This is often a useful provision for family businesses. A buy-sell agreement offers a concrete way to protect the future of your business and ensure that it lasts beyond your commitment. Some buy-sell agreements use formal valuation clauses that are a simplified mix of accounting information and valuation multipliers. Examples can be book value, 50% of revenue for the last 12 months, seven times profit or four times earnings before interest, taxes, depreciation and amortization (EBITDA). These formal agreements may result in a mismatch between the transaction price for the outgoing owner and the fair value of that interest. Formal evaluation clauses are superficially the simplest, but the advantages of their simplicity can be outweighed by their imprecision. The advantages and disadvantages of some common evaluation indicators are explained below. Most purchase and sale agreements are written and verified by experienced lawyers, and such ambiguities will be corrected during this process. Sometimes, however, owners create purchase-sale agreements themselves to avoid a lawyer`s fees (which was the case in the case of the example below). While this can save money in the short term, it can be extremely expensive in the long run. Litigation can cost up to a hundred times what it would have cost to establish a formal agreement.
The few thousand dollars entrepreneurs spend today could save millions in the future. Depending on the business structure and how the purchase-sale contract works, insurance policies can be held by the owner or be underwritten over the lives of other owners, or they can be held by the company or an agent of a pension fund. In the case of a legal person, the purchase-sale agreement may provide that the company pays the insurance premiums. By the agreement, the owners agree to restrict their right to the free sale or transfer of their equity interest in favour of an orderly and foreseeable transfer of ownership of the business. . . .