ISSUE 149
In This Issue:
The 30,000 Mile Checklist

As Your Business Changes, Update Your Buy-Sell Agreement

The 30,000 Mile Checklist
In the prior two issues of this newsletter, we've looked at several key elements of your buy-sell agreement and the transfer events that can trigger a buyout. Today, we look at all the types of changes (in you, your partners, your company, your finances and your industry) that can transform that vigorous buy-sell you created years ago into a lumbering, but potentially dangerous, dinosaur. In this issue you'll also find a checklist that will help you assess the viability of your buy-sell agreement.
 
PEOPLE CHANGE
Shareholders are living, breathing creatures. In addition to all the "bad things" (or transfer events) that we discussed in previous issues, shareholders will age. As they do, they may adjust how much they want to work or what goals they want to work toward. If shareholders are all of a common age, they may share these changes or they may not. If one shareholder is older than one or more of the others, the commitment to work long hours or the long-term ownership goals of the older and younger shareholder can diverge. Should that happen, the only effective recourse may well lie in the provisions of a well drafted, comprehensive and current buy-sell agreement.
 
COMPANIES CHANGE
The most common change in the life of a successful business is its increase in value. When the company isn't worth much, shareholders may be able to buy each other out if certain events occur. As the company becomes more valuable, however, shareholders cannot put together the resources necessary to cash each other out. Also, over time, the ownership of companies changes as new owners buy in and older ones sell out and retire. As these changes occur, the ownership proportions can change in ways not intended or planned by the majority shareholders. The buy-sell agreement can respond by allowing ownership, but not voting control, to shift to the younger, incoming generation of owners.
 
INDUSTRIES CHANGE
Like it or not, the industries we are in affect the value of our companies. If we're in a niche or "hot" industry, buyers will pay more for our companies and values reflect that demand. If there is a great deal of industry consolidation going on, the value of your company will reflect that. Similarly, industries go through boom and bust cycles and if the company is enduring the bust part of the cycle, its value reflects that downward pressure as well. Buy-sell agreements can be drafted to reflect not only rapid changes in value, but also corresponding changes in the terms (length of buyout, amount of down payment, mandatory vs. optional purchase, etc.) of any purchase. This tends to prevent one owner from "gaming" the buy-sell agreement by selling out when value peaks.
 
BUYOUT REQUIREMENTS CHANGE
When you created your buy-sell agreement, you made decisions about whether particular events would trigger an optional or a mandatory buy out. You made those decisions based on then current factors. As the foundation for those decisions may have changed so too do your preferences. For example, you now may prefer that a child or a key employee acquires your ownership when you retire or die, rather than the other co-owner.
 
THE ABILITY TO SELL OUT CHANGES
When your company was worth very little, it would have been highly unlikely for an unrelated third party to approach you with a lucrative offer to buy. Now that your company may be more valuable, however, the possibility that a third party would make an offer is a real possibility. Does your buy-sell agreement adequately address this? What if one owner wants to sell and the other doesn't? Does it make a difference whether you are the owner who wants to sell or the owner who doesn't want to sell?
Given all the moving parts, it makes sense to review your buy-sell agreement at least every year. The following checklist is designed to give you and your advisors a snapshot of your buy-sell agreement. The purpose is to help you identify those areas that should be updated for all the reasons discussed here.

....the ownership of companies changes as new owners buy in and older ones sell out and retire.

Buy-Sell Transfer Event Checklist

Death of a Shareholder:
Is it included in the Agreement?      Yes             No
Buyout: Mandatory or optional        Mandatory    Optional
If buyout can be funded, is it?         Yes              No
Is the funding adequate?                Yes              No
Is the ownership proper?                Yes              No
 
Disability of a Shareholder:
Is it included in the Agreement?      Yes              No
Buyout: Mandatory or optional        Mandatory     Optional
If buyout can be funded, is it?         Yes               No
Is the funding adequate?                Yes               No
Is the ownership proper?                Yes               No
 
Divorce of a Shareholder:
Is it included in the Agreement?      Yes             No
Buyout: Mandatory or optional        Mandatory    Optional
If buyout can be funded, is it?         Yes             No
Is the funding adequate?                Yes             No
Is the ownership proper?                Yes             No
Bankruptcy of a Shareholder:
Is it included in the Agreement?      Yes            No
Buyout: Mandatory or optional        Mandatory   Optional
If buyout can be funded, is it?         Yes            No
Is the funding adequate?                Yes            No
Is the ownership proper?                Yes            No
 
Retirement of a Shareholder:
 
Is it included in the Agreement?      Yes            No
Buyout: Mandatory or optional        Mandatory   Optional
If buyout can be funded, is it?         Yes             No
Is the funding adequate?                Yes             No
Is the ownership proper?                Yes             No
Involuntary Termination of Employment:
Is it included in the Agreement?      Yes            No
Buyout: Mandatory or optional        Mandatory   Optional
If buyout can be funded, is it?         Yes             No
Is the funding adequate?                Yes             No
Is the ownership proper?                Yes             No
 
Business Dispute Among Owners:
Is it included in the Agreement?      Yes             No
Buyout: Mandatory or optional        Mandatory    Optional
If buyout can be funded, is it?         Yes              No
Is the funding adequate?                Yes              No
Is the ownership proper?                Yes              No

 

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Subsequent issues of Exit Planning Navigator® discuss all aspects of Exit Planning. If you have any questions regarding the Exit Planning process, please contact Kevin Short, Managing Director (kshort@claytoncapitalpartners.com).