Is your buy-sell agreement a set/fixed price agreement?  As mentioned in previous posts, one type of buy-sell agreement sets the price for the transaction once it is signed.  For example, it can be for a price per unit/share or state that the value of the company is simply $1,000,000.  One of the benefits of this approach is that it is easy to understand and can be useful if the value is updated on a regular basis. 

However, if the entity has been operating for a number years it is likely now completely different.  Things change.  Profitability, revenue, the industry, the economy, markets, leverage and company size will all have bearing on an entity’s valuation.  If you are locked into the initial agreement price (without making any updates) one party is likely to be deeply unsatisfied with the value.   You can see right away that if the agreement called for a $1,000,000 valuation, but the true fair market value is now $10,000,000 this is a huge benefit to the buyer.  Contrarily, if the fair market value is now $100,000 and the business is in decline - the $1,000,000 price is a huge benefit to the seller.

If you have a set/fixed price agreement it may be necessary to update the agreed price to reflect the entity’s current operations. If left unaddressed over time a set price can create tension and potentially litigation between the owners.

What type of buy-sell agreement do you have?  There are a few different options available that are generally used.  Quite frequently I see a buy-sell agreement that sets a price for the transaction at a later date.   For example, in the buy-sell agreement, the owners will agree that the shares/units will be bought or sold for $X per share. 

Additionally, I frequently encounter buy-sell agreements that set forth a calculation or formula.  For example, the owners will agree that the shares/units will be bought or sold based on a book value multiple or based on an earnings before interest taxes depreciation and amortization (“EBITDA”) multiple or some other variation. 

Finally, there are buy-sell agreements that lay out a lengthy procedure for a business appraisal.  This can include one or more appraisers to determine the transaction price under the agreement.

There are distinct advantages and disadvantages for each “type” of buy-sell agreement. It is worthwhile to identify what type of buy-sell agreement you are dealing with as there can be highly different outcomes in value depending on how the agreement is structured. Business owners should take steps to understand how the entity will be valued and examine if changes to the buy-sell agreement need to be made.