Unexpected events happen in business, just as in all other aspects of life. The death, disability, retirement or “divorce” of business owners can jeopardize a healthy business or send it into a financial tailspin. That’s why it’s so important for the owners to create a buy-sell agreement that spells out what will happen under certain scenarios.
Buy-sell agreements cover, among other things, who buys, who sells, under what conditions, at what price, on what terms and how the transaction is funded. They allow owners to make these strategic decisions in advance, long before a crisis occurs. By setting forth the terms and conditions for buying out an owner’s interest, they eliminate or at least reduce the turmoil of a key risk to the health of the business.
An effective buy-sell agreement can help the owners make a successful transition, while maintaining the ongoing business operations and survival. For example, the two owners of a grocery business corporation signed a buy-sell agreement after their father, the company founder, passed away, and modified it several times through the years. When one of the owners accidently died, his shares were purchased from his estate using life insurance proceeds, providing liquidity to his surviving spouse. In turn, the surviving owner was able to become the 100% owner of the company and eventually sold/distributed a portion of his shares to his children, who remained active and intimately took over the business.
That’s a far better outcome than a deadlock or prolonged struggle for control among the surviving owner and the spouse of the deceased owner – a frequent occurrence without a plan and effective buy-sell agreement. For simplicity, assume you are the surviving co-owner suddenly forced to deal with the spouse or children of your late partner, who now hold a 50% inherited equity interest. That family may not understand the business or its market, be qualified (or want to) work in the business and may hold different values or beliefs than you. If co-ownership continues and you can’t find a way to work together effectively, your business will be in deep trouble – sooner rather than later.
Consider the Scenarios
Qualified business lawyers can draft agreements that make for orderly exits of the owners, regardless of whether the business is a corporation, limited liability company (LLC) or a partnership. Because there are many “moving parts” in a typical buy-sell agreement, it’s important to have a team of experts involved, including an accountant, insurance expert and estate-planning attorney as members.
If a buy-sell agreement is not yet in place, sit down with your business attorney and discuss how to handle various exit scenarios:
How could the business’ ownership be made secure if an owner suddenly passed away?
What if an owner announced plans to retire right away or in a few years?
Is there a mechanism in place to purchase the shares of an owner who departs for other reasons – voluntarily or involuntarily?
How can these transactions be financed without endangering the cash flow of the business or its remaining owners?
If your business already has an agreement in place, take time to review it periodically and consider the various scenarios and solutions. After all, the business world continues to change, as do the goals of the owners and the value of the company.