A very common form of business structure is a Partnership.
From a legal point of view, Partnerships come in different forms like General Partnership, Limited Partnership, Limited Liability Partnership, etc.
But from a functional point of view, a Partnership can either be Strategic or Financial.
In this article, we will study a Financial Partnership and see how it contrasts with a Strategic Partnership.
Topics
Here’s what we’ll cover in this article.
- What is a Financial Partnership?
- Financial Partnerships Vs Strategic Partnerships
- Pros of Financial Partnerships
- Cons of Financial Partnerships
- Examples of Financial Partnerships
- Key Takeaways
What is a Financial Partnership?
To understand the term ‘Financial Partnership’, we need to first define the word ‘Partnership’ in the legal business sense of the word.
A Partnership is a business structure governed by a legal agreement between business partners to share the ownership of the business as well as its profits and losses.
A Financial Partnership is a partnership in which one or more of the partners finance the bulk of the business’s operations while the other partners focus on its operations.
Financial Partnerships Vs Strategic Partnerships
Financial Partnerships are primarily driven by the need for investment. A business needs funds to grow, enter new markets, service debts, acquire another business, etc.
The business could take on board a Financial Partner which brings the investment and leaves the management of the business to the existing Partners.
Financial Partnerships can be very transactional as they are based on a relatively short-term outlook (5 to 6 years).
Strategic Partnerships are often done between companies in the same industry or the same value chain.
In a Strategic Partnership, the strategic partner may provide access to technology or expertise. Or they may offer access to an existing distribution channel or customer base.
Strategic Partners do not necessarily make a financial contribution to the partnership but ultimately the partnership often results in financial gain to all parties.
Strategic Partnerships usually take a long-term view of the partnership whereas Financial Partnerships, even those that work, last for a shorter duration. This is because Financial Partners will often sell their stake or look for some sort of exit if they find a better investment opportunity elsewhere.
Pros of Financial Partnerships
- Financial Partnerships can be a quick way for an entrepreneur or a business owner to get fresh cash infusion into their business.
- Financial Partners can be hands-off and leave the business owner to run the business so long as the business is running as per plan.
- Financial Partnerships can attract new partners with relative ease as there are fewer chances of conflicts.
- By their very nature Financial Partnerships are made to only last a few years. And so, an Operational Partner could find a profitable exit for their current Financial Partner by replacing them with a new Financial Partner – all without impacting the operations of the business.
Cons of Financial Partnerships
- Financial Partners can have a short-term view of the partnership and may exit the partnership if they find better investment opportunities elsewhere.
- Even though Financial Partnerships result in cash infusion, the new funds still need to be put to work before a suitable return on investment can be gained. Strategic Partnerships, on the other hand, may open up new markets for a business almost immediately.
Examples of Financial Partnerships
Example 1: An entrepreneur raises funds for a new restaurant
Marie is a restaurant owner who owns and manages an Italian restaurant in the northern suburbs of her town. She would like to open a new restaurant in the south for which needs to raise $75000.
One option is for Marie is to take a loan. But her existing restaurant already has a lot of debt on its books, and she doesn’t want to burden it anymore.
So, she looks around for potential investors who may want to take a stake in her new restaurant. A regular customer of her existing restaurant hears this and offers to enter into a partnership with her.
The customer would invest the needed $75000 for a 50% stake in the business and an equal share of the profits.
They decide to set up the business structure in the form of a Partnership. This would be a Financial Partnership as Marie’s new financial partner would only help finance the venture, and Marie would still be responsible for running the new restaurant.
Example 2: A Transportation Company pays down its debt
Paul and Steve own a local transportation business which they’ve set up as a partnership. Instead of leasing trucks, the pair decided to buy them outright with financing through local banks.
Unfortunately, the business isn’t doing well. The local business climate is bleak, the economy is in the doldrums and their trucks spend more time in the parking lot than on the road.
They have offered deep price cuts to entice customers to start renting trucks again. But demand hasn’t picked up at all.
They have considered selling some of their trucks to raise money, but the trucks have depreciated so much that they wouldn’t fetch much.
Besides, both Paul and Steve feel that the economy will pick up next year and would like to have enough trucks when demand picks up.
Their problem is that right now, they are facing a cash crunch. They need to pay rent for their offices, make loan repayments on the loans and pay salaries. They need an urgent but temporary cash infusion.
Going to banks is out of the question. There is no more collateral to offer. And so, they turn to a friend, Robert, who owns several small businesses in town and who offers to come to their assistance.
Robert suggests that he come in as a third partner and offers to help pay down the business’s debt in exchange for a share of the profits in the coming years.
Paul and Steve agree, and they ink the deal. This is a Financial Partnership because Robert is coming into the partnership with funds and is leaving the operations to Paul and Steve.
Key Takeaways
- Financial Partnerships usually involve one or more partners who help finance the business while leaving the operations to the other partners.
- Financial Partnerships usually last for a few years and are deliberately structured to allow financial partners to take their investment out when a suitable exit-opportunity presents itself.
- Financial Partnerships can be a quick way to infuse cash into a business that needs it urgently.
- Financial Partnerships automatically do not immediately open new opportunities for the business since the infused cash still needs to be put to work before it can deliver the expected outcome. This is in contrast to Strategic Partnerships where a strategic partner may open up a new distribution channel or provide access to a new market almost immediately.
