A silent partner, also known as a sleeping partner, is a popular phrase used to describe individuals who contribute capital to a business without actively participating in its management.
Although the term “sleeping partner” technically pertains to partnerships, it is commonly used to refer to shareholders who do not engage in the day-to-day operations of a limited liability company.
Instead, their primary role is to provide financial investment. It is worth noting that a sleeping partner can be an actual partner in a limited liability or standard partnership, or they could be a shareholder in a limited liability company.
The primary objective of being a sleeping partner is to generate a return on investment. In the case of a limited liability company or partnership, the liability of a shareholder is restricted to the amount they have invested. However, if any unfavorable circumstances arise, they may risk losing their investment.
For the purpose of this discussion, we will assume that sleeping partners are shareholders in a limited liability company or limited liability partnership, as opposed to an unlimited partnership
Advantages of being a sleeping partner
By assuming the role of a sleeping partner and refraining from active involvement in company management, one can avoid the risk of being labeled a shadow or de facto director, thereby evading the severe penalties associated with breaching directorial obligations.
The merits of a silent partnership or sleeping partnership lie in the fact that as the business prospers and generates greater profits, so does one’s own financial standing. This arrangement allows for the possibility of earning income from the invested capital or experiencing capital growth.
Simultaneously, the absence of managerial responsibilities becomes a significant advantage. Crucially, it eliminates the burden of managerial or directorial duties, which, if mishandled, can result in substantial personal liabilities. These liabilities may encompass financial obligations or even the potential disqualification as a company director.
What are the risks of being a sleeping or silent partner as a shareholder?
If a silent or sleeping partner opts not to engage in the management of the company and instead entrusts the directors and managers with complete control, one could argue that their level of risk is comparatively higher than that of shareholders who actively participate in the company’s operations to the extent permitted
Voting rights
While shareholders who are not directors have limited control over the day-to-day operations of a company, there are still avenues through which they can influence its direction. The extent of shareholders’ interests is determined by the percentage of shares they hold in relation to the company’s total shareholding. A shareholder holding more than 50% of the shares possesses a majority stake, granting them a considerable advantage in shaping the company’s trajectory through voting during shareholders’ meetings.
Through their voting rights, shareholders can exert influence on critical matters such as deferring dividends, amending the company’s constitution, or initiating changes in directorship. Additionally, shareholders possess the power to remove directors, further bolstering their ability to impact the company’s governance.
Shareholder agreement
If a shareholders agreement exists, shareholders may have additional rights and entitlements to influence specific aspects of the company. Such agreements can grant shareholders powers like the ability to veto certain decisions. For a comprehensive understanding of these provisions, we recommend referring to our detailed pages on shareholders agreements.
However, any shareholder who chooses not to actively participate in general meetings or voting exposes themselves to the risk of the company moving in a direction or taking actions that they may not align with. Such developments could potentially impact the overall value of the company’s shares, directly affecting the interests of sleeping partners.
Unwanted changes and additions
In the event that a shareholder disregards the financial state of a company, they run the risk of witnessing the company’s progression towards insolvency, ultimately resulting in the devaluation of their investment to a point of worthlessness. Additionally, the introduction of new shareholders by the company can lead to a dilution of the shareholder’s shares, potentially reducing their overall value.
Frequently asked question
Yes, sleeping partner have limited liability that extends only up to the amount of capital they invest in the business. As a result, they can potentially lose their entire investment—but typically no more. Does a sleeping partner have limited liability?
Conclusion
In conclusion, sleeping partners, also known as silent partners, play a unique role in business ventures by providing capital without actively participating in the management. While they may enjoy certain advantages such as limited liability and potential returns on investment, their lack of involvement in the company’s affairs comes with inherent risks.
Failure to monitor the company’s performance or engage in shareholder activities can expose sleeping partners to the perils of insolvency, rendering their investments worthless.
Moreover, the arrival of new shareholders may lead to dilution of share value. Therefore, it is crucial for sleeping partners to stay informed, exercise their rights, and actively protect their interests to mitigate potential liabilities and ensure the long-term viability of their investments.
With over three decades of experience in the business and turnaround sector, Steve Jones is one of the founders of Business Insolvency Helpline. With specialist knowledge of Insolvency, Liquidations, Administration, Pre-packs, CVA, MVL, Restructuring Advice and Company investment.