Executive Summary
Any corporation or partnership that has more than one shareholder or partner should have a buy-sell agreement. Buy-Sell agreements outline the shareholders obligations in the event a partner leaves the company. Many business owners use insurance to fund their agreements in the event of a shareholder’s death or disability, but many are unprepared for a partner to exit the partnership without the promise of an insurance payout. A partner may need to exit a business for variety of reasons and disagreements between business owners are common. Having a solid agreement in place will protect the businesses and shareholders’ interests. The following points are three key considerations when drafting a buy-sell agreement.
What You Need to Know
1. They Should Be Developed Early
A buy sell agreement should be part of a business’s formation. It is much easier to create an agreement while co-owners are on good terms and in good health rather than after a fallout or when a partner becomes ill or dies. While there it is never to early to put an agreement into place, be mindful of the fact that the agreement may need updating as the business grows in the future.
2. They Should Have an Agreed Upon Valuation Method
Agreeing on a valuation method before there is actually a need for valuation can save a lot of disagreement and hassle in the future. How a business should be valued depends on a number of factors. By outlining them in a buy-sell agreement you and your partner can agree upon the valuation methods that will be used and who will be trusted with the valuation. It is crucial that the valuation clause in the agreement is reviewed regularly. Business owners may be on the same page as their partner when it comes to the buy-out, but that doesn’t mean they will be on the same page as a widow or ex-spouse if their partner dies or is divorced. Having a strong plan before hand can help curtail any conflicts in the future.
3. They Should Have an Agreed Upon Payment Method
How a buy-sell agreement will be funded is often decided in the event of death or disability, but what about if there is a fallout between the partners or someone decides to leave the arrangement? In many cases, a partner simply doesn’t have a lump sum payment to buy out a departing partner share on short notice and may have to make payments in installments over an agreed upon term. Having a repurchase clause in the agreement will lay out the financial burden that will be placed on the business if there is a departing partner. The clause will provide a fair term to a departing shareholder while taking into consideration the capital needs of the company and its cashflow.
The Bottom Line
Being proactive and having plan will always pay off when it comes to buy-sell agreements. Having a solid buy-sell agreement will help ensure a smooth transition, if the need were to arise.