Many companies start with a similar story: a few friends get together and decide to start a company, each taking a percentage ownership of the business, which then goes on to become successful. It is the desired outcome for the people who have put in the blood, sweat and tears to make the company work. But what happens if one of those people dies, gets divorced, or becomes incapacitated? If you are a business owner who does not know the answer to that question, you likely need advanced business planning.
For corporations, that kind of planning comes in the form of what is called a shareholders buy-sell agreement (“Buy-Sell”), which is a separate agreement that sets out exactly what should happen in the case of certain events such as the withdrawal, incapacity, divorce or the death of an owner (called “triggering events”), and any necessary terms or procedures that would be required upon a triggering event.
Each Buy-Sell is individually tailored to the business and its owners, so it may have a different set of instructions or options for each triggering event. Some Buy-Sells provide for the remaining owners to have the right of first refusal to purchase all or a percentage of the shares of the owner who has suffered the triggering event. Other Buy-Sells allow the corporation itself to have the right of first refusal for the purchase. The Buy-Sell should also include who would have the second right of first refusal to purchase the ownership if the first right is not exercised. A Buy-Sell also should also include the purchase price for the shares, or the procedure by which the purchase price will be determined at the time of the triggering event. The Buy-Sell should also provide the payment terms for payment of the purchase price.
For limited liability companies (“LLCs”), the principle of the Buy-Sell is the same, but the specific terms are integrated into the operating agreement for the LLC. If you do not have such terms in your LLC’s operating agreement, then it should be amended or restated to add those terms.
Having a Buy-Sell plan in place may prevent a business owner from acquiring an accidental business partner, such as the spouse or children of a deceased business partner. It can also restrict who can purchase the ownership in the business to prevent a total stranger from coming into the business without the agreement of the other owners. The Buy-Sell is critical to resolve disputes concerning the sale and purchase of shares.
With the beginning of the new year, it is a good time for business owners to review all agreements associated with their business entities, including a buy sell agreement.
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