The discussion around buy/sell agreements can be vital to a company’s future, however, is often overlooked. These agreements are set up around trigger events, such as a key shareholder passing away, to ensure the surviving shareholders aren’t running the business with a new and unexpected business partner [whilst ensuring the estate is compensated].

In this video, I’m joined by Cameron Hancock, Director of businessDEPOT Legal to talk about all things buy/sell agreements. You can watch the conversation or read the transcript below:

If you have any questions or would like us to help you set up a buy/sell agreement or insurance for a buy/sell agreement, feel free to contact us on oneplace@businessdepot.com.au or give us a buzz on 1300 BDEPOT.

video transcript

Mitch:

So business owners often look at their personal estates, using wills as a tool to arrange their estate planning. What they often overlook is what I often refer to as a business will or often a buy/sell agreement. Joined here today by Cameron Hancock of businessDEPOT Legal to talk all things buy/sell agreements. Cameron, I’ll start with, what is a buy/sell agreement?

Cameron:

It’s essentially an agreement between the owners of a company or shareholders, and it lays out the framework of what will happen, if one of the shareholders passes away or one of the key people of that particular shareholder passes away.

Mitch:

So how is that different to a shareholder agreement?

Cameron:

A shareholder agreement really sets up the framework for how the company will operate at a management level, at a dividend level. Whereas, a buy/sell agreement looks at what we call trigger events where, if a key person or one of the shareholders passes away or has a permanent disability event, the shareholders sit down at the front end and discuss what will happen. It’s really important to make sure who you’re going to be doing business with after that happens. And the main reason why this is done is so the surviving shareholder isn’t going to run the business with the estate of the deceased partner.

Mitch:

So you said trigger events being life and total permanent disability. Another trigger event can be trauma events like a heart attack, stroke, or cancer. How are they built into a buy/sell agreement, and what do you need to, what are the nuances you need to attend to with that?

Cameron:

So the trigger event can be whatever you want it to be, but we find normally, it’s death and permanent disability. With trauma, we see these days, that a lot of owners will say, “Well if I get cancer, I might be out for six months, but it’s not an end of career diagnosis.” So, we do put trauma in, if the owners want it, but we don’t really see it as much as normal.

Mitch:

Sure. Now, probably the key thing would also be age differences, where an owner might be say in their 50s with another business partner in their 30s. What are some of the things that you look at, when that may occur, and insurance may be or perhaps uninsurable?

Cameron:

Yeah. And probably just, to lead on that. What I didn’t mention before with these buy/sells, it’s an agreement for one party to acquire the interest of the other party, and normally, that’s like, it’s backed by insurance. So what that essentially means is that, if there are three shareholders, and they’re all of the same age, about 40 years old, and if the business is worth $1,000,000, then if one person dies and they hold equal interest, the other parties buy out that person’s interest for $333,000. That’s usually secured by insurance over the exiting party. What that means is that premiums are paid on insurance policies and things like that, and when you get a situation, where you might have an older shareholder versus a younger shareholder, the premiums are different, and it just has to be discussed about the cost of the insurance and whether you can actually get enough insurance to protect for that buyout.

Mitch:

Fantastic. Vendor finance can often be an option that you might include as well in some agreements?

Cameron:

Yep, absolutely, and if there’s a shortfall, for example, if the company is worth quite a lot of money, but the shareholders go, “We don’t wanna insure for the value of the business “or their percentage of the business,” they might underinsure it. And the buy/sell document will say that, if an event of default occurs, or sorry, a trigger event occurs and shares are transferred, the insurance will be used to pay up to a certain value. And if it’s a shortfall, then there’ll be an agreement as to the terms of how that shortfall gets paid out.

Mitch:

And finally, what would happen, where businesses don’t have a buy/sell agreement in place? What would you typically see the outcome could be?

Cameron:

What happens is, this is more of an issue for personal service businesses, where the shareholder has a key person in the business. And, what can happen in those situations is that, in the example before, where there are three shareholders or three key owners, if one passes away, and there’s no buy/sell, there are still three owners. It just happens that the estate of that deceased person is now an owner, but not contributing to the value of the business. So you end up having two owners run the business, and if they grow it, but the other person is not contributing, there becomes a bit of an issue between, I guess, contribution and reward.

Mitch:

Yeah, makes sense. Finally, I’d suggest business owners, if you haven’t reviewed your buy/sell agreements or haven’t got one, seek advice and set a plan for the future.

 

 

general advice disclaimer

Business Depot Financial Planning BNE Pty Ltd ABN 27 644 561 400 and its advisors are Authorised Representatives of Fortnum Private Wealth Ltd ABN 54 139 889 535 AFSL No. 357306.

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