Planning Ahead for Business Exits
Every business owner will eventually exit their company—whether planned or unexpected. What matters most is whether that change leads to stability or leaves behind confusion and disputes. Without preparation, even the strongest businesses can face stress, financial strain, and broken relationships.
A buy-sell agreement is one of the most effective tools for preventing this kind of chaos.
What a Buy-Sell Agreement Does
A buy-sell agreement outlines how ownership will transfer if an owner leaves, becomes disabled, or passes away. It helps surviving owners retain control of the company while making sure the heirs of the departing owner receive fair compensation.
This agreement can be a separate document or part of a larger operating or shareholder agreement.
Why It Matters for Multi-Owner Businesses
In businesses with more than one owner, surprises can get messy. For example, imagine a co-owner dies, and their spouse or children inherit their share of the business. Do they want to run the business? Do you want to be in business with them?
This is where having clear terms in place makes all the difference. A well-drafted agreement can provide the surviving owner the right to purchase the deceased owner’s share, avoiding future disputes or unwanted partnerships.
Addressing the Buyout Challenge
There are two main questions to answer:
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What is the company worth?
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Where does the money come from to buy out the departing owner’s share?
Using Key Person Life Insurance
Many businesses don’t have enough cash on hand to buy out a partner. Key person life insurance can solve this. If one owner passes away, the insurance payout goes to the company, which then uses those funds to buy the shares from the deceased owner’s heirs.
This keeps ownership clean and avoids draining business resources or taking on new debt.
How to Decide on Business Value
Valuing a business is often more art than science. Outside appraisers may produce wildly different numbers, leading to disagreements. One might say the company is worth $400,000, while another claims $3 million. That kind of gap doesn’t help anyone.
The Annual Meeting Approach
A more practical option is for the owners to meet once a year and agree on a fair value. This number is documented and can be used in the event of an unexpected exit. If circumstances change significantly—like winning a big contract or growing revenue—owners can hold another meeting and update the value.
This method keeps everyone on the same page and avoids relying on third parties who may not fully understand the business.
The Pitfall of Solomon’s Choice Provisions
Some agreements use a Solomon’s Choice method: one party sets the price, and the other chooses to buy or sell at that price. In theory, this encourages fairness. In practice, it can still create financial pressure and uncertainty—especially if the business is growing fast or the value is unclear.
Start With a Plan—Before You Need It
When there’s only one owner, planning can wait a bit. But once a company grows or adds partners, it’s time to think about the future. The cost of not having a plan can be steep—both financially and emotionally.
Putting a buy-sell agreement in place doesn’t take long, but it protects what you’ve built. It keeps relationships intact, simplifies ownership transfers, and gives everyone involved peace of mind.
Final Thoughts
For small business owners, having a buy-sell agreement is a smart and protective move. Meet with a qualified attorney to draft a plan that fits your unique situation. Consider life insurance to fund it. And once it’s in place, review and update it regularly.
Planning now means fewer problems later—and helps your business stay strong no matter what the future brings.
Video Transcript:
Avoiding Uncertainty When Leaving the Business
Every business owner eventually exits. The only question is whether that transition brings stability or chaos. In this segment, we are dissecting the critical mechanics of exit planning. We will explore how to structure your buy sell agreement to protect both surviving partners and heirs from unnecessary conflict.
A Smarter Way to Determine Value
You will learn why relying on outside business appraisers or a Solomon’s choice provision can lead to disastrous valuation gaps. Instead, I will show you a practical annual strategy to set a fair price and fund it using key person life insurance.
The Reality of Business Exit
But now let’s talk about exit planning.
One thing we all know for sure is that we will all be leaving our business at some point. Either at the point of death or prior. So by doing a little exit planning, we can think about how to make that a smoother process versus abrupt. And I can’t tell you how many times I have seen frustration, pain, anger, stress, and anxiety associated with a business owner leaving the business without any plan for the exit.
When to Start Thinking About Exit
So what do you do about this? Usually I don’t recommend thinking about this too much in the beginning, especially if you are a solo business. If you only have one owner, it is hard enough to build a business. You don’t need to worry about the exit. But once you have been in an operation for a few years, or if you have multiple owners, it makes sense at that time to start thinking about, “What are the different options for exit?” This is an area where you will want to use an attorney.
Life Insurance and Ownership Transitions
Here is some considerations. First, life insurance. One of the problems that business owners often face is as their business grows, let’s say, to use round numbers, the business is worth a million dollars. Let’s say there are two owners. If one person passes away, think about, “Does the widow or the heirs, maybe the children of the deceased owner, want to take over ownership of the company?”
Working With Heirs or Spouses
Also think about, “Does the living owner want to be in business with those people?” Often, spouses are very different, and so a person who is a great business owner marries a person who is not a great business owner. They have other qualities. Maybe a great parent. Maybe creative. Whatever those other skills are, they may not be the same skill set that made their deceased spouse a great business owner.
Buyout Rights in Agreements
So, often business partners say to themselves, “I enjoyed being in business with him or her, but I don’t want to be with the spouse.” So what do you do about that? You can have in your documents your shareholder agreement or your operating agreement, or you can even have a buy-sell agreement, a section that says, “Upon one person passing, I as a living business owner have a right to buy out the other owner.” Instead of those shares going to the widow or the heirs, children, or whatever.
How to Set Fair Value
But there are a couple issues here. First, what is the buyout price? What is the real value of the company? Now, obviously, if it is a 50/50 ownership, it is 50 percent of whatever the company’s worth. But how do you figure out what a company’s worth? And then the second part of that is, how do you come up with that kind of money?
Funding the Buyout
Because a lot of people don’t have that kind of money just sitting around. Even business owners usually don’t have half the company’s worth in value in cash.
So to answer that part really quickly, you can get life insurance. It is called Key Person Life Insurance. It is life insurance on each other. So if the other business owner passes away, the insurance company pays the company money, which is then used to buy out that owner. So the shares of the ownership goes from the deceased owner into the company, which is now owned 100 percent by the living owner, and the money is paid to the heirs or the living spouse of the deceased owner. In effect, that way one owner, who is living, gets the whole business, and the spouse gets paid off in cash or the heirs.
Setting Value in Advance
We have, though, that issue now still of what is the value of the company. Well, there are some different ways that this can be handled. One way is the business owners meet every year, and they talk about, “Hey, if anything happens to us, what is the value of the company?” They agree to that. They put it in writing. They make sure they buy an insurance policy for that amount, or at least half of it. So if anything happens to them throughout the year, that is the dollar amount that is used.
An Example Scenario
Another option is to do a Solomon’s Choice Provision. Generally speaking, this is not ideal. But basically, that is where one person says, “Here is what I believe the company is worth,” and the other person decides whether to buy or sell at that amount.
I will illustrate. Let’s say, for example, you have a 30 percent owner over here and a 70 percent owner over here. And let’s say that the 70 percent owner passes away. So now you have the living spouse come in there. And let’s say there is a buy-sell agreement that gives a right of first refusal to the living, surviving owner. Which basically means the living owner with 30 percent can decide, “Do you want to buy the existing 70 percent of the deceased owner, or do you want to sell your 30 percent to the estate?” Or maybe the right is shifted over to the estate, and the estate can decide whether to buy or sell.
Problems With Valuation Manipulation
Here is the issue. Under a Solomon’s Choice Provision, whoever gets the choice gets to say, “Here is how much the company is worth.” So let’s say the person says, “Oh, it is only worth a hundred dollars.” Well, the other party then would get to decide, do I buy or sell based on that? Or, let’s say they say, “It is worth a billion dollars.”
Well, again, the other side gets to decide whether to buy or sell based on that. So because the person who sets the price in a Solomon’s Choice provision is not the same person who gets to decide whether to buy or sell, the person who sets the price is incentivized to pick a fair price. Usually Solomon’s Choice isn’t the best option though because the other side still has to come up with the money, and often in cash.
Strain on the Buyer
Now, you can have some sort of payout terms for a number of years, but still, it can put a financial burden on whoever the buyer is to come up with that amount of cash, especially for a very valuable company.
A Better Alternative
And that is why, rather than doing Solomon’s Choice, which leaves a lot of questions around the value of the company, it is usually best practice for the business owners to set the value of the company each year. Like they have an annual meeting of shareholders or LLC members. And at that meeting they decide, if anything happens to us unexpectedly this year, what is the company’s price or value going to be for the buying out of another owner?
What About Hiring an Appraiser?
Now there is one other option that is fairly common, and that is to use a business appraiser. This is a professional who is certified in appraising the value of companies. But let me ask you, “How do you value something that you are buying?” Let’s say that you are buying an antique fur rug. Let’s say it is bear fur.
Well, to some buyers, that could be incredibly valuable. And to other buyers, it is not valuable at all. Likewise, a business is much more difficult to value than a fur. So what we find, practically speaking, is that business appraisers will come in at all different prices. You might have an appraiser who says, “The business is worth $3 million.” And another one who says, “$400,000.” What do you do with that?
Stick With the Annual Meeting
Or what do you do with the fact that the first appraiser you hire might pick an amount that doesn’t feel fair to you or doesn’t feel fair to the widow or the spouse who just lost the business owner, their lifelong companion?
So because appraisal values can be vastly different between different appraisers, it generally is a best practice for the business owners each year to set the price at an annual meeting. Now you might say, “Well, what happens if something major happens throughout the year? Like, let’s say they get some significant contract or their revenue goes up substantially.”
Well, the business owners can always reset that price. They can have a meeting in June or whenever they want to update the price. But the idea is, ideally, the business owners who know the business better than anyone else sets the price. And by them doing it, then no matter what happens to any of the business owners, there is already in place a buyout price, a plan, and potentially even a life insurance policy should anything happen to one of those business owners.
What Is a Buy-Sell Agreement?
When business owners put this plan together, we call it a buy-sell agreement. And so, if business owners have a plan in place to sell to each other, that goes right into that buy-sell agreement, which might just be a part of a larger shareholder agreement, or in the case of an LLC, a larger operating agreement, but sometimes it is a standalone agreement.
Learn How to Avoid Legal Trouble
Now, if you would like to know more about how to avoid trouble like this, I have a free resource at AaronHall.com/free. I provide information for business owners of small to mid sized companies on how to avoid common legal problems. That includes a PDF. It includes videos talking about important issues.
I am Aaron Hall. I am an attorney for business owners and entrepreneurial companies. If you would like, subscribe to this channel so you can get more educational content like this.