Formula Buy-Sell Agreements

Some other items should be included and specifically delineated in a formula buy-sell agreement.  If the formula is a based on an EBITDA multiple this will yield an entire company value – the equity and debt.  To determine an equity value, long-term debt will need to be subtracted from the resulting value.  It is important to specify the timing and identify the debt to be subtracted to reach an equity value.  Additionally, it is my recommendation to list the appropriate shares/units outstanding to reach a per share/per unit price for the transaction.  Other recommended practices:

·         Determine how to treat instances of excess cash on the balance sheet and when the entity will have excess cash;

·         Determine how non-operating assets will be treated in the formula;

·         Identify and agree on who is actually going to be performing the calculations pursuant to the agreement; and

·         Determine and agree how life insurance proceeds are going to be treated and the impact on the value.

As you can see, what starts off as a pretty simple process using a formula can get quite complicated. If these considerations are not documented it will lead to differing interpretations which can lead to large value swings and inconsistencies.