At the beginning of a business relationship, everything is rosy and exciting. But it’s in the beginning when you need to be thinking about a buy-sell agreement, in case of a breakup with your business partner.
At the start of a business, there is so much potential, everyone is working hard and on the same page, and (let’s face it) the business is probably not worth much yet. As businesses grow, things change, and contingencies should be in place from day one … just in case.
How do you have a contingency, and prevent disputes with business partners?
Having a proper buy-sell agreement, when you are in business with other people, is crucial and goes a long way to managing relationships between partners.
A buy-sell agreement is sometimes in a shareholder agreement, or a partnership agreement. Or it can be a stand along document.
Basically, it is an agreement that one of the partners will buy the other business partner out of the business, if a triggering event occurs.
A triggering event could be a dispute that cannot be resolved, a falling out, a serious injury, mental illness, or death. Other events to consider would be bankruptcy, divorce or marriage breakdown, terminal illness, and poor performance.
You need a buy-sell agreement if you are in business with another person, whether it’s a partnership, a company, or a trust. We need buy-sell agreements for two main reasons:
- Firstly, we usually don’t know when a death or traumatic even will occur, and there is often not enough money for the remaining partner to buy out the exiting partner without a degree of financial pain.
- Second, the remaining partner wants some control over who their partner will be. The original partners are happy to work together, but if one partner dies or exits, you may not want your partners’ family to be involved in a significant way. You also don’t want the exiting partner to sell their share to someone else that you don’t want to work with.
There are also some other benefits, like dealing with the valuation. If you’ve already agreed on a process of valuation, this can avoid unpleasantness that might come up when buying out the exiting partner.
Some things that must be covered, or at least considered in a buy/sell agreement:
- How the business interest will be valued,
- How the business interest will be transferred,
- How the transfer will be funded,
- Entry and exit of business partners for a variety of reasons.
Your accountant usually won’t suggest a buy-sell agreement when you’re first setting your business up, because they are mainly thinking of your tax structure. You need a lawyer for this. Although money is often tight in the beginning, it will save a lot further down the track.
Make sure you pick a solicitor who knows about these issues, and ask them about their understanding before you engage them, or you could end up with horrible tax consequences due to poor insurance funding, or worse.