Articles Tagged ‘Buy-sell agreement’

The Essential Business Ageement: A Business Continuity Agreement Among Owners

Saturday, April 13th, 2013

Presented by T. Ray Phillips

If you co-own your business, the business continuity agreement (or “buy-sell”) is one of the most important documents that you will sign. If you have a buy-sell that is out-of-date, un-reviewed or focuses on the wrong issues, it may well be worse than having no agreement at all.

Let’s start with a hypothetical case study that illustrates the importance of drafting a buy-sell agreement that anticipates and provides for all transfer events (lifetime transfers or death).

George Acme’s son-in-law, Tom Gardner, had been with George’s company for over 20 years. Tom had gradually assumed operational management, was the acting CEO, and had purchased 25 percent of George’s ownership over the years—mostly at a low value in recognition of his valuable services. Eventually, everyone acknowledged that Tom would one day own the company and carry on the fine traditions of Acme.

But that was before George died and Tom’s sister-in-law, Babette, became the executor of the estate. Babette told Tom that she would sell him the balance of the company—but at full fair market value and in cash—or she would sell the business to the highest bidder.

Only later did she realize that without Tom’s cooperation, the business was unlikely to sell. No buyer wants a disgruntled minority co-owner, especially when he’s the current CEO.

Tom and Babette disagreed about value, control and successor ownership. All these issues could have best been discussed and resolved before George’s death. Had Tom and George created a business continuity agreement, the business would have transferred at a fair price to the benefit of all concerned. Now, because the owners weren’t talking—except through their lawyers—it was unlikely that Acme could even keep its doors open.

Lifetime or Death Events

The business continuity agreement (also called a buy-sell agreement) controls the transfer of ownership in a business when certain lifetime or death events occur. Typically the “trigger” events include the death of an owner, and a sale and transfer of stock from one owner to another or to an outside party. Your buy-sell can also describe your agreement about how transfers will take place during the owners’ lifetimes such as an owner’s permanent and total disability, termination of employment, retirement, bankruptcy, divorce, and/or a business dispute among the owners.

Consider one example: Assume George didn’t die, but that one of the owners wanted to exit. How do they agree on value, buyout terms, or design the acquisition? Without a buy-sell agreement agreed to in advance, one owner’s desire to exit can transform longtime co-owners into adversaries. The buy-sell sets the valuation method, the terms of the purchase and outlines the tax planning.

In essence a lifetime buyout of an owner is similar in design and consequence to the sale of the entire company to a third party.

The value of the business, the terms of the sale (payment, security, etc.) will all be negotiated. In internal transfers, however, hard-nosed negotiation tactics and disputes about value and payments can quickly destroy friendships, company culture or even the value of the business.

The best way to avoid this is to agree in advance on the method of appraising value and payment terms when all of the co-owners are on the same page—looking out for the ultimate welfare of the company and not knowing whether they will ultimately be a buyer or a seller.

At each of these events, the business continuity agreement may require the business or the remaining owners to purchase the departing owner’s stock; or it may give an option to the business or the remaining owners to buy that ownership interest. Or it may give the departing owner the option to require the company to buy his or her ownership interest.

Remove the Guesswork
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