San Diego Closely Held Companies: 10 Must-Have Provisions in Your Buy-Sell Agreement
A buy-sell agreement is a contract made among the owners of a business or company that governs how, under what circumstances, and at what price a given owner’s interest in the business/company may be purchased by the other owners or the business/company. In general, buy-sell agreements are used for small businesses/companies with only a few (fewer than 20) owners. Buy-sell agreements are typically needed to plan for certain types of events including:
- Unexpected death or disability of a key owner
- Divorce proceedings with respect to a key owner — ownership interests in a business will be subject to orders from the divorce court
- Individual bankruptcy proceedings with respect to a key owner
- Retirement of a key owner
San Diego Closely-Held Businesses: 10 Must-Have Provisions in Your Buy-Sell Agreement
Since they are contracts, buy-sell agreements must be uniquely drafted to reflect the intentions and desires of the owners of your San Diego business. An experienced and trusted corporate lawyer can help. That being said, here are 10 “must-have” provisions that should be contained in every buy-sell agreement.
- Automatic trigger events: Death, disability, divorce, bankruptcy, lender receivership, retirement
- Demand event: Your business may or may not want to allow individual owners to demand a buy-out; whether “yes” or “no,” it is essential to address the issue of a forced buy-out.
- Who may purchase: A buy-sell can specify that the company will purchase, or that the other owners will purchase or leave the question “to be determined” at the time of a triggering event; if “replacement buyers” are permitted, a number of provisions should be put in place for approval of the replacement buyer by the existing owners.
- Who may NOT purchase: Aside from restricting replacement buyers, limitation on who may be an owner are often intended to deal with spouses and children of an owner that might have become deceased.
- Price to be paid or calculation method: Sometimes, a buy-sell will simply state a price with a cost-of-living escalator; other times a formula is used; or the buy-sell may provide that the price is the “fair market value” which means that an appraisal is expected; but if the latter, the buy-sell should specify the appraisal method as this is often the most contentious part of negotiating a buy-sell agreement.
- Funding mechanisms and/or payment schedules: Often life and disability insurance is used as the funding source; but if cash flow, sales revenue, or end-of-year profits are contemplated as funding sources, then payment schedules should be specified.
- Owners bound to the buy-sell agreement: Several provisions are needed here including a specific statement binding all the owners, a merger clause, a no oral or course-of conduct amendments permitted, and a “no waiver” clause.
- Binding on heirs: Very important; every buy-sell agreement MUST have specific provisions binding an owner’s estate and his/her heirs and/or assigns to the provisions of the buy-sell agreement.
- Amendment provisions: The buy-sell should have a mechanism for being amended but amendment should never require unanimous agreement.
- Specific performance required: Just in case a court is reluctant to specifically enforce the buy-sell agreement, add a provision mandating the remedy of specific performance.
- Bonus — Consider mandatory arbitration of price/valuation disputes: In general, a buy-sell is intended to avoid litigation; but litigation most often erupts over valuation/price; as such, consider agreeing to mandatory arbitration with respect to valuation/price.
San Diego Closely-Held Businesses: Contact San Diego Corporate Law
For further information, please contact Michael Leonard, Esq. of San Diego Corporate Law. Mr. Leonard has the experience to help you create and review any needed buy-sell agreement, create and assist in executing business contracts, and assist with any business-related matter. Contact Mr. Leonard by email or by calling (858) 483-9200.