Without a buy-sell agreement in place, business owners risk face unnecessary risk, and are open to events that can disrupt their business and decrease its value. It is estimated that three out of four business owners lack documented succession plans, (to include buy-sell agreements. If government estimates are correct, and nearly 52 percent of business owners are over the age of 50, that’s a lot of companies about be thrown into chaos and experience lost value when an owner passes without a plan in place.
Business with multiple owners need a separate buy-sell agreement (or buyout agreement). It’s not just the death of an owner that can cause problems. Owner divorce could lead to an ex-spouse having control. Personal bankruptcy could lead to remaining owners sharing control with a bank. Or how to you handle things when one of the owners decides it time to leave or retire?
What is a Buy-Sell Agreement?
Buy-Sell Agreements explain how and when owners can, or must, sell their interest. This agreement is often part of the initial bylaws as a business starts, but if not, consider doing it now. If you do not discuss “buy-sell” matters before an owner leaves, a lawsuit could result. Doing it now as agreeing on the terms at a later date may prove extremely difficult.
A properly drafted buy-sell agreement provides a mechanism for an orderly business succession should an owner decide to transfer his interest. This may be voluntarily, because of desire to pursue other business interests, or retirement. Or it may be triggered by involuntary events, such as death, disability, insanity, or bankruptcy. The existence of the buy-sell agreement affords the co-owners the option, or mandatory obligation, to purchase the departing owner’s interest and to restrict others from becoming owners. This can be particularly useful for family owned businesses.
What are the Common Provisions?
Some of the most common provisions in a buy-sell agreement are:
Call rights – provides existing owners the option to purchase another owner’s stock or shares at a premium.
Put rights – provides a departing owner the option to sell his/her stock or shares to the other owners for a discount.
Deadlock provisions – provides a mechanism for owners to part ways or dissolve the company.
Right of first refusal – allows the existing owners to purchase the departing owner’s stock or shares at the same price being offered by a third party.
Majority owner’s sale – if the majority of owners desire to sell the company, they can force the sale upon the minority owners.
With these provisions, buy-sell agreements will generally contain a valuation clause with the terms of the buyout and, often, a definition of value. Without an ability to value the interest being bought or sold, disputes can quickly arise. When the need to sell occurs, relationships will likely become strained. Failing to have a clearly defined buy-sell agreement in place may result in costly conflict, and require mediation, arbitration, and/or litigation.
Takeaway
Properly drafted buy-sell agreements are an essential to an essential succession plan. The time to agree on that plan is before the buy-sell agreement becomes necessary. Need assistance drafting or revising a buy-sell agreement for your company? Contact CASHMAN LAW today for a free consultation to see how we might help you with your succession planning.
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