Forming an LLC with partners can be a lot like a marriage. What partners expect during the duration of the partnership are more clearly expressed than what’s expected when things end. In an LLC, the operations agreement is where these expectations regarding roles and responsibilities are expressed. However, like in a marriage, partners often don’t clearly plan and specify what they expect to occur when one member wants to leave or is forced out. We’ve seen several cases where not planning ahead can lead to both business and personal discord. This is completely avoidable with a properly structured LLC and buyout agreement.
A buyout agreement is also known as a buy-sell agreement. These agreements do not deal with outside parties acquiring a business. Rather, they deal with the shared expectations between members of an LLC on how to proceed when partnerships end. A buyout agreement may force members to confront some uncomfortable “what if” scenarios. This can save businesses and relationships. Here are three important questions to help guide the drafting of your buyout agreement.
What Happens When One Member Wants Out?
There are two likely paths forward once one or multiple members decide that they want out:
- The company dissolves. In this case, the company is sold and what’s remaining is sold. Members must agree on how shares will be divided. This is an uncertain and thus terrible time to decide who gets what. While on neutral ground, decide who gets what and draft this into the binding buyout agreement.
- The company forges ahead. In this case, remaining members will be forced to decide on how much the departing member will be bought out for. How much the business will spend in buying the departing party out can make a huge impact on its vitality going forward.
What Happens When A Member is Unexpectedly Lost?
Sometimes a business is forced to move forward through one member’s incapacitation, bankruptcy or even death. In any of these unfortunate circumstances dissolution of the LLC is a possibility, but not required. Members must ask themselves beforehand the following key questions:
- Do we want to continue the business if one member is lost?
- If the business continues, at what rate will the departing member’s share be sold?
What Happens When a New Member Wants In?
This scenario can be a good sign as it signals that the company is an attractive prospect to outsiders. However, bringing in the wrong person can lead to conflicts down the line. A buyout agreement should set expectations regarding:
- Who can a current member sell their share to? This can clarify any potential conflicts of interest that can arise with a new member. It can also set expectations on their expertise and experience level.
- How can a new member join the company? This can clarify how a new member is vetted and can even clarify whether consensus vote, majority vote or some other process is required for joining.
Include a Buyout Agreement in Your Traditional LLC
As you can see, a member buyout can be a complex process. However, thinking of potential buyout scenarios ahead of time and seeking legal counsel can avoid problems later on. We’ve helped numerous clients form their LLC with member buyout agreements that satisfy all parties. Call us today at 512-757-3994 for a consultation.