DIVERSIFYING YOUR BUSINESS
The Covid pandemic has caused all sorts of disruptions to business as usual. Some businesses have thrived while others have gone under. Everyone learned how to meet by Zoom and to be more resilient. For some businesses this means diversifying the goods or services provided to customers.
In many ways, bringing on a new product line or service is like starting a new business. You have to identify your customers, your sources of raw materials, your costs, your employees, your processes, your distributors, and your price points. You have to obtain the necessary physical space, tools and equipment, and licenses and permits.
You should also consider whether your business structure is properly suited for the new activity. It is very common today, when forming a new corporation or limited liability company, to provide that the entity may engage in any lawful activity. However, some entities have more narrow corporate purposes. The entity may be limited to holding and managing real property. The entity may be limited to manufacturing and distributing a certain kind of widget. Or it may be limited to providing a professional service such as accounting or architecture. Diversification cannot occur in these kinds of limited entities. It is unlawful for the entity to engage in activities beyond what is authorized. The legal phrase for this is ultra vires – “beyond the powers” – and it presents a risk of litigation brought by equity owners or regulatory authorities. It may also interfere with obtaining financing from banks.
Some entities are called single-purpose entities. They are both required and permitted to do only one thing, such as own and manage a particular parcel of real property. This requirement usually comes from their lenders, who have assessed the risks of lending to the entity based upon its planned activity. They do not want the entity involved in other activities which will add different risks.
Similarly, many leases specify the kind of activity that may take place in the leased premises. Beginning a new activity could put a tenant in breach of its lease. Zoning restrictions may also inhibit entering into a particular activity.
Another consideration is risk management. Engaging in a new activity brings new kinds of risks which may not be covered by existing insurance policies. A conversation with your insurance broker should come before launching into any new activity.
In addition to insurance, risk can be managed by creating multiple and interacting corporate entities so as to isolate and contain risk. There could be a limited liability company that owns the real property. There could be a separate LLC that owns the building that sits on the real property. There could be another LLC that owns the equipment, tools, and inventory inside the building. Another entity could own patents, copyrights, or trademarks. Another entity could own the trucks; in fact, there could be a separate corporation for each truck. This way, if a truck explodes, only the corporation that owns that truck would be at risk, and the remainder of the enterprise could carry on. There would be leases and contracts between and among all these companies that provide their particular goods or services to the enterprise.
As we always advise, a business owner considering a new line of activity should first consult with the three legs of the stool: the accountant, the attorney, and the insurance broker.
This is not intended to be legal advise. You should contact your attorney to discuss your specific situation.
This article appeared in the December, 2021 edition of the Sullivan County Partnership’s In The Know Magazine.
____________________________________________________________________________________________________
Gary M. Schuster is Partner at the firm and practices business, non-profit, arts and entertainment law and marijuana licensing.
He can be reached at 845-764-9656 and by email.
