Is your Corporation Shareholder/Buy-Sell or Limited Liability Company Operating/Partnership Agreement up to date? Does it still reflect what you would want to have happen upon the occurrence of a certain event?
Successful business owners know firsthand that the businesses they run today rarely resemble the businesses they originally started.
Successful business owners know firsthand that the businesses they run today rarely resemble the businesses they originally started. This is often the result of years of hard work and significant investments of time, labor and capital. Similarly, the agreements business owners executed at the time their company was originally formed likely have become outdated, and have not kept pace with the business owners’ or the company’s growing needs.
Many business owners sign these agreements when their companies are first organized and then put them in a file drawer until they are needed. Unfortunately, it is only when they are needed that owners realize their business agreements do not reflect what they would have wanted at ill-timed, “triggering” events. Examples of such events include:
- A business dispute among owners;
- The death, disability or departure of an owner;
- The transition of an ownership interest to family members; or
- The sale of an ownership interest to third parties.
When events like these occur, the agreements may not account for the passage of time and changes in the business.
There are five common provisions in business agreements of which every business owner must be aware. These important provisions may need to be reviewed and, when appropriate, revised to ensure their effectiveness when a triggering event occurs. They are:
Methods or Formulas for the Valuation of an Ownership Interest
Such methods may include a stated dollar amount, “book value,” a multiple of profits, a percentage of compensation, projected earnings, appraisal procedures or a combination of methods. The valuation method provided in the agreement at the time of formation may no longer reflect a reasonable method for valuing the business now or in the future given the current status of the company.
Purchase of an Ownership Interest
When it comes to the purchase of a former stockholder’s or member’s ownership interest following a triggering event, agreements should provide for reasonable payment terms that the purchaser can afford over a defined period of time. This will help ensure that the company maintains sufficient cash flow and that the purchase of an owner’s interests will not disrupt the company’s ability to conduct business.
Dispute Resolution Procedures
When people go into business together they hope it will be forever. However, like some marriages, some business relationships become strained or deadlocked when faced with important business decisions. Taking the marriage analogy a step further, divorcing parents may have children who depend on them for survival, as many companies have employees who depend on their survival. Because business disputes cause ripple effects extending beyond just the owners, it is essential to plan for effective dispute resolution procedures to help resolve disagreements or deadlocks among business owners. Such procedures can provide the framework for a “business divorce” that will keep the company intact and viable.
Changes in Circumstances
A company’s growth is a dynamic process and the needs, expectations and circumstances of the owners and the company itself change over time. Growth and reinvention of a business is often the result of contributions made by non-owners of the company who have become invaluable assets of the company. Considering adding new owners may allow the company to keep and incentivize vital key employees who have made themselves essential to the future and success of the company. Likewise, issues arise over time that were not contemplated when the company was organized, such as: the involvement of owners’ children in the business; owners’ wishes to “cut back” or change their roles within the company; or the stagnation or decline of the company’s core business.
Changes in Law
Federal, state and local tax and business laws are constantly changing and evolving with the adoption of new legislation and with new case law based on recent judicial decisions.
Regular review of a business’s ownership agreement provides a catalyst for strategic planning, which helps the company be proactive in addressing upcoming issues as circumstances change.
Due to the passage of time, and as a result of certain triggering events affecting business owners and their companies, business agreements must be reviewed and appropriately revised on an ongoing basis. That way, when the need arises, the agreements will adequately address the business owners’ intentions.
About the Author:
Millard Bennett is a founding principal of Stein Sperling Bennett De Jong Driscoll PC, a law firm based in Rockville, Maryland. Millard’s practice is concentrated in the areas of business organization, business ownership conflicts, conflict resolution, transition of ownership interests and civil litigation. His background in business, as well as his experience in running a successful law firm, gives him particular insight into the legal and financial needs of the business clients he serves. Millard frequently speaks on business transitions, disputes and controversy topics to various business and civic groups throughout the Washington, D.C., area. He can be reached at 301-838-3203 o firstname.lastname@example.org.