The Shareholder agreement, also known as the Buy/Sell agreement, can contain provisions to cover a multitude of events.
The most common events are when owners:
- Want to leave the business to take another full-time job
- Want to retire
- Get divorced or have family issues
- Become incapacitated or disabled
- Sell out for financial reasons (such as personal bankruptcy)
In this article, I will focus on the unfortunate event of an owner becoming disabled in some way. My first assumption is that the Buy/Sell document requires the purchase of any disabled owner’s interest in the business. The disability of any owner who is active in the day-to-day operations of any business could present serious financial problems. But for a small business, total disability of an active owner will have a greater effect.
The questions below are designed to stimulate your thinking on some complicated issues. I encourage you to write out some answers after you think about them as they relate to your business.
- What change would the disability have on the company’s income?
- What defines a disability from the business perspective?
- Where will the money come from to pay an income to the disabled (now non-contributing) owner?
- Should the money to buy the shares of the disabled owner be paid as a lump sum or over time?
- What if the disabled individual recovers after the buyout is triggered?
Did any thought go into the securing the funds needed to answer questions 3 and 4 when the Buy/Sell agreement went into effect? The owners could have establish a general use sinking fund or purchase disability buyout insurance. However these options aren’t often selected. If they are not, the remaining owner(s) will have an unfunded liability to buyout the disabled owner/partner.
Appropriate advanced planning will eliminate some of the confusion that stems from implementing the disability section of a shareholder agreement. Nothing is perfect in this world, but putting a sound business strategy, that includes a Buy/Sell agreement, in place makes the ride smoother.
I help business owners put a solid succession plan in place in case something happens to them or their business partners. I provide balanced advice so senior management can understand the ramifications of different scenarios and can choose the right plan for their business.
Contact me to learn more about my succession planning and business continuity services.