Entrepreneurs Part Ways– Can One Pursue the Business?

We all are aware of the fragility of start-up enterprises.  What happens if a couple of people decide to give up their joint dream; can one of them take the opportunity for himself/herself?

This summer, a Delaware Chancery Court case engaged in analysis of this common question.  As in so many things corporate and fiduciary, the answer is, “it depends on the facts.”

The facts of McKenna v Singer (decided July 31, 2017) are too dense for meaningful summary and if you want a deep dive then read the forty page Court recitation, but the bottom line was that one of the former pair of entrepreneurs was allowed to take the deal for himself.  The fact that the plaintiff in this case misrepresented at the beginning and thus had “unclean hands” was a factor; it is unclear if the business logic of not letting an entrepreneurial idea get frozen to death, with no one able to pursue it, might have entered into it sub rosa.  Further, plaintiff was seeking part ownership of the new enterprise, and the Court might not have wanted to impose a shot-gun wedding on the two former partners who had themselves declared themselves divorced.

I will (almost) refrain from the typical lawyerly advice that at the start the entrepreneurs could have addressed this event by contract; entrepreneurs are short on time and money and often don’t want to spend either in addressing the ground-rules for their failure.

I also note that this is a Delaware decision, it has unique facts (don’t they all), and I am aware of some older Massachusetts authority that treated the business idea as a joint asset, of value to the abandoned enterprise, that could not be taken by only one player (and indeed suggesting that until the fight were resolved, neither party could act, a business result that is almost a death-knell in today’s speedy technology economy where getting to market fast is the difference between success and failure).

Particularly in start-ups set up as LLCs, which is the trend, writing something into the operating agreement about who owns the business idea in a divorce continues to look like an attractive idea; the only question is, what would it say?  Each equally?

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