The Buy-Sell Agreement: 9 reasons you need one

When forming a business, one of the first things every entrepreneur should think about is their ultimate exit. For most, this is the farthest thing from their mind.  As any corporate attorney will tell you, in the same way, you would plan to protect your children with the creation of a will. Your business should also be treated with kid gloves. A Buy-Sell Agreement should be a top priority. Think of it as a prenup for business partners.

First of all, what is it?

Investopedia defines a Buy-Sell Agreement as follows:

An approach used by sole proprietorships, partnerships, and closed corporations to divide the business share or interest of a proprietor, partner, or shareholder. The owner of the business interest being considered has to be disabled, deceased, retired, or expressed interest in selling.

Why do you need a buy-sell agreement?

Buy-sell agreements serve several essential functions. Here are nine reasons you need one:

1. Providing a market for the ownership interest of the closely-held business upon a specified “triggering event.”
2. Setting an exit strategy when the time comes and minimizing the potential for conflict.
3. Defining how ownership interest(s) can be transferred if one or more owners can no longer or do not want to continue in the Business.  Typically, the owner’s interest must be sold back to the company, the remaining shareholders, or any combination thereof.
4. Protecting the interest of the surviving owner(s) and not jeopardizing the business’s liquidity needs to fund a buyout.
5. Providing an agreed-upon method for valuing an ownership interest (where we come in!).
6. Providing a mechanism to fund the agreement, typically through an insurance policy.
7. Allocating entity control among owners and management.
8. Setting up a fair payout for heirs of a deceased partner.
9. Establishing a valuation upon the death of an owner is integral in estate planning and taxation.

Take Away

Don’t procrastinate! Create this integral document when you can still see through rose-colored glasses and all parties have each other’s best interest in mind.  Stay tuned while we provide some more insight into the importance of this document and our role in the planning and execution as a third-party Valuation Analyst.

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