Selling a Business: Partner Buyout
We’ve consulted with many businesses – mature ones and startups – over the years on everything from developing business and marketing plans to expansion strategies and raising capital. One of the most crucial considerations when establishing a business with multiple owners is to develop a buy-sell agreement, essentially providing a method for an owner to leave the company. And in our work as business brokers, we see far too often the anguish when an owner comes to us saying they want to sell their shares of the business – perhaps as a partner buyout – only to find out that there is no method mentioned in any of the corporate documents for accomplishing this.
There are dozens of reasons that an owner might want to leave the company. Though the startup stage may be exciting and fun, the day-to-day operation of a business can be tedious. One owner may find out that he or she is not cut out for business ownership. One might want to retire sooner than the others. One might be unable to to get along with the others. One might be going through a divorce, an event that can cause havoc to any business but particularly if that business has multiple owners. And just imagine if the couple divorcing are both owners of the company!
The last example is one that we are dealing with right now. Twenty years ago, when the business was started, all was blue skies and sunshine. But over the years the couple’s relationship deteriorated and they divorced. Now, one wants out but there was never a thought given to this eventuality and, as a result, there is no way the partner that wants out can get out – without paying what amounts to extortion to the other partner. We blame the attorney that set the business up for this unfortunate situation. He should have known how important a buy-sell agreement is. (This is another of the MANY reasons to choose your attorney carefully. Hiring a maritime attorney to set up your business is like hiring a real estate agent to sell that business. Even if the attorney – or the real estate agent – is your cousin or sorority sister, unless their practice is focused on small and mid-size business law, steer clear.)
But of all the reasons to have a buy-sell agreement in place, one of the most critical is to avoid the monumental disruption to the business in the event that one of the partners dies or becomes incapacitated.
A couple of weeks ago, I read a column by Owen Van Syckle, a financial services professional with New York Life, a specialist on this topic. I contacted him and asked for permission to post his article here on our blog. He graciously agreed.
Owen’s article follows. If you have one or more partners in your business, pay attention. You’ll find Owen’s contact information at the end of this post.
When a business owner becomes sick, disabled or dies, a myriad of potential problems can occur. The other partners want to (1) retain control of the business without interference from the sick, disabled or deceased owner’s family, (2) enact a prompt transfer of the sick, disabled or deceased owner’s interest at a fair price, and (3) preserve the loyalty and support of employees, customers and creditors during and after the transition in ownership. The sick, disabled or deceased owner’s family wants (1) ongoing financial security after the loss of the owner’s salary and benefits, (2) either retention of the business interest or a timely sale at an attractive price, and (3) prompt settlement (including proper tax valuation of the business interest, if they plan to sell it).
Conflicts and possibly even litigation might arise between the sick, disabled or deceased owner’s family and the other partners. Delays in the transition to successor ownership and settling might be inevitable. Any loss of customers, employees, or creditor confidence can damage the business—and possibly even force its liquidation.
A formal, written buy-sell agreement among the business owners is the first step in assuring an orderly and successful transition in business ownership following a triggering event. The agreement sets a fair price for the business interest and terms of sale that are reasonable to all parties. The price established in a buy-sell agreement typically sets the value for estate tax purposes, which helps to avoid settlement delays and IRS challenges. If the owners are related, they should obtain a professional appraisal of the business. See your legal counsel for advice on this subject. An existing buy-sell agreement encourages confidence in the ongoing vitality of the business in the eyes of customers, creditors and employees.
The Bottom Line
A properly designed and funded buy-sell agreement satisfies the legitimate concerns of all parties involved by assuring business continuation that benefits sellers, buyers, employees, customers and suppliers. When a business owner becomes sick, disabled or dies, the consequences depend to a great extent on how well the business prepared for such an event. Partners want to retain the loyalty and support of employees, customers and creditors during and after the change in ownership.
Many buy-sell agreements are not funded properly. This could be the result of the value of the business is not kept current or the agreement was never funded. Most buy-sell agreements I personally review are funded with life insurance; however a partner is more likely to become sick or disabled before they die. So why aren’t more buy-sell agreements funded with disability policies?
Unfortunately, what Owen describes happens all the time and the damage – to the business, to the remaining owners and to the relationships among the owners and relatives of the deceased or disabled former partner – is significant and sometimes irreparable. Buy-sell agreements between partners are a crucial component of any strategy to start, grow and sell a business. If your business has multiple owners but no buy-sell agreement, you’re running a huge risk. Something is going to happen to all of us; it’s just a matter of time.
If you’d like to learn more, you can reach Owen by email or by visiting his website – or just leave a comment in the Comment box below and we’ll get it to him. He intends to pen additional articles on this topic and we’re planning to post them to our blog. So don’t forget to subscribe so you don’t miss what this expert has to say. It might save your business someday.
If you have any questions or comments, put them in the Comments box. I’ll get back to you with answers or my own comments. If I get enough on one topic, I’ll address them in a future post or podcast.
I’ll be back with you again next Monday. In the meantime, I hope you have a profitable week!