Business succession agreements play an important role in ensuring that a business and its owners are protected in the event of the voluntary departure of an owner, or an unexpected event. In short, establishing a business succession agreement together with comprehensive insurance can help prevent future complications.
A cautionary tale
Consider the scenario of talented young graphic designers Helen and Sarah: After graduating from university in 1998, they take a big risk and establish a graphic design company together, each holding a 50% shareholding.
By 2005 they are making a good living and have developed strong relationships with their customers and employees.
Helen's only concern is Sarah's new husband, James, who is starting to interfere in the business with grandiose and inappropriate schemes. Sarah knows how Helen feels and keeps James at arm's length.
As their business thrives, Helen and Sarah consult a financial adviser about how they can minimise their tax and invest surplus cash. Their financial adviser recommends they both draw up wills and also consider setting up a separate will, or business succession agreement, for their business.
Their adviser also suggests they both take out life, total and permanent disability (TPD) and trauma insurance as part of their business succession agreement so if one of them was forced to leave the business because of an insurable condition, funds would be available to buy out that person's share.
Both Helen and Sarah establish wills shortly after the meeting with their adviser. But as they are still young and very happy working together they decide there's no need at this stage to establish a buy/sell agreement or take out insurance.
One day in 2007 Sarah collapses in the office. An ambulance is called, but the paramedics can't revive her and she dies in front of Helen and her staff. It is later discovered that the cause of death is a brain aneurism.
Helen is deeply affected by Sarah's death, initially closing the business. After her initial grief subsides Helen decides to go back to work.
On the day of the office reopening Helen is reasonably upbeat until she meets her new business partner: James. As the sole beneficiary of Sarah's will, James has inherited all her assets, including the 50% shareholding in the graphic design company.
Over the next month, James makes Helen's life very difficult. He insists on being involved with all business decisions, even though he has limited business acumen and no understanding of graphic design. Furthermore, one of Helen's staff members is becoming increasingly uncomfortable around James and wants to resign.
One day while out for lunch Helen bumps into her financial adviser. She immediately remembers her adviser's recommendation to set up a business succession agreement, and wishes she had entered into a buy/sell agreement prior to Sarah's death.
A business succession plan would have:
- Provided Helen with a greater level of control over who will replace Sarah
- Funded buying out Sarah's share of the business via additional insurance covering events such as death, TPD or serious medical illnesses
- Prevented James's involvement in the business as he is unsuitable and cannot work constructively with Helen and her staff
- Offered greater peace of mind for everyone involved in the business, including customers, suppliers and employees
Had Helen taken out the recommended insurance policies, she would have had funds readily available to exercise an option under the buy/sell agreement to buy Sarah's shares from her estate for a set price.
This is just an example of what can happen.
Article used with permission from AXA Media Resource. For more information contact Richard M Hill, from Green Dot Financial. Richard M Hill is an authorised representative of Professional Investment Services Pty Ltd ABN 11 074 608 558 AFSL Number 234951.