Are you in the process of starting a business partnership? If so, you should consider crafting a buy-sell agreement, as it can avoid potentially catastrophic conflicts for your company should a partner need to exit the business for various reasons. An experienced business law attorney can help determine whether your business should consider establishing buy-sell agreements with the partners.
Understanding Buy-Sell Agreements
A buy-sell agreement governs what happens to a business owner’s interests in the company should specific events occur. Buy-sell agreements frequently appear in partnerships and other closely-held businesses where business partners want to control who holds ownership interests in the company. Buy-sell agreements ensure smooth transitions of ownership and control over a business when partners depart the company, protect the business’s operations from disruptions to the management structure, and minimize disputes over what happens to a partner’s interest in specific scenarios.
A buy-sell agreement will contain several critical elements, including:
- Triggering event(s): A buy-sell agreement should identify the event(s) in which a partner must sell their interest in the company or can force the company to buy their interest or in which the company has the right to buy back the partner’s interest.
- Valuation methods: Buy-sell agreements should include provisions for calculating the value of the partner’s interest, such as using book value, referencing a last-agreed-upon value, or relying on expert business appraisers.
- Ownership transfer procedures: The agreement should outline the process by which either the partner or company triggers the buy-sell agreement, and the partner transfers their interest back to the company for compensation.
Scenarios for Buy-Sell Agreements
Some of the most common scenarios in which a company or partnership might want a buy-sell agreement to protect the company’s ownership interests include:
- Death: In the absence of a buy-sell agreement, a business partner’s death triggers the distribution of their ownership interests to their heirs. These agreements ensure that the company’s existing partners do not have to do business with a former partner’s heirs; instead, the deceased partner’s interest can transfer with minimal dispute, and the partner’s heirs can receive compensation for that interest as their inheritance.
- Disability/incapacity: When a partner becomes unable to work on the business due to prolonged or permanent disability, the company may want to cash out that partner’s interest to ensure that the distribution of profits continues to go to partners actively working on the business.
- Retirement/voluntary exit: A partner wishing to retire may have a buy-sell agreement that allows them to cash out their interest in the business, avoiding having a non-active equity partner.
- Involuntary exit/termination: Buy-sell agreements can also cover situations where a partnership votes out a partner due to that partner’s misconduct.
- Divorce: A partner’s equity interest in the business may constitute a marital asset subject to division in divorce. Buy-sell agreements may include provisions requiring partners to cash out their interests if a divorce decree divides the partner’s interest or economic rights.
- Bankruptcy/insolvency: Buy-sell agreements may require a partner who becomes insolvent or declares bankruptcy to cash out their interest to prevent the company from becoming entangled in the partner’s bankruptcy case.
Benefits of Buy-Sell Agreements
Having buy-sell agreements in your partnership can afford various benefits to your business. First, buy-sell agreements reduce uncertainty and conflicts when circumstances may jeopardize a partner’s continued ownership of their interests or ongoing participation in the business, as these agreements may require partners to exit when their continued participation may create issues for the company. Buy-sell agreements also preserve business continuity by creating a streamlined contractual process for a partner’s interests to return to the company once they exit the business for one reason or another. Agreements also help maintain financial stability for companies by creating equitable valuation methods for partners’ ownership interests. Finally, buy-sell agreements can protect relationships among business partners by having an orderly process to facilitate a partner’s exit.
Contact a Business Lawyer Today
Before negotiating a buy-sell agreement with your business partner or partners, get experienced legal advice to help you protect your rights, interests, and future. Contact Levy Goldenberg LLP today for an initial consultation with a business law attorney to discuss your legal options in a buy-sell agreement for your business interests.