Losing a business partner or a member of a closely-held corporation is difficult in many ways, both emotional and practical. But, that transition can be much more difficult if the result of your partner’s death or departure is a stranger stepping into his or her shoes. A buy / sell agreement can protect the business and the remaining partners or shareholders from serious disruption, or even failure or dissolution.
Too often, people who go into business with a small number of partners or shareholders and maintain a close relationship with their co-owners don’t believe this type of protection is necessary. However, the smaller and more closely-held an organization is, the more destabilizing it can be to have a new party thrown into the equation. And, good intentions of the parties are no guarantee. Intervening events—including death—may take the decision out of a trusted partner’s hands.
What is a Buy / Sell Agreement?
A buy / sell agreement is a contract that allows remaining partners, the corporation itself, or the remaining shareholders of a corporation to purchase an owner or shareholder’s interest in the company when one of a list of triggering events occurs. Here, we are primarily concerned with the death of an owner, but an effective buy / sell agreement may address other triggering events, including:
- Bankruptcy / Insolvency
- The decision to sell
The buy / sell agreement contains other provisions regarding the sale, which are designed to minimize conflict, create a smooth transitional process, and provide certainty regarding the compensation involved. These provisions will generally include:
- Clear definition of each triggering event
- Designation and clear identification of those eligible to purchase under the agreement
- A formula for determining the deceased or departing owner’s interest
- A means of funding the buyout
A buy / sell agreement addressing death or disability typically obligates the company or remaining owners to purchase the deceased or disabled member’s share. Thus, a buy / sell agreement will often include a provision for the purchase and maintenance of a life insurance policy, which will be maintained on each owner. The life insurance policy will fund the purchase, both ensuring that the buyout is possible and minimizing any impact on the company’s operations.
Why Does a Business Need a Buy / Sell Agreement?
You may like your partners’ spouses just fine, but would you want one of them as a business partner? Do they have the knowledge required to make good decisions for the business, or share your dedication to making the business a success? Chances are good that the answers to all of those questions are “no,” or, at best, “I don’t know.”
Yet, without a buy / sell agreement, you could suddenly find yourself in partnership with a deceased partner’s spouse or adult child. Or, worse, with a newly-divorced partner’s ex-spouse or an insolvent partner’s largest creditor. Triggering events often occur with little or no warning, so advance planning is your best defense.
A buy / sell agreement ensures that control of your business remains in the hands of those who have both the experience and the commitment to run it as you and the other owners intended. A well-formulated agreement protects the business from voting members who don’t have its success at heart, and helps to protect your income and the financial interests of other owners, including minority shareholders.
An Experienced Business Lawyer Can Help
Understanding why you and your business need a buy / sell agreement is just the first step. An experienced business attorney can be your best resource for shaping the agreement that best suits the needs and structure of your organization.