Forging a business partnership (co-ownership) can be a rewarding endeavor, both personally and financially. It usually starts out as a mutually beneficial relationship, based on shared vision and goals. And, generally partners foresee a long-term, successful affiliation. But like any relationship, a business partnership can also be complicated, especially if there are more than two partners involved. And invariably, the goals, timeline, and expectations of each partner will change over time, which is why it’s crucial to anticipate and plan for the eventual exit of business partners (whether voluntarily or not). The goal is to ensure that if one or more partners leave, the company will be able to successfully move forward.
Here are some tips to help partners successfully navigate the dissolution of a business partnership.
Plan for the End from the Beginning
Owners should begin with the end in mind, which means putting some thought into the various ways that they could leave the business. Knowing the "end game" can also help guide the strategic and growth planning for the business so that the owners' long-term goals can be achieved.
Shareholder (Buy-Sell) Agreement
A Shareholder Agreement (also called a “buy-sell”) is a critical document and should be put in place at the outset of a business whenever there is more than one partner/shareholder. This important legal agreement, if written properly, will establish clear expectations and help mitigate emotional, legal, and financial issues down the road when a partnership breakup is in the making. This document:
- Specifies how a business will be valued in the future in the event of a separation.
- Outlines how death, disability, termination, divorce and bankruptcy will trigger the departure of a partner/shareholder.
- Structures the financial terms of a partner/shareholder buy-out including how the shares will be valued, when they will be paid and how the buy-out will be funded under each scenario.
The agreement should be reviewed annually, as part of the company's year-end process to ensure its relevancy. Working on this agreement may provide a good opportunity for owners to determine how they would like to leave, whether through an external sale or transition to the family or key employees.
The untimely death, disability, or illness of a partner can have a devastating effect on the business and your future. Creating a contingency plan is essential; it can help you and your colleagues prepare for and react to an emergency situation.
A Business Contingency Plan should include, at a minimum:
- An outline of ALL business owner wishes including who should own and run the business.
- Names of advisors who can assist the family of the owner with making important decisions – CPA, attorney, business broker, exit planning specialist, wealth advisor etc.
- List of potential internal and/or external buyers if the company should be sold.
- Insurance policy details.
- Location of all important business documents such as Corporate Records and Operating Agreements, Shareholder (Buy/Sell) Agreement, Business Ownership Transition Plan, Financial Statements, Tax Returns.
Having life and disability buyout insurance as a financial “backstop” gives owners and their families time to figure out the best way forward for themselves and their businesses in the event of a partner's death or disability. Insurance can:
- Ensure business continuity by providing money to keep businesses running smoothly in the absence of owners.
- Enable the company or co-owners to acquire a deceased or disabled owner’s shares and provide immediate liquidity.
Even with a strong buy-sell agreement, you need to ensure that a buy-out can be funded. If not, it could be financially disastrous for the remaining partner(s) and the company.
There are two basic kinds of life insurance policies: term and permanent (See To Insure or Not to Insure – Part I: What You May Not Know). Disability income as well as buyout insurance should be considered. Disabilities can have a devastating effect especially if the owner is permanently disabled and needs income from the business to survive. Insurance should be purchased in conjunction with your financial, estate, and exit plans, and policy terms should be reviewed annually.
What Will Need to Be Negotiated
It is challenging enough to maintain partnerships as the business grows, but it can be really tricky to negotiate and successfully execute on a partner’s departure. Partner transitions are often emotional events. It is often helpful to hire an independent and objective advisor who can walk the partners through the discovery and decision-making process so an effective exit plan can be put in place.
Even with a solid buy/sell agreement in place, there are still some things that will need to be negotiated, including figuring out who will take over a partners’ responsibilities and establishing a timeline for the partners’ transition.
Keeping the Peace
If you have co-owners, this type of planning isn't just important, it's crucial to help maintain personal relationships between partners, make sure that everyone involved gets a fair deal, and ensure business continuity.
To avoid unpleasant contention, documenting a plan is critical and working with experienced, third-party advisors who can help craft the ideal exit plan as well as the buy-sell agreement is recommended. They can help walk the partners through the discovery and decision-making process so an effective plan can be put in place. Advisors can also provide guidance during the transition process and help facilitate negotiations.
Having a broader Business Ownership Transition Plan (BOTP), which outlines long-term exit strategies, will help guide the strategic and growth planning for the business so that all of the owners’ goals can be achieved. A healthy profitable company is more likely to be able to fund multiple owners. Even if your business is already established, it’s not too late to put a strategy in place to help deal with a partner’s departure. Planning partnership transitions takes time. Start the process as early as possible and well before any partners want to exit from the business in order to improve your chances for a successful transition.