Why a Buy-Sell Agreement Is Essential For Your Small Business

Transcript

The views and opinions expressed on this podcast are for informational purposes only, and solely those of the podcast participants, contributors, and guests, and do not constitute an endorsement by or necessarily represent the views of The Hartford or its affiliates.

You’re listening to the Small Biz Ahead podcast, brought to you by The Hartford.

Our Sponsor

This podcast is brought to you by The Hartford. When the unexpected strikes, The Hartford strikes back for over 1 million small business customers with property, liability, and workers compensation insurance. Check out The Hartford’s small business insurance at TheHartford.com.

Gene (00:01):

Hey everybody, this is Gene Marks and welcome to this week’s edition of The Hartford’s Small Biz Ahead podcast. Let’s talk about buy-sell agreements. Now listen, when a business is started, you realize there’s always plenty of paperwork to complete, like permits and licenses and articles of incorporation and resolutions and corporate minutes and payroll forms and tax returns and business applications. But there’s one document that’s crucial at this stage, and yet it’s often overlooked. It’s called a shareholder agreement or what’s more commonly referred to as a buy-sell agreement. And if you don’t have one in place, I’m telling you could be very sorry someday in the future. It is definitely one of the most important business documents that any business owner needs to have. It’s a binding contract that’s in place that oversees or specifies how business interests are to be transferred and under certain conditions. I would elevate it all the way up there to having a will, right?

Gene (01:03):

So a buy-sell agreement is critical if your company has more than one partner or multiple investors, or if family members are employed, right? Or could be employed in the future. A good buy-sell agreement will serve as a roadmap for any future ownership issues that may arise. Like for example, what if somebody, one of your partners unexpectedly dies or gets divorced or wants to increase their ownership or sell their shares? What if new investors want to come in, or if a shareholder becomes incapacitated or found guilty of a crime or otherwise can’t perform their duties, right? Unfortunately, even though according to the Small Business Administration, more than half of small business owners are over the age of 50. According to another report from the accounting firm, PWC, Price Waterhouse Coopers, only like a third of businesses have a formal buy-sell agreement in place.

Gene (01:55):

So a lot’s gotta be done. So let me give you some advice as to what should be in a buy-sell agreement. So you can start talking to your accountants and your attorneys. Okay? For starters, you definitely want to have like a current list of all the owners and the amount of shares they hold in the company. That’s pretty easy. The next thing you wanna do is you wanna define triggering events. These are events that will require all the owners to pretty much consult the buy-sell agreements. A triggering event can occur when an existing shareholder expresses a wish to sell shares to an outside, to an outsider or a family member. Or it could be when a shareholder dies or retires or goes bankrupt or divorces or becomes disabled. Most buy-sell agreements, they get triggered if a shareholder is involuntarily terminated by your company due to like behavioral issues, maybe like they’re committing an act of fraud or workplace violation, or even because of job performance. All of these contingency guys, they need to be thought of in advance. It’s important that you talk to a legal expert early and make sure you’re addressing anything that…

Gene (02:58):

Could occur. Now, when something is triggered, the buy-sell agreement should address how a change of ownership would occur. So for example, it would speak to whether or not the sale of any shares to an outside investor or family member or existing shareholder requires approval of the existing shareholders, or should also address what happens when there’s a surviving spouse. I mean, the last thing you want is to be in a partnership with a spouse of a business owner who’s now deceased, right? I mean, but then again, it’s also possible that the spouse doesn’t wanna be dependent on your company’s success or even wants to share in your company’s cash flow. So it may not be in the interest of either party. So you wanna get that addressed upfront. A buy-sell agreement would need to be specific as to how the business is valued when a triggering event occurs.

Gene (03:43):

Usually an outside appraiser is involved, usually a company’s expense, but it’s important not to wait for a triggering event to get a company valuation. Some people encourage reassessing your value of your business almost every year, just to make sure because things change all the time and you wanna make sure that you’ve got a good valuation of your business, regularly going forward. Now, once a buyout price is determined based on that value, you gotta address funding in your buy-sell agreement. In many cases, a buy-sell agreement will include requirements that the company maintain insurance in case a potential buyer cannot get the financing to purchase the shares, right? And there are always estate planning considerations as well, right? I mean, whether or not your shares become part of a trust or they’re subject to other requirements and a will or this all needs to be included in the agreement.

Gene (04:33):

There are situations where somebody leaves their shares and their wills, but the buy-sell agreement is something completely different. I mean, those two documents have gotta be consistent with each other. Finally, people being people, what about if there are disputes, right? In that case, you’ll wanna make sure that you’ve got some sort of resolution laid out in the agreement. Usually this will be an arbitration process by an independent party or the company’s board of directors, right? I mean, just creating the buy-sell agreement at the time of your startup really isn’t enough. You’ve gotta address changes in valuation. You have to update it regularly, even every few years or so, you gotta address changing conditions of the business. And, maybe if there’s new partners, which could all affect the original terms of the agreement, it’s critical that your buy-sell agreements are revisited regularly because listen, your personal situation, your partner’s personal situation changes, right? And those problems become larger when they’re not addressed early on. I know, you know that every business owner like yourself at some point is gonna exit your business, right? But when there’s no buy-sell agreement in place, or if it hasn’t been updated in a while, you’re really putting yourself at risk of a potential lawsuit or just headaches for whoever takes over for you in the future. Have a buy-sell agreement. I’ve just touched on some of the main things that should be in it. There’s a lot of other stuff…

Gene (05:56):

That you wanna include. Talk to an attorney now. Make sure you’ve got a buy-sell agreement in place, particularly if you’ve got other partners or if you’ve got family members that are or want to come into the business at some point of time. Hope this information is helpful for you guys. My name is Gene Marks. You’ve been listening to The Small Biz Ahead Podcast. If you need any advice or tips or you know lessons in helping you run your business, visit us at SmallBizAhead.com or SBA.TheHartford.com. Again, my name is Gene Marks. I will be back to you next week with some other tip or thought to help you run your business better. Thanks and have a great week.

Download Our Free eBooks

9 Steps to Recession-Proof Your Small Business »

« 10 Tips to Make a Mobile-Friendly Business Website

Tags: Gene Markspodcast

Chloe Silverman: