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If you are a business owner, you may decide to collaborate with another business for a particular project or to deliver a new product or service. This presents a great opportunity for you to take advantage of each business’ know-how and expertise to deliver something new to the market. In this situation, you may decide to split the profits that you generate. Suppose you are entering into this sort of partnership with another entity. In that case, you will want to ensure that you agree upon the distribution of profit and record this in writing to avoid any disputes. This can be done in a profit sharing agreement. This article will explore: 

  • what a profit sharing agreement is; 
  • when to use a profit sharing agreement; and 
  • the typical clauses you will find in this agreement. 

What Is a Profit Sharing Agreement

A profit sharing agreement is a contract outlining the terms of the profit sharing arrangement. Both parties should negotiate, document and sign this agreement before entering into a partnership. The agreement’s key terms are outlined below. 

When Is a Profit Sharing Agreement Used?

A profit sharing agreement is used when two entities work together for the same purpose, typically for a project-based time period. This is commonly referred to as an unincorporated joint venture, whereby the two entities remain as such and do not form a new company for the purpose of the project. The parties will typically bring different skills and capabilities to the relationship. Therefore, the division of profits will usually reflect the split in responsibilities and risk between the two parties. Once these two parties have come to an agreement on the way in which profit should be shared, it is prudent to document this. Doing so will help avoid confusion and disputes down the track. 

You can also use them in employment and independent contractor scenarios. Particularly where individuals agree to split profits for the company they are working for or with, usually for a specific period of time. 

Example

A clothing store is wanting to build its customer base and has decided to enlist the services of a celebrity to help design a new collection and appear in the marketing campaign. Both parties agree that the profits will be shared, with the clothing company getting 85% and the celebrity getting 15%. This should be outlined in a profit sharing agreement so that both parties have documented the split and know when they will receive their profits.

What Is in a Profit Sharing Agreement?

Profit sharing agreements will typically contain the following clauses:

1. Profit Sharing 

There will need to be provisions that document the split’s amount (usually represented by a percentage). It will need to detail: 

  • how you will calculate the profit; 
  • the timeframe in which you will share the profits; and 
  • when the other party can expect to receive their profits.

2. Termination

There will typically be clauses that outline in what situations and how either party can terminate the profit sharing agreement.

3. Dispute Resolution

If there is a dispute between parties under the contract, it is best to have a dispute resolution clause that will bring both parties together to discuss the matter before making a claim. This can be very useful to ensure that both parties act in good faith. It may also mitigate the risk of a prolonged dispute under the contract. 

4. Confidentiality

Both parties should agree that they will keep the agreement and its terms confidential. This clause will usually survive any termination of the agreement. 

Note: If a person/ company is also offering services alongside the profit sharing arrangement, these will need to be detailed via the below clauses or in a separate agreement.

5. Obligations

There will be clauses that outline what each party agrees to provide as part of their collaboration. Each party will make certain promises that they will deliver their services with skill and care. 

6. Intellectual Property

In the course of collaboration, parties will often share their intellectual property or allow the other party to use it. This clause will outline who owns intellectual property and what happens to the intellectual property that is created during the course of the project. 

7. Indemnities and Liabilities 

If any issues arise under the agreement, indemnity and liability clauses outline in what case and to what extent each party will be liable. It will also specify whether each party agrees to indemnify the other. 

Key Takeaways

If you are entering into an agreement with another business to create a specific product or deliver a service, you may decide to split the profits. It is highly recommended to put a profit share agreement in place to avoid a dispute with the other party over the distribution of profits. The agreement should outline the: 

  • division of profits;
  • confidentiality;
  • intellectual property;
  • roles and responsibilities; and 
  • what happens in the event of a dispute. 

For assistance preparing or reviewing profit sharing agreements to ensure you are well protected when entering into a commercial contract, contact LegalVision’s contract lawyers on 1300 544 755 or fill out the form on this page. 

Frequently Asked Questions

What is a profit sharing agreement?

It is a contract outlining the terms of a profit sharing arrangement, where two businesses decide to split the profits of a product or service. 

When is a profit sharing agreement used? 

It is often used when two entities work together for the same purpose. This could be an unincorporated joint venture where they do not form a new company for the purpose of the project. They are also used in employment and independent contractor situations, where individuals agree to split profits for the company they are working for. 

What clauses are included in a profit sharing agreement?

Typically it will include clauses covering the profit sharing amount, termination, dispute resolution, confidentiality, obligations, intellectual property and indemnities and liabilities. 

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