It's a classic scenario: Two partners start a business in
their basement, convinced they've formed the ultimate team. As
it turns out, they're right. Very quickly, the business grows,
staff is hired and moves into spacious downtown offices. Following
their lawyer's judicious counsel, the partners draw up a
shareholders' agreement. And then, for one reason or another,
one of the associates decides to leave the business to "pursue
new challenges". This departure triggers the buy-sell
provision of the shareholders' agreement. This is where the
exiting party realizes that the value of the shares had not been
clearly established in the agreement. Litigation time!
Because it's a way to share risk, going into business with
one or more associates is a formula that appeals to no fewer than
37.8% of young up-and-coming Québec entrepreneurs, according
to the Fondation de l'entrepreneurship's 2014
Québec Business Index. That's almost as many as those
who want to go into business alone.
Yet Catherine Tremblay, a Partner in Business Valuations and
Litigation Support with accounting firm MNP, warns, "New
business partnerships are like weddings. People rarely plan for
But partnerships can go south. Even if the separation is an
amicable one, things can quickly sour when, for example, the terms
of the buy-sell provision of the share capital are poorly
This is the sort of situation that a shareholders' agreement
– a crucial document for partners going into business
together – can prevent. But how do you draw one up so that
Every business is unique
Surprisingly, many business people do not see the point of
having a shareholders' agreement in place when they first set
up shop. "Let's be honest," says Catherine Tremblay,
"this is a legal document no one feels like writing. When
you're starting out, with no real value to protect, its use is
not immediately apparent. However, when the business starts to take
off, the partners realize that they need to protect
When writing up a shareholders' agreement, Ms. Tremblay
encourages partners to be wary of templates and
"standard" forms that can be found just about anywhere.
"Every business has its own particular characteristics,"
she explains. "You have to take into account the various
situations that might arise and really think through the formula to
be used to establish share value."
For example, a common valuation formula consists of using a
multiple of four times the earnings before interest, tax,
depreciation and amortization (EBITDA). Yet this multiple may not
apply to some businesses – for example technology companies
that are not yet generating huge profits, but have developed a
technology that is unique in the world.
Fair market value
Some shareholders' agreements include a shareholder's
option to sell shares at their book value rather than fair market
value. Careful! In some cases, there's a world of difference
between these two concepts.
Book value is the net value of the business as indicated on the
balance sheet. It does not take into account intangible assets or
capital gains on certain properties. Thus if the company acquired a
building 10 years ago, the rise in value of this real estate will
not be included in the book value.
Contrary to fair market value, book value also ignores the value
of patents, long-term contracts or goodwill (patronage of a retail
business, for example).
"This is why we generally recommend that the share value be
established according to its fair market value as determined by an
Business valuation: a good habit to get into
"This brings us to a commonly misunderstood concept, that
of business valuation. We recommend that people get a company
appraisal when signing the shareholders' agreement to test the
valuation formula included in the buy-sell provision, and it should
be reappraised periodically."
While not necessarily an annual exercise, the
"periodical" valuation could be done, for example, when
the company reaches certain stages of development, such as the
arrival of a new partner, the first million dollar sales mark,
In addition to being a powerful firewall against potential
disputes, a professional business valuation is a tool shareholders
can use to measure their progress thus far.
Departure without dispute
A clear shareholders' agreement, an up-to-date appraisal, a
share valuation consistent with the nature of the business –
these details will ensure that a partner who wishes to "take
on new challenges" can do so without going to court.
Under the Income Tax Act, the Employment Insurance Act, and the Excise Tax Act, a director of a corporation is jointly and severally liable for a corporation's failure to deduct and remit source deductions or GST.
While most are well aware that the sale of a business is generally a complex process, even sophisticated business owners are surprised by just how much cost and effort is required to complete the sale.
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