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Before you sign that agreement!

Entrepreneurship is risky. Knowledge is power. Stuff happens.

Business owners should arm themselves with knowledge about how to minimize legal and financial exposure, then fully exercise their right to limit and manage liability. Before you sign a legal agreement, ask yourself:

A. How can I minimize my financial exposure by the way I execute this agreement?

B. Who is the actual counterparty to this agreement?

C. To what extent do I rely on this counterparty to perform in the future--financially or operationally?

The primary way businesspeople limit financial exposure is the legal entity. It's one of the great inventions of modern commercial society. It allows people to take risks and shield their personal financial lives and/or their other legal entities. But it must be used wisely and properly--such as by signing agreements as a representative of one of the legal entities in a way that clearly demonstrates that you are not signing them personally.

When binding a legal entity, the signature block must have the full and correct legal name of the entity entering into the contract. Then underneath the legal entity name is the name and title of the "authorized representative" who signs on behalf of the entity. Here is an example of a properly styled signature bar:

"Purchaser" [right arrow] defined in your contract as [right arrow] ABC Electronics, Inc., a Colorado corporation

By: --

John Doe, Vice President

A signature block like the example above ensures that any party who makes a claim under a contract has recourse only against the legal entity. (1) If an individual signs his or her name to a contract and there is no indication that the individual is signing on behalf of a legal entity, the individual could be held personally liable.

As a business owner, you should use legal entities to limit your personal exposure. If you have multiple legal entities, you should also choose wisely which legal entity to bind. Similarly, if your primary legal entity has considerable value and you enter into business ventures that are risky or could give rise to significant liability, talk to your attorney about containing the risk within a separate entity.

Make sure you can depend on your counterparty

The extent to which you rely on your contractual counterparty in the future dictates the level of care you should take to know his, her or its financial capacity and history of performance (or lack thereof). For example, if you buy a car in "as is" condition with no warranties of any type provided by the seller, there's not much at stake in their financial wherewithal or trustworthiness. (2)

But, on the other hand, if you lease a piece of real estate for a multiyear term, as lessor, you rely on your lessee to pay sizeable sums over many years. You also rely on the lessee to care for and maintain the property and improvements. You have a lot at stake. Evicting and re-leasing can take a lot of time and money. Leasing to a party that is financially unfit or has a history of defaulting on commitments could result in considerable loss. You definitely want to investigate the financial condition and track record of the proposed lessee.

How? Ask questions. Who (or what legal entity) is the proposed lessee? Is it a subsidiary of another entity? How long has it been in existence? What is its federal tax ID number? Headquarters address? Corporate phone number? With the above information, run a Dunn and Bradstreet (D&B) report. Your banker can obtain it for you. Ask your attorney to search for legal filings that involve the entity and its owners and representatives.

Additionally, ask for financial statements, a current balance sheet and most recent full-year income statement and current year-to-date income statement. If they refuse, assume the worst. If they comply but you are not expert at reading financial statements, seek the assistance of your banker or accountant.

If you conclude the proposed entity is not fit for the task at hand, express your concern with the representative. Tell him or her you need greater financial strength to stand behind the agreement. Let them propose solutions: maybe a new legal entity, maybe a parent company, maybe a personal guarantee, or all of these. But, of course, investigate the financial capacity and track record of any new entities, including persons, they propose.

If they take offense, explain that it's not personal, just business. Don't take verbal assurances. Accept only factual evidence. Talk is cheap. Entrepreneurship is risky. Knowledge is power. Stuff happens. Conduct your affairs in a way that protects and maximizes your interests. It could mean the difference between success and failure. b

(1) This relates only to contractual liability. The "authorized representative" who commits fraud or misrepresentation could be held personally liable for such acts.

(2) Assuming, of course, that you are able to fully assess the condition of the car prior to purchase, and you are able to confirm that the true owner of the car, or the legal representative of the same, is the person you are transacting with.
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Title Annotation:MANAGEMENT
Publication:The Business Owner
Geographic Code:1USA
Date:Jul 1, 2010
Previous Article:Corporate governance and maintaining the corporate veil.
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