Perhaps your business is in trouble and you want to sell before it’s too late, but for whatever reason your business partner refuses to sell. The remedies available in such cases often depend on where the business is located, and on whether or not a “buy-sell” agreement was formed when business commenced.
Despite the name, buy-sell agreements have little to do with buying and selling companies. Instead, they’re binding contracts between co-owners that control when owners can sell their interest, who can buy an owner’s interest, and what price will be paid. These agreements come into play when an owner retires, goes bankrupt, becomes disabled, gets divorced, or dies. In other words, a buy-sell agreement is a sort of prenuptial agreement between business co-owners. Mainly these agreements guide buyouts between the owners themselves. For that reason, they are sometimes also called “buyout” agreements.
Dissolving the Business
In some states, a shareholder holding a mere 50 percent of a corporation’s stock can elect to voluntarily dissolve the corporation; that is, the corporation would cease to exist and all of its assets would be sold and split among the shareholders according to how much stock each owns. In other states, a majority of shareholders is required to elect voluntary dissolution. In the case of two equal shareholders, one shareholder alone cannot opt to dissolve it.
However, the unhappy shareholder can go to court to petition for an “involuntary dissolution.” In an involuntary dissolution, if the court agreed that the shareholders at odds with each other were deadlocked, all assets would be sold and split up. If your partner wishes to keep the business in operations, they may agree to buy you out.
Assuming your partner doesn’t want to sell because he or she want to keep the business going, an employee buyout (EBO) is probably your most viable option. Whether structured as an asset or stock purchase, an employee buyout transaction can involve virtually any size business. In an employee-led buyout, the buyer and seller understand the business and the circumstances that led to the proposed buyout, which often aides negotiations. Sometimes this cooperative spirit leads to a continuing relationship between the new and former owners in such areas as consulting about customers, suppliers, products, sales, and services. In order to make it happen, however, the business will first need to be valued.
Valuing a Business
Valuing a business at the time of sale usually results in co-owners fixating on separate valuation formulas, which can produce very different results. For that reason, it helps if a buy-sell agreement is already in place that specifies how the business will be valued should an employee buyout occur. The fact that a sound method was agreed on beforehand can go a long way to reducing conflict when the time for a buyout comes.
In the absence of a buy-sell agreement, a “feasibility study” might be the most easily agreed upon method. Feasibility studies attempt to assess a company’s ability to support a proposed buyout transaction. The study usually involves comparing the business with competitors or similar businesses along a variety of business and financial criteria, including business plans.
The study also has to show how the buyer or buyers plan to make enough money in the purchased business over the term of the loan while retaining enough money to reinvest appropriately in the business so it will grow, or at least retain its value.
Loan Time Frames
In the case of a buyout, it is important for potential buyers and sellers to understand that lenders are primarily interested in the terms (specifically, the time frame) of a loan. For example, a typical ESOP loan financed with senior debt runs on average for five to seven years. The business partner as potential buyer, particularly if they’re of a relatively young age, may have a much longer time frame in mind.
Buyers may also desire a feasibility study that looks at a longer-term perspective than those of most interest to the lenders. While it’s possible to have your consultant provide a study that covers longer time frames, most consultants are wary of the authenticity of any assumptions beyond three years.
If you go into business with another person again, consider the ounce of prevention that a buy-sell, or buyout, agreement would provide. Such a document would spell out the Ps and Qs of what would happen should the good business go bad.