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Legal glossary

Related-party transaction: Overview, definition and example

A related-party transaction is a business deal or arrangement that takes place between two parties who are connected by a special relationship, such as family members, business partners, or companies with common ownership or control. These transactions can involve buying goods or services, lending money, or other financial dealings, where one party has influence over the other.

Related-party transactions are important because they can raise concerns about fairness and transparency. Since the parties involved may have personal or financial interests in each other, these transactions might not always reflect market value or be made on arms-length terms. This can lead to potential conflicts of interest, fraud, or other risks. Therefore, businesses are often required to disclose related-party transactions to ensure they are properly managed and transparent.

Imagine Company A and Company B are both owned by the same individual, John. Company A sells products to Company B at a price that’s higher than market value. Since John owns both companies, this is a related-party transaction. If Company A and Company B were separate, unrelated entities, the sale would likely occur at market price. However, in this case, the pricing might be influenced by John’s interests in both companies.

For example, if Company A sells the products for $50, but the market price is $30, this could be seen as a way for John to shift profits between the two companies. This would need to be disclosed to stakeholders to ensure the transaction is fair and properly managed.

Here’s how a related-party transaction clause might look in an agreement:

“The Company agrees to disclose all related-party transactions, including any sales, purchases, loans, or other financial dealings with parties who are directly or indirectly connected to the Company, its directors, or executives. All such transactions shall be conducted at fair market value and in accordance with applicable laws and regulations.”

Conclusion

Related-party transactions are business dealings between parties with a special relationship, and they need to be carefully managed to avoid conflicts of interest. While they are common in family-owned businesses or corporate groups, they should always be disclosed and conducted transparently to maintain fairness and protect the interests of all stakeholders. Understanding how related-party transactions work helps businesses manage potential risks and ensure compliance with regulatory requirements.

This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.

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