Buy-sell agreements are agreements between business partners to allow for an orderly transfer of the business interests of a departing partner. Possible reasons for departure include death, disability, business disputes, retirement, divorce of a partner (to keep the business away from possibly hostile or incompetent members of the departing partner’s family), and bankruptcy of a partner (to keep the business out of bankruptcy proceedings).
A good buy-sell agreement should:
Buy-sell agreements can take several forms. In the simplest agreements, a fixed price is determined at the outset and included in the agreement. This does not work very well because values change over time, but the fixed price is almost never updated.
In some cases, the price of the business interest is determined by a formula. But no single formula can determine the value of a business under all circumstances.
In some agreements, one partner sets the price and the other determines whether to buy or sell. While this sounds fair, in some cases (say, the death of a partner) it is obvious who the surviving partner will be, so the approach cannot be fairly applied.
Some buy-sell agreements call for each partner to have the interest appraised and specify how the competing values are to be reconciled. This approach tends to be very expensive, time consuming, and unpredictable.
The best approach is to have the business valued by a single appraiser who is chosen in advance and named in the agreement, and who values the business at the time the buy-sell agreement is formed and every one to three years thereafter. In this way, the value is always fairly current and predictable. This eases financial planning and manages expectations in the event that the buy-sell agreement is triggered.
Read a relevant article published in the Journal of the Delaware State Bar Association, written by Philip Reynolds.