Many successful businesses have, unfortunately, failed for one crucial reason: the unforeseen and untimely passing of a key owner or key employee. Having a solid business continuation plan in force prior to such a perilous event can help protect a company and any remaining co-owners from suffering what others might be a potentially devastating financial loss. There are several components to a business continuation plan, including: defining a buyout trigger, determining the value of the business, and identifying the buyers involved.
A buyout trigger could be the passing of an owner, or even if an owner becomes disabled, or if the owner retires. Trigger points can be designed specifically based on the needs of a business. The price valuation method or value should be set in advance and agreed by all owners. Most agreements will create a formula or index in order to determine business price in a way that is fair and equitable to everyone. A qualified accountant maybe needed to help with value determination.
There are two main methods to determine how the interest of the business will be purchased: the cross purchase option or the entity purchase. A cross purchase buy/sell agreement allows the other stakeholders to agree they will purchase the interest of the deceased. They will determine how the interest will be valued and who will purchase what amount. The entity purchase option, which is usually a simpler choice, requires the company itself to re-purchase the available shares. A third option, referred to as “wait and see”, allows the interested parties to choose the best buy/out method in the event of a death.
Finally the buyout trigger, the parties involved, and the value/valuation method of the business should all be outlined in a buy/sell agreement drawn up by a knowledgeable attorney. Having a well-defined buy/sell agreement in place prevents a company from floundering in probate court and head off any potential disagreements between owners. However, beyond the buy/sell agreement there remains the issue of how to fund such a contract. This can be done with remaining owner’s savings, loans against assets, or insurance. Remaining owner(s) saving may not support the purchase price of the enterprise and loans against assets can put undue hardship on the buyer(s). Fortunately, business continuation insurance plans allow the surviving owner(s) to cash in an insurance policy designed to specifically fund the purchase of the business. Insurance funded buy/sells are oftentimes much easier to execute since they afford the remaining owner(s) transaction with pennies to the dollar of the cost of the enterprise. This enables a business owner to transfer equity much more easily than other financing methods, since no savings or loan requirement would be needed. Business owners that pro-actively plan and prepare can often find very affordable options to fund their buy/sell arrangements. As stated by author H. Jackson Browne, “I’ve learned it is easier to stay out of trouble than get out of trouble”.
To learn more about preparing your business for continuation options schedule a no-obligation appointment today.