A falling out between business owners is usually not a focus of discussion when planning on starting a business. Typically those starting out focus on the next big idea and how their new business will be owned and managed. More times than not, when those initial discussions involve two or more people entering business together, the scheme involves sharing the ownership and management responsibilities evenly.
What happens then if there is a falling out with one owner, or if one owner dies, or even if one owner gets divorced? In the context of a privately held or closed corporation or in some instances a limited liability company (or “LLC”), a buy-sell agreement also known as a “buyout agreement” or a “repurchase agreement” may be utilized.
What is a Buy-Sell Agreement?
Buy-sell agreements can take on many names but mainly are used by companies to buy back the ownership interest from a member in an LLC or a shareholder in a corporation after some triggering event that is not already covered by law. This can be a separate contract between the members of an LLC or organizers of a corporation at the time the business is formed, but may also be worked into an operating agreement, articles of incorporation, or bylaws. The Agreement can help control the smooth transfer of ownership, how the interest will be valued when purchased, and the terms of payment.
Why Have a Buy-Sell Agreement?
So, you may be thinking, “Why would my business need to have this type of agreement, I had this business set up with my closest friends?” or “I went into business with my family and we can work out the details later.”
Well, chances are a founding member will leave the business at some point or another, whether that be voluntarily or involuntarily, and in some instances it may even be the remaining owners or the law forcing the repurchase of the leaving member’s ownership interest.
In situations, where a member has decided it is time to leave the business, a buy-sell agreement allows the remaining members to buyback the ownership interest from the leaving member. Would it be fair for the leaving co-owner of a business to sell their interest to anyone? Or for a recently divorced member’s ex-spouse to suddenly gain an ownership interest in your business? This type of agreement can resolve the issue and ensure the remaining members retain control over the business they created.
What type of Events Can Trigger a Repurchase or Buyout?
The events that can trigger a repurchase of an LLC’s member’s interest by the LLC or a shareholder’s shares by the corporation can be outlined and agreed upon by the parties at the formation of the agreement. The following events are common examples:
- Voluntarily leaving the business
- Disability or Incapacity
- Bankruptcy or Default on a Personal Loan
- Member’s Breach of an Obligation to the Business
- Divorce Settlement that would give an ex-spouse ownership interest in the business
These are only a few common examples members or shareholders may agree upon when entering a buy-sell agreement.
If you are deciding to form a business or own a business but not a buy-sell agreement as described above, we recommend that you consult with your attorney to ensure your agreement fully fits your business’s needs.