People who own a business with others typically want to prevent a co-owner from selling his or her interest to a stranger. They also want to agree now on the terms for one owner to buy out another if there’s ever a desire or need to do so. These are some of the reasons why business owners enter into “Buy-Sell” agreements, which are agreements between co-owners of a business that state the terms and procedures for one owner to buy the interest of another, or to sell his or her interest to someone else.
Other Benefits of Buy-Sell Agreements
Buy-sell agreements have other important purposes as well. They can be a tool to help the next generation of workers, co-owners or family acquire the stock needed to become owners. They can also be a part of an estate plan for older owners or founders of a company.
Here are some more specific ways a buy-sell agreement can help businesses with more than one owner:
• The owners of a business can agree that before any of them sells to an outsider, they will first offer to sell to each other or sell their interest to the company. This kind of “buy-sell” agreement gives the other owners the first chance to buy the ownership interest of someone who wants to sell, thereby helping to prevent someone they don't want to be in business with from becoming a co-owner.
• In some companies, owners want their co-owners to actively work for the business. Their buy-sell agreement can say that if any owner leaves the company, that person must sell his or her interest back to the company. The agreement can state how the price will be determined.
• A potential investor in a business can require the other owners to buy back his or her ownership interest after a certain time, say six months or a year, and at an agreed price, if he or she wants to leave. This kind of buy-sell agreement can help the business attract investors.
• Sometimes an older owner is ready to sell. Often, younger workers want to acquire ownership of the business. In these cases, the owners and next generation can have a buy-sell agreement that arranges a smooth transition of ownership, with older owners selling their stock to younger workers over time.
• As an estate planning tool, a buy-sell agreement can provide an aging business owner the comfort of knowing that when he or she can no longer work, the company will buy the person's interest in the business. This makes sure there is money for the owner’s family, rather than leaving a family with ownership they cannot use or easily convert to money.
Setting The Price
Many buy-sell agreements give the company or its owners the right to buy the interest of anyone who dies, becomes disabled, or wants to sell. The agreement tells what the price will be or how to set it. Some agreements state a formula, like a multiple of sales. Others say an appraiser will set the price. Under some agreements the owners set a price for their interest and then revise it annually. Establishing a way to arrive at the price before the sale of the interest helps prevent disputes over valuation.
Another key part of the agreement is how it says the purchase price will be paid. The company or owners who buy out the others may not have enough money to pay the full price at once. The agreement can give the buyer a set period of time to pay. For example, the agreement can require the buyer to make a down payment with the balance to be paid over five years and require interest to be paid on the unpaid balance.
Some buy-sell agreements are coordinated with insurance. A company may buy insurance on the owner’s life. The buy-sell agreement will say that if the owner dies, the company will pay his or her survivors for the ownership interest in the company. The company uses the life insurance proceeds to pay the purchase price.
Other events can trigger a buyback. For example, in a divorce, an owner's spouse could receive an interest in the business. A buy-sell agreement could require that in this event, the owner's spouse must sell the interest back to the other owners or the company according to a predetermined method of valuation.
If one of the owners is going to file bankruptcy, there may be a risk the bankruptcy trustee could sell the business to satisfy the owner's debts. A buy-sell agreement could provide that before any owner files bankruptcy, he or she must notify the other owners and, in accordance with the agreement, offer to sell his or her interest to the other owners or the company. Funds the owner receives could then go to paying off his or her creditors without risk of harming the business.
As the above shows, there are many benefits to having a buy-sell agreement. Sickness, disagreements, divorce, financial problems and other changes happen in every business and to every business owner. Sadly, when orderly ownership changes are not planned in advance, good businesses end up being sold for less than they are worth, or even closed. Planning for orderly changes benefits the business owners who will sell their interest as well as those who will continue operating the business. Our law firm can advise you how a buy-sell agreement can benefit your business and prepare a buy-sell agreement specifically tailored to the needs of your company and its owners.
Contact an attorney at Triscaro & Associates today. Please call us for all your legal needs. We offer a full range of legal services to individuals, families and businesses, including personal injury, estate planning, real estate, family law and business matters. We are dedicated to providing the highest quality legal services at a reasonable cost.