What to Know Before Buying Out a Business Partner

There's a right way and a wrong way to buy out your business partner—and the more amicable you are, the easier the process will likely be.
Head of Content and Editor-in-Chief, Fundera
April 12, 2017

Business partnerships can end for any number of good reasons. A senior partner decides to retire. A beloved partner moves away for family reasons or is faced with a life-changing opportunity. Buying out a partner in these circumstances can still be stressful and involved, but the experience is typically a positive one.

Other partnerships can come to a less amicable end, as personality conflicts or an erosion of trust leads partners to go their separate ways. In the worst of these circumstances, the partnership breakup can become heated, messy and often personal.

Regardless of why you are seeking to buy out your business partner, the best steps to take can, for the most part, be the same. Here's what you need to know:

1. Consult an experienced acquisitions attorney.

If you are even considering buying out a partner, it's a good idea to start the process by consulting an experienced business acquisitions attorney. Business partnership laws can vary from state to state, and the terms of your initial partnership agreement will to some degree dictate your buyout options. Talking to an acquisitions attorney from the beginning can help you make a plan and be aware of any potential challenges before you approach your current business partner.

At this moment, you may be thinking, “But my business partner and I are on great terms, and this buyout should be easy! Do I really need to bother with an attorney?" Almost anyone who has been through the process will answer with a resounding “Yes!"

Even in the best of circumstances, buying out a partner can be a highly technical negotiation. Like hiring a real estate agent to buy a house, working with an acquisitions attorney can allow you to maintain a positive relationship with your soon-to-be-former partner while these third parties haggle over the details. Consulting a lawyer will likely be a big help to you, and when the conversation arises, consider encouraging your partner to do the same.

2. Tread lightly.

When it comes time to approach your business partner about the buyout, don't start the conversation speaking legalese! This is presumably a person you've worked closely with for a long time, so to every extent possible, the exchange should be an amicable one among friends.

Like hiring a real estate agent to buy a house, working with an acquisitions attorney can allow you to maintain a positive relationship with your soon-to-be-former partner while these third parties haggle over the details.

—Meredith Wood, editor-in-chief, Fundera

But if you and your partner aren't currently on the best of terms, it can be all the more important that you start the buyout conversation with a positive tone. Angering your partner or putting them on the defensive will only lead to a bitter and more drawn-out breakup—and may even cost you more money. Avoid the temptation to bring up past disagreements or assign blame. Instead, focus on a path forward that will work well for all involved.

Once you and your partner are in agreement about moving on from the current partnership, you're ready to bring in attorneys from both sides to negotiate a path forward.

3. Order an independent business valuation.

To get an objective idea of what the business is worth and to make sure buying out your partner will be a good long-term investment, consider bringing on an independent valuation firm to perform a formal business evaluation.

In this process, the firm generally will estimate expected profits for the foreseeable future, then discount that projection by the expected rate of return. This independent valuation will offer a starting point to negotiate a fair price for your partnership buyout.

4. Don't get too hung up on valuation.

While the business valuation is important, it's by no means an exact science. Outside factors like your business partner's personal connections or expertise could impact the company's future value once he or she is out of the picture.

Of course, in the ongoing dance of a business valuation, the partner buying out often wants to assign a lower value to the business, while the partner being bought out generally seeks a higher value. Getting too hung up on this discussion can easily turn your buyout into a battle, and it's almost never worth the money saved. In many cases, buyers can be better off agreeing to a slightly higher price—both to keep the process moving forward agreeably and to boost the company's long-term equity value.

5. Consider your financing options.

Depending on the value of your business, buying out a partner can come with a significant upfront cost that you won't necessarily be able to pay out of pocket. Unfortunately, because the money spent on buying out a partner generally won't directly—or immediately, at least—boost your company's profit potential, buyers who seek a small-business loan for this purpose often find these funds harder to come by than they might expect.

While some buyers will seek a specific business-acquisition loan or even take out a second mortgage to finance their buyout, most find that self-financing is the best available option. In this scenario, you pay your exiting partner over time as if he or she were the lender. Of course, this option will require both a rock-solid buyout agreement—and, if your relationship with your partner has turned toxic, they likely won't be inclined to agree. This predicament shows why it's so critical to keep negotiations as amicable as you possibly can.

6. Overlook partnership buyout alternatives.

Before you move forward with buying out a partner, don't forget to consider alternative options. Particularly if the business valuation comes back lower than you expected—or if you find that your financing options for a buyout are limited—you may be better off simply dissolving the partnership and starting anew.

If you're determined to continue with the current business, but your partner has lost interest, you could also consider changing the weighting in the partnership agreement. This would allow you to retain primary control of the company's decisions, finances and liabilities without the upfront cost of buying out your partner completely.

As long as you and your partner had a well-written partnership agreement from the outset, you may have several different options available. Your acquisitions attorney can help you decide what the best path forward should be.

7. Carefully complete all official paperwork and processes.

Once you've set a path forward and agreed to the terms, all that remains is to make things official. Your acquisitions attorney can draft the agreement and necessary paperwork to release your former partner from liability, as well as help you to file the appropriate documents with local, state and federal authorities.

From there, you may want to consult with your accountant to make sure that all financial accounts are transferred out of your partner's name. And just as you would when letting go of an employee, it's a good idea to reset passwords for online logins, change the locks on your office or warehouse facility and politely inform close vendors and customers of the change in the relationship.

Ideally, you and your partner will reach an agreement that is in the best interest of everyone involved. If your partner takes a less than professional tone—or even becomes downright hostile—do everything you can to keep things as civil as possible. Ending a partnership is not unlike a divorce, so it's natural for sensitivities to come up. But the more positively and professionally you can remain, the more quickly and easily you may be able to complete the buyout process and get back to building your business.

Photo: iStock
The information contained in this article is for generalized informational and educational purposes only and is not designed to substitute for, or replace, a professional opinion about any particular business or situation or judgment about the risks or appropriateness of any financial or business strategy or approach for any specific business or situation. THIS ARTICLE IS NOT A SUBSTITUTE FOR PROFESSIONAL ADVICE. The views and opinions expressed in authored articles on OPEN Forum represent the opinion of their author and do not necessarily represent the views, opinions and/or judgments of American Express Company or any of its affiliates, subsidiaries or divisions (including, without limitation, American Express OPEN). American Express makes no representation as to, and is not responsible for, the accuracy, timeliness, completeness or reliability of any opinion, advice or statement made in this article.
Head of Content and Editor-in-Chief, Fundera