The Importance of Buy Sell Agreements for Business Partners

Buy Sell Agreements can be an effective tool for eliminating any confusion or dispute when it comes time for a partner to exit a business relationship.  A Buy Sell Agreement is a contract between two or more business owners that specifies the terms and conditions for a "buyout" and exit for one of the owners. These agreements are sometimes embedded in an Operating Agreement for an Limited Liability Company (LLC) or a Shareholder Agreement for a Corporation. 

It is a common occurrence, at the beginning stages of a business, that the partners are so focused on fundraising, marketing, and management of the business that those individuals ignore the importance of organizational matters. In other words, the partners put off meeting with a business attorney to set out an agreement that will become essential when it comes time to transfer ownership of the business.  A Buy Sell Agreement should be viewed as a indispensable agreement that can structure a partnership arrangement, and ensure that the business founders set conditions for long term control and ownership of the organization. 

These types of agreements can avoid numerous issues and potential litigation as a result of a disagreement on the transfer of a founder's interest to a third party; termination of the founder's involvement or employment in the business; buyback of interest by the organization or other founders; or death, disability, or insolvency of one of the founders. 

One of the principal and most common features of a Buy Sell Agreement is a provision that provides other corporate shareholders or LLC members the rights to purchase the shares or interest held by the other owner.  For example, if an owner materially changes their involvement in the management and day-to-day affairs of the organization through resignation, or termination, then the Buy Sell Agreement would provide the remaining owners the automatic right to purchase the interest or shares held by the departing owner. The agreement should specify the method for determining the buyout price, such as: a predetermined value; valuation of the business; or formula. The agreement would also set out the time frames; methods of payment; process for valuation of the business; and other conditions of the partner's departure from the business. 

The other types of situations that necessitate a Buy Sell Agreement are changes in the financial, health, and domestic status of one of the shareholders or members.  A business partner could face severe financial troubles that could cause a partner to become insolvent, or subject to numerous lawsuits involving personal creditors. Those creditors may seek to attach any dividends or equity disbursements of the partner, or the partner may be placed in receivership or bankruptcy.  In those instances, a receiver or bankruptcy trustee would be looking to claim all profit rights of the owners, or liquidate the business interest to a third party. This is an undesirable position for the other business partners particularly in the context of a private, closely held organization where the affairs of the business, in part, would be exposed to a public court proceeding. 

Additionally,  it may be that a business partner enters a divorce proceeding, and it becomes important to preclude shares from being held by a former spouse. Finally, there are the health and life consequences of death, disability, and/or incompetence.  A business partner may be permanently unable to participate in the affairs of the business, and  this will create problems at the management and ownership levels since owners are also typically key employees of the business.  In each of these circumstances, a well drafted Buy Sell Agreement can specify the buyout process, conditions, and price for transitioning ownership of the business to the remaining partners. 

A properly drafted Buy Sell Agreement can help business partners can help make all of the expectations and conditions clear out the outset when it comes time for a partner to move on. Attorney Stefan Cencarik, a Boston area business lawyer, works closely with business partners and entrepreneurs to help create Buy Sell Agreements, and is available for consultation at 617-669-9780.