Why you need a Buy/Sell Agreement For Your Business
Preface: Buy/Sell agreements are imperative for businesses with multiple owners. This article is written to provide a business owner with an appreciation for the importance of having a current buy/sell agreement in place.
A buy/sell agreements is a written binding contract that specifies prearranged steps should an equity holder egress ownership. Any business that has more than one equity holder needs a buy/sell agreement. The documented rules in a buy/sell agreement determine how values will be appraised, and payment made during fragile business conditions. In addition, a buy/sell agreement can prevent other partners from selling to other individuals or competitors, i.e. anyone joint equity holders would prefer restricted from holding equity. Buy/sell agreements specify rules for a business entity or other owners to acquire another equity interests in specific in the event of an owner selling for reasons such as retirement, death, or disagreement. So you could say a buy/sell agreement is a “business will”, and prevents unfair treatment of all equity holders in tenuous situations arising from a sale of a business interest, with multiple equity holders.
A buy/sell agreement is prepared by an attorney. The document contains a prearranged agreement for a sale of a business interests. The agreement is not limited to i) who can purchase a departing partners or shareholder equity interests ii) the methodology for determining value, i.e. qualified appraisal iii) events that will spark a buy/sell agreement. In a corporation a buy/sell may result in treasury shares.
The cost of a buy/sell agreement is low compared to prevention of turmoil that can result among family members or equity holders when an agreement would be helpful, but preparation neglected. Buy/sell agreements, plain and simple, make sense. If you have a corporation, LLC or partnership, any business with more than one equity holder, you need a buy/sell agreement.
What do you need to know to talk to your attorney and hold an intelligent conversation on implementing a buy/sell agreement? First, you can have a redemption buy/sell agreement where your interest is sold to the business, so the other owners don’t need to pay out of their own checking account. Or, you can have a cross-purchase agreement where another equity holder has first right to purchase your interest. A cross-purchase agreement allows partners or shareholders to acquire your interest, or you to acquire other equity interests, in the event of a sparked buy/sell agreement.
Secondly, and most important, the nucleus of a buy/sell agreement ensures proper valuation of a business with an unanticipated pending sale of an interest. Again, valuation is key to a fair sales price of an interest. Valuation of your business should occur every several years with your buy/sell agreement to ensure you have a history of your businesses value. At a minimum, you should value your business at the writing of the buy/sell agreement, and every time the buy/sell agreement is updated. Your buy/sell agreement should also list specifically the methodology required for the valuator/appraiser calculating the business value in the marketplace, again, should the buy/sell agreement be sparked.
Summary: A buy/sell agreement is a written attorney prepared document that details the requirements for sale of a business interest in certain instances, e.g. retirement, partner disagreements, defaults, etc. If you own a business interest with partners or shareholders, you need a buy/sell agreement. If you already have a buy/sell agreement, great; make sure it is updated when necessary. If you do not have a buy/sell agreement for your business, talk to your trusted advisor about obtaining that agreement today.