Legal Question in Business Law in California

Re: Business partner trying to start a company in the same field.

First, co-promoters of closely-held corporations aren't really partners in the strict legal sense.

Nevertheless, your co-promoter probably owes a degree of loyalty to this corporation and to you, and probably cannot start a competing corporation, leaving you in the lurch, without liability to you for breach of contract and fiduciary duty.

I have to say "probably" because the nature and degree of duty of loyalty would depend upon your understandings and express or implied contracts. Not all people who take a 50% interest in a new corporation become beholden to the other shareholder(s) or the corporation itself, but more often than not, their arrangement does give rise to a duty of loyalty. I hope you and your co-founder are operating with some sort of written contract between you, covering stock ownership, amount of time, money and know-how each is to contribute, who gets to be on the board of directors, and who will hold various corporate offices. If nothing in writing, a court may have to figure out from your conduct what your deal was. OK, that's a starter on one subject.

Next, let's take a look at the two investors. Inducing the breach of an agreement by asking your associate to break away could be a tort, for example intentional interference with contract. Are the investors aware of your existence and your role?

On the other hand, I'm sure both of you know that inducing outsiders to put money into a start-up requires relinquishing something. In this case, they want stock. If you and your co-founder each ended up with 30% and the new investors got the other 40%, maybe that would be a good deal, especially if the 40% give-up brought in plenty of cash and the newcomers were willing to leave day-to-day management in the founders' hands. On the other hand, if you are asked give up 20% and your co-founder is giving up nothing, and your alternative is to get squeezed out altogether, you need a tough lawyer more than you need this co-founder!

On the whole, it sounds as though your business plan concentrated too much on how you were going to invent, make and sell widgets, and not enough on defining the founders' rights and roles. All business co-promoters should have a comprehensive agreement between them, since unexpected success begets greed and unexpected hard times lead to blame and finger-pointing, all of which cause companies to disintegrate and owners to sue each other.

At this point, and with the given information, it's impossible for me to predict whether your business relationship can be rehabilitated by a renewed commitment to fair play and ethical dealing, perhaps backed up by a somewhat belated written agreement, or whether it is time to get your own lawyer to get you out of the deal with the maximum possible settlement (or damages).