Does My Business Need a Buy-Sell Agreement?

Does My Business Need a Buy-Sell Agreement?

In general, when my business clients ask me this question, I recommend that any business with more than one owner (other than married couples) should have a buy-sell agreement. As a result, if your business is currently operating with two or more non-related co-owners, I recommend that you have a buy-sell agreement drafted right away. I also tell business owners to look at the buy-sell agreement like their exit strategy in case the business relationship with one of the co-owners does not work out for various specified reasons called “triggering events”.

What is a Buy-Sell Agreement?

A buy-sell agreement is a written agreement that provides a mechanism for the orderly transfer of an owner’s interest on the occurrence of certain triggering events. Without an exit plan, the owners of an Arizona LLC or corporation are essentially stuck with each other indefinitely even if one of the other owners dies, becomes incapacitated, gets arrested, or files bankruptcy. A buy-sell agreement defines what happens when these triggering events occur, sets the buy-out price, and states whether such buy-out is mandatory or optional for each type of event.

What are the Triggering Events?

Below are some of the triggering events that should be considered in drafting buy-sell agreements:

1. Death. Typically, an owner’s death will trigger a mandatory buy-out right of such owner’s interest in the company.

2. Disability. An owner’s disability may also trigger such buy-out rights.

3. Termination of Employment. When one of the owners quits or is fired, this too may trigger buy-out rights.

4. Divorce. The divorce of an owner will often be a triggering event, so that an ex-spouse does not obtain any ownership interest in the business after the divorce.

5. Conviction of a Felony. This will often serve as a triggering event too.

6. Loss of License. In certain professions, the loss of an owner’s professional license can also be a triggering event.

7. Bankruptcy. An owner’s bankruptcy filing is another triggering event that allows the non-bankrupt owners the right to buy out the bankrupt owner, so that this interest is not tied up in bankruptcy court.

How is the Purchase Price Determined?

Not only does the buy-sell agreement determine when the buy-out will occur, but it also determines what the price will be for such buy-out. There are essentially three different ways that the price is determined in these agreements:

A. Stated Value. With this method, the parties agree upon the buy-out value ahead of time, and this value is included in the agreement. Sometimes, the agreement may also require the parties to agree upon a new stated value every 2 to 3 years.

B. Formula. With this method, the parties agree on a formula for calculating the buy-out price and include the formula in the agreement.

C. Appraisal. With this method, the parties agree that there will be an appraisal of the business interest being sold, and the procedure for selecting the appraiser is included in the agreement.

Most buy-sell agreements use the appraisal method for determining the buy-out value, because it is extremely difficult for co-owners to agree upon the first two methods at the time of the agreement. In addition to the buy-out price, the buy-sell agreement also sets forth the terms of the buy-out, so that the timing of the buy-out payments is locked in when the triggering event occurs.

Conclusion

The buy-sell agreement is essentially an insurance policy for unrelated co-owners. You hope that you will never need it, but you better have it just in case. Business owners should draft a buy-sell agreement at the time of formation or shortly afterwards, because my experience has been that, as time goes by, the more difficult it is for co-owners to reach an agreement about these issues. For these reasons, I strongly recommend that every business owned by two or more unrelated parties have a buy-sell agreement as part of their key business documents.

 Please call me today – 602.277.7000

John Even

Our firm has helped hundreds of families just like yours handle a wide variety of business planning, estate planning, probate, and elder law issues. When families or business owners are not getting along, we can also handle any disputes and litigation related to their businesses, wills, trusts, guardianships, or conservatorships. Please give me a call, so that I can help you work through these difficult issues with confidence.


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