You may have thought the following about a marathon:
The marathon is a long-distance running event with an official distance of 42.195 kilometres (26 miles and 385 yards), that is usually run as a road race. The event was instituted in commemoration of the fabled run of the Greek soldier Pheidippides, a messenger from the Battle of Marathon to Athens.
BuySellAgreementathon. The distance covered by all parties in a case that has lasted more than a decade and that has gone to court many times.
I am referring specifically to the fight over the value to be paid for an 18% interest in Troser Management, Inc.
Mahler writes about a long-standing matter which was published following a long line of other related decisions, including this, the fourth and final (?) appeal. See Sullivan v. Troser Management, Inc., 2013 NY Slip Op 01634 (4th Dept Mar. 15, 2013).
Read the Mahler post here. The essential facts of the case are listed below.
- The plaintiff was hired by Troser Mangement, Inc. (Troser) in 1986 with an agreement that he would be entitled to 18% of the equity of Troser if he stayed employed until 1991. He did. He did not actually receive the shares of Troser, but he apparently earned the legal right to such shares.
- Perhaps there were negotiations between the parties following the plaintiff’s departure. We don’t know. However, the plaintiff filed a lawsuit in 2003 asking that his stock be issued and then bought.
- There was a buy-sell agreement dating to 1986 – a fixed-price agreement. This agreement called for the owners to agree on the value each year and set such agreement forth in its Schedule A. The agreement further stated that, in the event that the shareholders did not update Schedule A for two years, then the agreement price would be adjusted up or down based on the change in Troser’s book value from the date of the last Schedule A to the time of the trigger event.
- Schedule A was never finalized, so there was no base value from which to adjust.
Readers of my blog and books on buy-sell agreements know that I am not a fan of fixed-price buy-sell agreements. Mahler quoted me, so I’ll requote him:
In my opinion, for most situations, fixed-price buy-sell agreements should be avoided like a contagious disease. However, if you have a fixed-price agreement, you must have the discipline to update the price periodically. And you must amend the agreement to include a workable appraisal process in the (likely) event that you fail to update it.
This quote is from my 2010 book, Buy-Sell Agreements for Closely Held and Family Business Owners. I repeat this advice in my new Kindle book, Buy-Sell Agreements for Baby Boomer Business Owners. I state further in the new Kindle book about some of the emotional and practical problems with fixed-price buy-sell agreements:
Whether consciously or not, shareholders sometimes perceive the potential for personal advantage in the current fixed price:
- Younger shareholders may perceive advantage in a dated, low (rather than a higher current value) buy-sell price if there are significant age or health differences relative to older owners.
- Older shareholders may perceive advantage in a dated price if the fortunes of the company have declined and valuations are known to be generally lower than when the agreement was signed.
- A healthy shareholder may perceive advantage if another owner is in poor health and disability or death provisions of the agreement may be triggered.
- Optimistic shareholders may perceive advantage in that they do not believe that “bad things” could happen to them.
Baby Boomers should pay attention. I don’t want to attribute bad motives to good people. The problem with fixed-price agreements lies not with motives but with a natural divergence of interests and personal objectives over time. Most business owners, at least in my experience, will go to extremes to avoid such discussions, which are often viewed with discomfort or as potentially antagonistic.
- If there is a controlling shareholder and the remaining shareholders hold minority interests, it can become awkward to discuss valuation.
- The minority shareholders are often thinking in terms of the value of the enterprise as a whole, and not in terms of illiquid, minority interests in the corporation.
- The controlling shareholder may consider the minority shares to be worth proportionately less than his shares.
- The end result is that all the shareholders – whether younger or older, in better or worse health, or having controlling or minority ownership – end up betting that something will happen to the other owner(s) first. And one of them will be right. Someone will win the bet and the other one(s) will lose it.
Life is uncertain. People don’t live or die or become disabled or leave based on the expectations of others. They live or die according to a divine plan (if you are religious) or by chance, luck, or genes (if you are not).
In any event, things happen over time, and they are not always the things we expect. The Law of Unintended Consequences is at play in our business and personal lives. If you have younger and older shareholders, think about what would happen if a key younger shareholder died unexpectedly. What if an older owner with a substantial interest died? What about, heaven forbid, at least any time soon, you?
In my other books and the new Kindle book, Buy-Sell Agreements for Baby Boomer Business Owners, I make two recommendations for those of you with a fixed-price agreement:
- First, if you have a fixed price buy-sell agreement, for heavens sake, get the owners to agree and change it to a Single Appraiser, Select Now and Value Now agreement. Then, when the appraiser you select revalues the business each year, then you will know that your agreement is current – and you will know what the value is.
- Second, if you fail to heed my first recommendation, amend your fixed-price agreement to add a clause of agreement on what happens if there is a trigger event and the fixed price has not been updated for _____ months (you name the number). That clause is defined as part of the Single Appraiser, Select and Value at the Trigger Event process. You won’t have the certainty of my first recommendation, but you will have a dispute resolution process in place by agreement.
These recommendations address Mahler’s concluding lament with respect to establishing a methodology for valuing shares:
You’ve got to figure that after ten years of litigation, including four appeals, likely the parties collectively have spent far more in legal fees than Sullivan’s shares are worth. On top of that, the litigants have yet to establish through their prodigious litigation efforts either (1) a methodology for establishing the value of Sullivan’s shares and (2) any certainty as to the exercise of Troser’s option to purchase Sullivan’s shares.
And to think, all of this could have been avoided had the parties prepared a simple schedule or certificate of value as contemplated by the 1986 buy-sell agreement. But do not view this omission as a freak occurrence. Rather, it is symptomatic of the myriad problems afflicting fixed-price buy-sell agreements.
Whether you are a baby boomer or not, the new book, Buy-Sell Agreements for Baby Boomer Business Owners, will be helpful to you as a resource to review your buy-sell agreement and seek the professional resources you need to ensure that it will work when it is triggered. In addition, the book, initially priced at only $2.99 as a Kindle book, offers complimentary downloads of the Buy-Sell Agreement Review Checklist and the Checklist for Shareholder Promissory Notes. Get these resources and use them
Don’t be a victim of a virtually certain-to-fail fixed-price buy-sell agreement like the long-suffering plaintiff and defendants in Troser.