Florida Buy-Sell Agreements
A buy-sell agreement or buy and sell agreement in Florida is commonly part of an LLC operating agreement or corporate shareholder agreement.
The buy-sell portion is what defines when and how an LLC member or corporate shareholder can sell their interest and who can buy that interest. It also addresses what happens to an owner's shares if the owner who is a person dies or is substantially incapacitated or if a corporate owner goes bankrupt, winds up, or is dissolved.
Given that most businesses in Florida are now LLCs because of their ease of management this article will focus on the buy-sell part of an LLC operating agreement. Because of what it does the buy-sell agreement is also sometimes referred to as a Will for the business or a corporate prenuptial agreement.
The buy-sell portion is what defines when and how an LLC member or corporate shareholder can sell their interest and who can buy that interest. It also addresses what happens to an owner's shares if the owner who is a person dies or is substantially incapacitated or if a corporate owner goes bankrupt, winds up, or is dissolved.
Given that most businesses in Florida are now LLCs because of their ease of management this article will focus on the buy-sell part of an LLC operating agreement. Because of what it does the buy-sell agreement is also sometimes referred to as a Will for the business or a corporate prenuptial agreement.
How is stock regulated in a Florida LLC
Ownership in a LLC is represented by membership interests and in a corporation or Inc. by stock. For simplicity purposes both of these will be termed stock.
The transfer of stock in a closely held business is regulated by the internal governance documents of the business. For a LLC that is its operating agreement. For a corporation or Inc. that is its shareholder agreement.
If a business chooses not to have its own corporate governance documents then it accepts what the Florida legislature has decided is best for the business in Chapter 605 for the LLC and Chapter 607 for the Inc. Naturally the owners of the business know how they wish to operate the business and what should happen in the event of the departure or death of an owner. So any business owner that gives up the opportunity to put an operating agreement, partnership agreement, or shareholder agreement in place for their business is leaving its management in the hands of strangers.
The transfer of stock in a closely held business is regulated by the internal governance documents of the business. For a LLC that is its operating agreement. For a corporation or Inc. that is its shareholder agreement.
If a business chooses not to have its own corporate governance documents then it accepts what the Florida legislature has decided is best for the business in Chapter 605 for the LLC and Chapter 607 for the Inc. Naturally the owners of the business know how they wish to operate the business and what should happen in the event of the departure or death of an owner. So any business owner that gives up the opportunity to put an operating agreement, partnership agreement, or shareholder agreement in place for their business is leaving its management in the hands of strangers.
How does Florida law dispose of LLC stock
In a Florida LLC members have three rights as provided by law. Those are the right to inspect the books and records of the business, the right to vote if given a vote by the operating agreement, and the right to distributions if the business makes distributions. Normally members have a vote equal to their ownership interest but the operating agreement can modify that. Likewise members usually receive distributions in line with their stock percentage but the operating agreement can modify that from the stock percentage.
If the LLC opts not to have its own operating agreement then it is governed and regulated by the terms in Chapter 605. That basically provides that the stock is freely transferrable and the value is fair value. Fair value is a nebulous concept that can be explained and defined as what someone is willing to pay for the stock. Naturally this is an oversimplification of the concept of fair value but intentionally so to highlight the difficulties in valuing stock in a closely held LLC.
When a member departs the LLC it is called disassociation. The disassociation can be voluntary or involuntary. In the voluntary scenario the member either sells their stock to someone else or turns it over to the company. The involuntary situation would be where the member dies or is significantly incapacitated. Because most small businesses are driven by the owners who command the vision and growth of the enterprise, eliminating that person or party from the business can be highly disruptive. In either disassociation situation, voluntary or involuntary, the statutes will allow unintended parties to receive the shares and can lead to protracted and expensive valuation fights surrounding the fair value concept.
For most businesses this is not the preferred solution particularly when the disassociation can more easily be structured and planned in a buy-sell agreement.
If the LLC opts not to have its own operating agreement then it is governed and regulated by the terms in Chapter 605. That basically provides that the stock is freely transferrable and the value is fair value. Fair value is a nebulous concept that can be explained and defined as what someone is willing to pay for the stock. Naturally this is an oversimplification of the concept of fair value but intentionally so to highlight the difficulties in valuing stock in a closely held LLC.
When a member departs the LLC it is called disassociation. The disassociation can be voluntary or involuntary. In the voluntary scenario the member either sells their stock to someone else or turns it over to the company. The involuntary situation would be where the member dies or is significantly incapacitated. Because most small businesses are driven by the owners who command the vision and growth of the enterprise, eliminating that person or party from the business can be highly disruptive. In either disassociation situation, voluntary or involuntary, the statutes will allow unintended parties to receive the shares and can lead to protracted and expensive valuation fights surrounding the fair value concept.
For most businesses this is not the preferred solution particularly when the disassociation can more easily be structured and planned in a buy-sell agreement.
How can your LLC operating agreement better dispose of shares
One significant benefit of having an operating agreement for your LLC is that it can directly and efficiently address voluntary and involuntary disassociations of members and more effectively dispose of those shares.
When the Law Office of David Steinfeld prepares an operating agreement for a client it uses a proprietary operating agreement questionnaire to collect certain information such as whether a member can sell shares and the valuation of those shares. David Steinfeld was part of the Florida Bar's effort to reform the Limited Liability Company Act which became Chapter 605 in 2013, the Amended Limited Liability Company Act. Through his involvement in that legislative effort he is intimately familiar with the construction and operation of the statutes and has designed an efficient method for businesses to put operating agreements in place that better accommodate the unique needs of the business.
When the Law Office of David Steinfeld prepares an operating agreement for a client it uses a proprietary operating agreement questionnaire to collect certain information such as whether a member can sell shares and the valuation of those shares. David Steinfeld was part of the Florida Bar's effort to reform the Limited Liability Company Act which became Chapter 605 in 2013, the Amended Limited Liability Company Act. Through his involvement in that legislative effort he is intimately familiar with the construction and operation of the statutes and has designed an efficient method for businesses to put operating agreements in place that better accommodate the unique needs of the business.
Voluntary disassociation - a member leaves
The voluntary disassociation of a member can be more easily termed whether a member can leave and how can they do that. Simply stated there are two methods that a business can choose in its operating agreement which are the transfer of shares for no money or the sale for value.
In a transfer scenario normally the member would just transfer the shares back to the business. But the operating agreement can provide, for example, that the transfer could also be to another member depending on the advice of the CPA or accountant of the business.
If the operating agreement allows for the sale of shares it can restrict when that can occur, who must approve the request, to whom the shares can be sold, the valuation of the shares, and the time for payment for those. The most significant benefit that an operating agreement offers to a company is that it can put a valuation formula in place instead of the statutory fair value concept. This provides a more certain outcome and because operating agreements are enforced as contracts under Florida law a judge is charged to apply the unambiguous terms that the parties have agreed on in their operating agreement.
Having an operating agreement with a clear valuation formula in the buy-sell provision means that later in the operation of the business if there is a need to apply the valuation formula then litigation over whether the valuation is fair would be pointless because the judge must directly apply the formula that the parties chose. This alone can avoid a corporate divorce that can devastate the business and tear it apart from the inside out and is why this part of the buy-sell is sometimes called the corporate prenup.
In a transfer scenario normally the member would just transfer the shares back to the business. But the operating agreement can provide, for example, that the transfer could also be to another member depending on the advice of the CPA or accountant of the business.
If the operating agreement allows for the sale of shares it can restrict when that can occur, who must approve the request, to whom the shares can be sold, the valuation of the shares, and the time for payment for those. The most significant benefit that an operating agreement offers to a company is that it can put a valuation formula in place instead of the statutory fair value concept. This provides a more certain outcome and because operating agreements are enforced as contracts under Florida law a judge is charged to apply the unambiguous terms that the parties have agreed on in their operating agreement.
Having an operating agreement with a clear valuation formula in the buy-sell provision means that later in the operation of the business if there is a need to apply the valuation formula then litigation over whether the valuation is fair would be pointless because the judge must directly apply the formula that the parties chose. This alone can avoid a corporate divorce that can devastate the business and tear it apart from the inside out and is why this part of the buy-sell is sometimes called the corporate prenup.
Involuntary disassociation - a member dies
The involuntary disassociation of a member speaks to what happens when the member dies or is significantly incapacitated for an individual and dissolves or winds up if the member is a corporate entity. This part of the buy-sell agreement that is embedded in the operating agreement is commonly called the Will of the business.
The proverbial what happens if a member dies part of the buy-sell section in the operating agreement has two distinct advantages. Those advantages are the allowance for an automatic trigger and a clearly defined valuation formula. If the member is a person and they die or are so incapacitated that they cannot continue to participate in the business then that event documented by a death certificate or medical determination, for example, can serve as a trigger that automatically transfers the shares of the member back to the company or to a designated party depending on the advice of the company's CPA or accountant. If the member is a business entity and not a natural person then its proverbial death or incapacitation would be its dissolution, bankruptcy, or wind-up which would trigger the same automatic transfer.
By adopting a valuation formula as part of the automatic transfer of shares, which can be the same formula used in voluntary disassociation situations, the process is further efficiently automated and a high degree of certainty injected into a destabilizing event that would otherwise cause a significant amount of uncertainty for the business.
This business Will also allows for a member to designate a beneficiary for the payment for the member's shares thereby creating something like an annuity for the member's named beneficiary or beneficiaries as the payments are made if over time. Another solution that many businesses employ in these situations is to purchase life insurance for key members and designate the value of the member's shares as the amount of the insurance. In that option the member and the member's beneficiary or beneficiaries benefit from the insurance paid for by the business and the business as well as the surviving members benefit by not having to later pay money out of the business to the beneficiary or beneficiaries.
The proverbial what happens if a member dies part of the buy-sell section in the operating agreement has two distinct advantages. Those advantages are the allowance for an automatic trigger and a clearly defined valuation formula. If the member is a person and they die or are so incapacitated that they cannot continue to participate in the business then that event documented by a death certificate or medical determination, for example, can serve as a trigger that automatically transfers the shares of the member back to the company or to a designated party depending on the advice of the company's CPA or accountant. If the member is a business entity and not a natural person then its proverbial death or incapacitation would be its dissolution, bankruptcy, or wind-up which would trigger the same automatic transfer.
By adopting a valuation formula as part of the automatic transfer of shares, which can be the same formula used in voluntary disassociation situations, the process is further efficiently automated and a high degree of certainty injected into a destabilizing event that would otherwise cause a significant amount of uncertainty for the business.
This business Will also allows for a member to designate a beneficiary for the payment for the member's shares thereby creating something like an annuity for the member's named beneficiary or beneficiaries as the payments are made if over time. Another solution that many businesses employ in these situations is to purchase life insurance for key members and designate the value of the member's shares as the amount of the insurance. In that option the member and the member's beneficiary or beneficiaries benefit from the insurance paid for by the business and the business as well as the surviving members benefit by not having to later pay money out of the business to the beneficiary or beneficiaries.
What is the best valuation formula for your LLC operating agreement
If you can cast aside the statutorily imposed concept of fair value in Chapter 605 of the Florida Statutes and deploy your own valuation formula in your LLC operating agreement then what is the best formula to use. The answer is whatever formula that you want to use but it should not be so complex and complicated that someone applying the formula like a judge could not easily calculate the share value.
Over many years and many operating agreements the Law Office of David Steinfeld has seen a large variety of valuation formulas crafted by business owners. Those that are so complex and require separate calculations just to define some of the components of the core formula defeat the purpose of putting a simple formula in your LLC operating agreement. The best formulas are those that are easy to calculate and do not require people applying the formula to look beyond the business records.
For example a simple and commonly deployed formula is the company's net profit for a certain number of months preceding the sale approval or triggering event as determined by the company's accountant or CPA based on the company's books multiplied by the departing member's share percentage and paid over a set number of years with or without interest. Another example can be a multiplier of the EBITDA as determined at the sale or trigger and also paid out over a number of years. The EBITDA is a well-established accounting formula that can easily be determined by the company's CPA or accountant based on its own business records.
There is no correct or right formula to use in a buy-sell provision contained in an LLC operating agreement but containing such a formula instead of relying on the fair value provided by Florida law will tremendously benefit the business and bring a high degree of certainty to the disassociation of a member whether voluntary or involuntary.
Over many years and many operating agreements the Law Office of David Steinfeld has seen a large variety of valuation formulas crafted by business owners. Those that are so complex and require separate calculations just to define some of the components of the core formula defeat the purpose of putting a simple formula in your LLC operating agreement. The best formulas are those that are easy to calculate and do not require people applying the formula to look beyond the business records.
For example a simple and commonly deployed formula is the company's net profit for a certain number of months preceding the sale approval or triggering event as determined by the company's accountant or CPA based on the company's books multiplied by the departing member's share percentage and paid over a set number of years with or without interest. Another example can be a multiplier of the EBITDA as determined at the sale or trigger and also paid out over a number of years. The EBITDA is a well-established accounting formula that can easily be determined by the company's CPA or accountant based on its own business records.
There is no correct or right formula to use in a buy-sell provision contained in an LLC operating agreement but containing such a formula instead of relying on the fair value provided by Florida law will tremendously benefit the business and bring a high degree of certainty to the disassociation of a member whether voluntary or involuntary.
Conclusion
A buy-sell agreement can be a stand alone agreement but is commonly part of an LLC operating agreement in Florida. If a company elects not to have an operating agreement then it is stuck with what the Florida legislature determined to be appropriate for the business in Chapter 605, our Amended Limited Liability Company Act. If however the owner or owners are sophisticated and put their own operating agreement in place then they can define whether and when a member may transfer or sell the member's shares or what happens if the member is killed or incapacitated.
Advance planning is key to the success of any business whether it is in advertising and marketing, product purchases and development, expansion and addition of services offered, or in the legal documents of the business like its corporate governance documents, contracts, employment agreements, independent contractor agreements, non-competes, and other restrictive covenants. Defining the buy-sell portion of your LLC operating agreement better plans for situations like the departure or death of a member that can otherwise cause a great upheaval in the business and significantly disrupt its operations.
A business prenup or business Will in the operating agreement injects stability into the business should it encounter an event in its lifecycle like the departure or demise of a member and enhances the value of the business allowing the surviving member or members to more easily and efficiently continue the operation of the business or even to sell it before it deteriorates as a result of the loss of a key member.
Advance planning is key to the success of any business whether it is in advertising and marketing, product purchases and development, expansion and addition of services offered, or in the legal documents of the business like its corporate governance documents, contracts, employment agreements, independent contractor agreements, non-competes, and other restrictive covenants. Defining the buy-sell portion of your LLC operating agreement better plans for situations like the departure or death of a member that can otherwise cause a great upheaval in the business and significantly disrupt its operations.
A business prenup or business Will in the operating agreement injects stability into the business should it encounter an event in its lifecycle like the departure or demise of a member and enhances the value of the business allowing the surviving member or members to more easily and efficiently continue the operation of the business or even to sell it before it deteriorates as a result of the loss of a key member.
Written by expert business lawyer David Steinfeld
David Steinfeld is one of the few Board Certified business law experts in Florida. He has been licensed for over 25 years. He is AV-Preeminent rated, ranked as one of the Best Lawyers in America by U.S. News and World Report, and consistently named a Florida Super Lawyer and one of Florida’s Legal Elite. Dave has also received Martindale’s prestigious Judicial Edition Award for high reviews by Judges, its Platinum Client Champion Award and has a 10.0-Superb rating on AVVO as well as a 10.0 rating on Justia, lawyer reviews websites.
Check out business attorney David Steinfeld online for helpful videos and articles on Florida business law, real estate disputes, and electronic discovery solutions for your business. This article is provided for informational purposes only.
Check out business attorney David Steinfeld online for helpful videos and articles on Florida business law, real estate disputes, and electronic discovery solutions for your business. This article is provided for informational purposes only.
