this be an alarm bell. Consensus is often more difficult to achieve further down the road.