Broker Check


Episode 46: The Angels & Demons of Business Transition

In this episode of the Family Business Show, host Michael Palumbos, from Family Wealth and Legacy in Rochester, New York, delves into the complexities of buy-sell agreements with expert guests Michael Robinson and Michael Paiva. The discussion illuminates the multifaceted nature of these agreements, particularly focusing on business valuation and the various triggering events that necessitate action.

Michael Robinson, a local attorney with a deep understanding of family-owned businesses, emphasizes the need for clear communication and well-laid plans to prevent the deterioration of relationships during transitions. On the other hand, Michael Paiva, an attorney with experience north of the border, sheds light on the litigation side, illustrating how poorly designed agreements can lead to disputes.

The conversation navigates through the essential steps of creating a buy-sell agreement, such as identifying parties, deciding the sale type, determining business valuation, considering taxes, outlining triggering events, choosing the agreement type, and figuring out funding mechanisms. The experts underscore the importance of regular reviews and updates to these agreements, reflecting changes in the business or personal circumstances of the stakeholders.

Key takeaways include the necessity of defining the valuation process, considering both objective and subjective factors, and ensuring the agreement's funding is solid and practical. The episode serves as a comprehensive guide for business owners, encouraging them to view buy-sell agreements as dynamic tools that require attention and revision to remain effective and relevant.

Episode 46 Transcript


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Michael Palumbos: Welcome everybody to the family business show I am your host Michael Columbus with family wealth and legacy in Rochester New York we're really excited to have you all here, we are going to be talking about the.

 

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Michael Palumbos: Would we say the angels and demons of business transfer agreements today so buy sell agreements.

 

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Michael Palumbos: We are really excited because we have Michael Robinson from right here in Rochester New York who's done a lot of work with family owned businesses and Michael paver an attorney up north of the border from us.

 

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Michael Palumbos: And so it's really unique to have you know, two attorneys on at the same time, and the reason why i'm excited about this is because you know what we discovered when we did our pre show call is that.

 

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Michael Palumbos: You know, Michael paver would typically be the Attorney that would be hired by a disgruntled family member or a disgruntled you know.

 

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Michael Palumbos: You know the person on the buy sell agreement.

 

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Michael Palumbos: And so, he wouldn't be you know going into court to help them attack the buy sell agreement help them get.

 

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Michael Palumbos: You know the best settlement, they could when Michael Robinson is, on the other side of the fence, where you know, he would help the fit you know the family members or the business partners.

 

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Michael Palumbos: You know design the buy sell agreement so we're going to kind of just have some fun today and I, you know talked about it from both sides of the fence, and I think it'll be an interesting conversation.

 

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Michael Palumbos: If you have a buy sell agreement now you know after you listen to the show and then definitely jump on and read your buy sell agreement.

 

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Michael Palumbos: or give myself or Michael Robinson and Michael Pave a phone call if you up in Canada and.

 

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Michael Palumbos: You might which might be time for a review after you hear some of this stuff so as we traditionally do I am going to have each of you.

 

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Michael Palumbos: Introduce yourselves and just talk about the journey in terms of you know, most people didn't start out.

 

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Michael Palumbos: Working with family owned businesses, most people you know might not have always been in you know, working with business owners when it comes to you know the the legal world so Michael Robinson, if you wouldn't, mind you know diving in and telling us how you got here today.

 

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Michael Robinson: yeah hey Michael Thank you so you know, for me the journey really began as a natural outgrowth of my estate planning practice because.

 

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Michael Robinson: As I was helping families settle out estates it after, particularly after a death, it became very clear to me that, when there was a family business involved.

 

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Michael Robinson: It was a whole other world, but it was a world that was integrate integrally related to the overall estate plan and specifically.

 

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Michael Robinson: What I saw was the the distress the the decay of relationships that so often would occur.

 

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Michael Robinson: Because there was not clear communication in the family, because there was not a clear plan laid out as to what was going to happen with the business when the you know, the primary stakeholder died became incapacitated what have you.

 

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Michael Robinson: And so it just it was a natural outgrowth and something that I just find interesting.

 

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Michael Robinson: Is as a general matter so that's really how I got involved in business succession planning and and, as I say, it's you know when people own businesses, they own other things as well, so it's all an integrated part of a good estate plan.

 

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Michael Palumbos: Great appreciate it Michael paver.

 

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Michael Palumbos: Tell us about.

 

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Michael Paiva: Your journey yeah Good afternoon, so you know I started my career as a municipal lawyer dealing with expropriations or, as in the United States, I believe you call it eminent domain.

 

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Michael Paiva: And that obviously deals with the valuation of businesses or business losses and how.

 

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Michael Paiva: You know how compensation is to be paid out and so that kind of got me on this track of acting for people that were you know shareholders in small closely held small businesses.

 

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Michael Paiva: That you know we're being oppressed by the majority shareholders or you know wanted an exit whereas everyone else you know wanted to keep everything, as is.

 

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Michael Paiva: And so, from the municipal work, it was kind of a natural transition into working with you know business valuation accountants that.

 

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Michael Paiva: Were hired by myself and the clients within the context of a shareholder dispute so that's kind of how I got into you know shareholder litigation and other associated remedies.

 

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Michael Palumbos: love it again, thank you both for joining us today um you know is, as we talk about you know this whole idea of.

 

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Michael Palumbos: Designing I am not an attorney you know that's not what I do, but I did definitely just kind of like you know if you look at.

 

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Michael Palumbos: Thinking about the planning world from the same as the building world, there may be an architect who helps design.

 

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Michael Palumbos: This wonderful building, but they don't build the building, you know, and so we have spent many, many years learning how to design buy sell agreements or estate planning documents.

 

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Michael Palumbos: But when it's all done, you know we we take that design and bring it over to somebody like Michael Robinson, and hope that that you know, Michael or the Attorney that we're working with.

 

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Michael Palumbos: You know dots all the i's and cross all the t's so that an attorney like Michael pain, but doesn't come see us afterwards.

 

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Michael Palumbos: What I thought would be really you know real quick, I just want to hit you know what we look at as our seven step process for these things, and then we'll dive into the areas that we're going to be talking about today, but you know one.

 

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Michael Palumbos: You know, and feel free to you know jump in at any time, if you have some other thoughts, but what is identifying all the parties involved to is determining whether it's going to be, you know, a type of a sale, whether it be stocker asset.

 

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Michael Palumbos: Three would be how are we going to nail down that business valuation what is, you know how are we going to determine that.

 

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Michael Palumbos: What about taxes, you know what our tax is going to be a consideration as we're going through when we're doing these things, either from an estate perspective income or capital gains.

 

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Michael Palumbos: What are the triggering events for this buy sell agreement, so we understand all the different triggering events that are out there.

 

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Michael Palumbos: What type of agreement, are we going to utilize and, finally, are we going to fund that agreement, if so, how are we going to fund that agreement.

 

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Michael Palumbos: So I think for the you know the when we look at that process is there anything that I missed or that you would add to that as we're going through, you know that the whole process of designing the buy sell agreement.

 

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Michael Robinson: No i'm Mike Robinson here, no that's Michael that those are exactly the items that we want to be addressing.

 

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Michael Palumbos: Right, so today, you know what we said was let's tackle some of these things and just kind of play with them a little bit, and you know, the first one we're going to dive into is probably one of the biggest evaluation right.

 

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Michael Palumbos: And you know so Michael Michael pop paver would you walk us through maybe some of the do you have an example of a client that you've worked with no names or anything but just to talk about you know what was identified, and you know what what was the background on that case.

 

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Michael Paiva: Absolutely so obviously, to say the least valuation is a critical issue, and very often the material sticking point.

 

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Michael Paiva: between business owners and that's obviously no surprise now we're attorneys we're not accountants.

 

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Michael Paiva: In our trade, but we do work with accountants obviously an accountant or forensic accountant is the professional that that becomes involved when determining usually the the value of a business.

 

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Michael Paiva: You know so very often within the agreements, you might see a provision appointing a third party accountant that will weigh in and determine what the value of a business might be.

 

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Michael Paiva: important to know that the value of a business may not necessarily be the same thing as the value of individual shares.

 

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Michael Paiva: So the individual shares of an individual, that does not have voting rights or the individual shares of the individual that.

 

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Michael Paiva: You know isn't a key personnel in the business may not be viewed by a third party is as holding that same value.

 

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Michael Paiva: And so, this kind of leads into one case that I handled again i'm not going to reveal any particulars obviously.

 

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Michael Paiva: But I once acted for a group of majority shareholders that we're trying to oust an ex spouse.

 

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Michael Paiva: From the business and people often say that business disputes or the family or matrimonial matters within the corporate world, which is very true anyways this group of majority shareholders are trying to oust.

 

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Michael Paiva: His ex spouse they intended to sell their business actually to a private equity firm but the first step was they needed to get her out of the business.

 

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Michael Paiva: And so the shareholder agreement, obviously, was very basic it didn't really contemplate this scenario where you have an estranged ex spouse expose.

 

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Michael Paiva: You know, and what to do with their shares or how to value them, by the way, it's always sometimes some agreements actually have a have an equation or formula for setting out devaluation, you know, based on earning cetera, which is always an option but.

 

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Michael Palumbos: My jumping in real quick How did the ex spouse become a shareholder in the first place.

 

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Michael Paiva: yeah so she was obviously with one of the key personnel as a partner, married at the time, and so she kind of acted.

 

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Michael Paiva: In a you know bookkeeping role, maybe doing a little bit of HR for the business, but she wasn't key personnel in the sense that you know she wasn't arranging agreements and contracts and dealing with customers.

 

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Michael Paiva: And so, she she she was involved in that capacity, for I think five years.

 

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Michael Paiva: But because the agreement didn't speak devaluation, you know it didn't set out an equation for determining the value of her shares her shares were not class a series shares, you know in Ontario, we have to have class ABC so her her shares were non voting.

 

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Michael Paiva: So basically because the agreement didn't really set up the process for determining value, we were able to get a significant discount.

 

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Michael Paiva: On her shares by essentially arguing that look this third party private equity firm doesn't really view your shares or wouldn't view your shares as being as valuable as.

 

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Michael Paiva: The shares of the key personnel that actually held the business relationships that actually dealt with customers, you know routinely that actually it was a.

 

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Michael Paiva: It was a trade a trade of sorts of trade, business so is you know they were obviously schooled and that trade and held the the key relationships so because.

 

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Michael Paiva: You know the shareholder agreement didn't really speak to valuation we were able to get a discount on her shares, you know, had there been a strict equation, for all of the.

 

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Michael Paiva: All of the shares the business and how they would be valued than we would have been you know restricted and she might have and this minority shareholder might have been more protected.

 

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Michael Paiva: So you know that's one example where because the remington speak devaluation, we were able to get a discount on our shares and.

 

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Michael Paiva: yeah.

 

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Michael Paiva: Not all shares are equal and and there's a difference between valuing the assets of a business and the shares of a business.

 

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Michael Paiva: forensic accountant will tell you that it's not necessarily the same.

 

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Michael Palumbos: love it now and that's that's a great example Michael Robinson, you know if you're dealing with these this group of owners, what are some of the things you're you know advising to help them think through the one is when it comes to business valuation.

 

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Michael Robinson: yeah and that you know it's it's funny as I was listening to Michael talk, one of the things that occurred to me is that is so often, and this is true, with I guess any form of planning you gotta start with the right questions.

 

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Michael Robinson: And then that's going to inform the rest of the process, so you know when we talk about establishing a value for the business.

 

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Michael Robinson: First of all the stakeholders need to agree on what kind of valuation are we going to have and that of course is going to depend somewhat on just what are the intentions with respect to the business is it.

 

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Michael Robinson: You know, is it a closely held business among people who may be their friends, but primarily their business partners is it a closely held business comprised of family members and there's going to be.

 

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Michael Robinson: You know, some intention of ideally keeping the business in the family so so you know, one of the things I always start out with is going to be a fair market value.

 

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Michael Robinson: liquidation value investment value what approach is the expert going to take, we want somebody doing an income based approach or a market based approach you know those are those.

 

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Michael Robinson: It may sound esoteric, but it has real impact on on the on the the stakeholders involved, so what type of valuation are we going to have.

 

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Michael Robinson: You know, to Michael pavers point.

 

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Michael Robinson: How are we going to value the individual interest will discounts for lack of transfer ability, etc.

 

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Michael Robinson: Are those going to be recognized, or are they not going to be recognized again that's going to be a conversation that the stakeholders need.

 

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Michael Robinson: need to have who's going to choose the person who does the valuations And what if there's a disagreement.

 

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Michael Robinson: On the on the result of the valuation how often you're going to do them, you know you do on one side of the business is going to change over time, hopefully it's going to increase in value over time so.

 

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Michael Robinson: All of these things need to be talked about and agreed upon ahead of time and.

 

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Michael Robinson: You know that doesn't necessarily mean when I know we're going to talk about trigger events when somebody leaves the the business.

 

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Michael Robinson: That it's going to be happy, but at least it's going to be clear as to how it's going to work everybody knows up front and, ideally, it will eliminate Michael I don't mean to take business away, but hopefully it it removes the litigation factor, or at least minimises it.

 

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Michael Palumbos: Of course I love it and you know, one of the things that we'd like to talk about when we're dealing with business owners, is that.

 

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Michael Palumbos: there's the potential that the business could be infinite.

 

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Michael Palumbos: It could go on for generations, it could supersede each and every person that's running the business today, you know that's kind of.

 

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Michael Palumbos: Many people you know they think of it as their legacy and that's what their hope hope for maybe it turns Aesop so there's always you know, a way down the road.

 

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Michael Palumbos: But the one thing that people forget is that human beings are finite and, and so this will end.

 

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Michael Palumbos: Every you know, and I think that you know a good friend of mine always said when you're teaching your kids when you're talking to people if there's something that sounds.

 

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Michael Palumbos: You know a little out there you got to ask them how is this end.

 

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Michael Palumbos: And that's really what we're doing you know with this business agreement and when we're starting business or we're getting into business we're all excited about it and it's you know the.

 

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Michael Palumbos: The Attorney who's our buddy that helped us with our real estate closings maybe the Attorney that we go to.

 

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Michael Palumbos: To do you know hey you know we heard, we need one of these buy sell agreements wanted to zap one together for us and they grabbed the boilerplate.

 

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Michael Palumbos: and put it together and now everybody signs it and they have it, but they didn't ever have the discussion right, and I think that's what you're getting to Michael is.

 

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Michael Palumbos: You know what are the questions, how does this going to end what if this ends and it's so much easier when we're excited about and everything's on good terms, to have a logical.

 

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Michael Palumbos: You know conversation about these things right when you, you know, Michael page, but when you look at the other people's buy sell agreements.

 

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Michael Palumbos: What would you say you know from evaluation standpoint, what do you see most often.

 

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Michael Palumbos: You know if you had to pick yeah I know you see everything but is there is there a basic you know the template and document says, where you see X, you know how you're going to value the business over and over again.

 

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Michael Paiva: To be honest, Michael I see so many agreements that don't even address the point which is if our viewers can take anything away from today it's please.

 

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Michael Paiva: Make sure evaluation question is addressed explicitly and expressly Mr Robinson had some great points on what what to be considered, but usually, when there is a valuation equation in the agreement, Michael.

 

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Michael Paiva: A lot of times, it says that valuation questions are supposed to be resolved first by mediation, or in the alternative if mediation fails arbitration which here in Ontario arbitration and mediation are very.

 

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Michael Paiva: Well they're much cheaper and much more streamlined and quicker than the the fundamental court process.

 

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Michael Paiva: So, very often, that will be addressed, and the other thing that I do see when I when we have an agreement that addresses valuation is.

 

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Michael Paiva: You know, a statement as to who were which professional will weigh in so very often it is the the business accountant.

 

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Michael Paiva: But it's trusted by all parties that that knows the business inside and out that will be designated as the individual that's supposed to determine, you know the valuation of engine individual shares.

 

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Michael Paiva: Other agreements there's an actual equation, as to how the business will be valued.

 

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Michael Paiva: Which doesn't necessarily mean that the parties are going to accept that or agree to it if later on, they think well i'm being unfairly.

 

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Michael Paiva: prejudice or i'm being unfairly targeted, you know as a minority shareholder they may actually push back on.

 

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Michael Paiva: On that equation, but those are the things I see designating the professional mediation arbitration to determine and the other thing I see is an equation a metric by which you know the parties agree to how it will be valued gotcha.

 

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Michael Robinson: and Michael to Michael pay this point the it is so important to have an objective professional do the valuation.

 

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Michael Robinson: You know, when people begin a business, they have emotional investment in that in that enterprise and it's difficult to be objective oftentimes and into it could be an issue you're very good at at what the business does, but that doesn't mean you're you're a business valuation expert.

 

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Michael Robinson: So just having that objective.

 

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Michael Robinson: You know, assessment of the businesses value is absolutely critical, you may choose to allow subjective factors to come into play, later on, especially if it's a family enterprise.

 

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Michael Robinson: But you need to have that objective starting point, so you can decide whether to allow subjective matters to be considered and, if so, how great.

 

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Michael Palumbos: You know, one of the things when we were together before we talked about you know when you see people utilizing the term book value as the valuation of you know, the process or you know of the of the business Michael Robinson, do you want to.

 

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Michael Palumbos: Take a you know just what are some of the issues with just utilizing book value in it, and I do think there's probably a time like you know if you've got a start up and there's there's real no really no value of the business at that point right but.

 

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Michael Robinson: Sure sure and you're right, and you know the the type of valuation that you do may evolve over time and again, needs to be revisited periodically by the stakeholders, but, but you know, as you say, if it's a startup.

 

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Michael Robinson: I mean that's really All there is is book value realistically and so you know assess the assets and.

 

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Michael Robinson: And there you go, but for a going concern book value is unless the intent is when one of the triggering events happens the business is going to be sold or just liquidated, I should say book value is interesting, but I don't find it terribly helpful for the most part.

 

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Michael Robinson: You know if it's going to be a going concern you want to value it as a going concern because that's what reflects the true value of the enterprise.

 

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Michael Palumbos: Michael paver any comments to that as well.

 

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Michael Paiva: Absolutely, I think that's a very good point Michael I mean business valuation is an art, it is not a science, despite working with numbers that are objectively in existence.

 

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Michael Paiva: is very good forensic accountants can look at the same data and come up with a very, very different conclusion on on valuation.

 

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Michael Paiva: So that would be my point.

 

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Michael Palumbos: yeah no, I think I want to jump on what you just said there and add to that a little bit is business valuation you need to think about it as a spectrum.

 

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Michael Palumbos: If i'm giving my business to my next generation children, I mean from a gift standpoint I want that gift to be as small as possible, so i'm not you know, using up my gift tax, you know that I have you know.

 

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Michael Palumbos: Given my you know available if i'm selling too.

 

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Michael Palumbos: Much it to an Aesop and I want my employees to really get the value out of the business i've taken everything I need out of the business, it might be different than if I need if i'm selling selling to a nice up and I haven't in this is my retirement plan.

 

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Michael Palumbos: And the same thing I would think goes for management buyouts when you start moving into selling to a third party to an outsider.

 

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Michael Palumbos: Now it's you know what is what is a willing buyer willing seller agreeing to right I think it's that you that arm's length agreement.

 

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Michael Palumbos: And then, when you start moving into that m&a world or investment banking world.

 

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Michael Palumbos: You might be hoping and looking for you know, like a private equity group, where you might have the second bite of an apple where you're only selling 80% of your business and you're keeping it as a going concern and you're there.

 

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Michael Palumbos: You might find synergistic value where somebody says my you know company a and your company be.

 

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Michael Palumbos: Actually equals more than the sum of them separately and so i'm willing to pay more than anybody else's because of that, and so you know we thinking about these things.

 

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Michael Palumbos: In advance really makes a big difference which goes back to why right the business valuation is an art form as much as you know, there's the science to it.

 

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Michael Palumbos: um you one more thing and book value and then I want to yeah i'll open back up again, I apologize, but he just it The other thing that struck me is.

 

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Michael Palumbos: You may have book value it, you know, because you check the box to get your buy sell agreement when i'm going into business or.

 

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Michael Palumbos: You know i'm in business for three to four years in an advisor says where's your you know buy sell agreement and i've just checked the box.

 

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Michael Palumbos: And I think it's a lot like a home mortgage if interest rates continue to drop drop drop drop you really have to think about should I refinance my house, you know my mortgage is it worth, am I going to save on doing that and with a going business concern.

 

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Michael Palumbos: It would be the same thing it's you know every three to five years at a minimum I may you know sit down with my partners sit down with my advisor.

 

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Michael Palumbos: And, as you know, Michael Robinson, as you said, I need to have the right questions asked to me at that point, because what i'm thinking today could be different, Michael Robinson any thing to add.

 

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Michael Robinson: No, I think that's that's exactly correct and I actually did want to just piggyback on one other thing that you mentioned that I know we're not into.

 

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Michael Robinson: You know we're not we don't want to get in the weeds on taxes, but is we kind of acknowledged at the outset.

 

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Michael Robinson: You know, when people own a business they know they own other things to their you know it's not just the business.

 

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Michael Robinson: And another reason that you want to understand the value of your interest in the business is because it is going to impact your other planning, not only from a tax standpoint.

 

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Michael Robinson: But how are you treating again if it's a family situation, how are you treating family members who may not be involved in the business, you need to have that value information in order to make those kinds of decisions sure.

 

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Michael Palumbos: love that yeah real quick, one of the things that you know we do we as business coaches, we want to help them not just protect the business that we want to help them actually grow the business.

 

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Michael Palumbos: And so that with that leads to a whole nother discussion should we be growing the value of the business inside your state or outside of your state that's yeah.

 

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Michael Palumbos: um so let's you know there's a ton around valuation we could probably do the whole show on evaluation, but let's I want to talk about.

 

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Michael Palumbos: triggering events and there is a number of different triggering events, and I think you know, some people call them what are they the the the seven days or the eight DS or you know there's there I think other people might even you know pick more so.

 

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Michael Palumbos: Michael Robinson why don't you give us three or four of the triggering events Michael paid if we picked up between the two of us and see if we can't hit some of the other definitions of trigger events.

 

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Michael Robinson: Sure, so you know death is is one of the most common triggering events that the bias cell is going to to address one that I do see overlooked.

 

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Michael Robinson: But is related is what about incapacity or disability and that's going to depend on a number of factors in terms of is someone actively involved in the business or just a financial stakeholder.

 

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Michael Robinson: One of the ones that I also see overlooked and Michael paver brought it up in his his case study, what happens if there's a divorce.

 

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Michael Robinson: Among parties and so that needs to be to be addressed, what if somebody just wants out, you know, can they do that if so, how does that work, those are Those are just some of the factors that we would want to be addressing great.

 

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Michael Palumbos: Michael paver I think that there's some other some people might say esoteric you know.

 

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Michael Palumbos: triggering events do you want to add to some of the ones that Michael Robinson came up with.

 

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Michael Paiva: One i've been dealing with right lately is just quite simply retirement and just wanting out I think that's so basic, but if you actually create a lot of problems.

 

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Michael Paiva: Especially when the evaluation, not to go back to valuation, but when the valuation of the assets, has just skyrocketed and then okay i'm good now I should be able to sell my steak.

 

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Michael Paiva: You know I don't want to be bothered with this anymore i'm 60 years old, I can make a few million here on on an accent so really, I think, think about retirement, think about.

 

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Michael Paiva: You know what what what what is a valid way to exit the business and his retirement even valid or not.

 

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Michael Paiva: The other parties may not be able to even afford to buy you out just because the valuation has skyrocketed thinking of a you know other client file where that.

 

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Michael Paiva: You know this company owned a good sized residents that was converted into a restaurant in Toronto.

 

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Michael Paiva: Okay Toronto real estate prices are absolutely insane and have been for 10 years and all of a sudden this couple million dollar investments were $6 million.

 

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Michael Paiva: And they wanted out quite simply they wanted to just cash out and retire, the other two partners wouldn't go along with it, they held the majority stake so really it's when is it permissible for someone to exit the business and retire or not.

 

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Michael Paiva: If it's not then, how do you deal with it.

 

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Michael Palumbos: Right, so you know some of those trigger events that you just hit on I think you might call them disagreement we you know we have a disagreement about things, and how are we going to.

 

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Michael Palumbos: Do that what, if you want it, I think about the case study that you said earlier, Michael And what if they wanted to terminate that person versus they were selling the business, you know.

 

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Michael Palumbos: And, and I think that's a really good point is, you know you get that unsolicited offer for your business and it's bigger than anybody thinks about and you've got that one holdout partner.

 

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Michael Palumbos: And we, you know we don't have that you have that agreement any, you know as we're talking about triggering events Michael paver.

 

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Michael Palumbos: Is there any case studies already you know, an example of a company that you know.

 

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Michael Palumbos: The the trigger event was really the sticking point as you're going through you know the case.

 

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Michael Paiva: Well, absolutely I mean we had dealt with a case where quite simply our client had worked for this family run closely held business, for I think 2030 years he's in his mid 60s, he had you know saved his money along the way, he was ready to exit okay and.

 

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Michael Paiva: You know, it was a minority shareholder not C suite executive not achieve anything but you know, a relatively upper management style position.

 

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Michael Paiva: You know, on paper, he didn't hold that much leverage, you know so eventually we had to commence litigation, because this the company wanted to merge with another another.

 

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Michael Paiva: related party.

 

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Michael Paiva: You know, in their in their area of business and my guy wanted out and.

 

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Michael Paiva: So, essentially, you know the shareholders took the position that well we don't care if you want to retire we're trying to merge and you're not going to screw this up for us, because that would be unfair to the other shareholders and so you know.

 

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Michael Paiva: Eventually, the resolution contemplated terminating his employment paying severance and paying out his shares so that was the ultimate resolution but.

 

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Michael Paiva: yeah I you know the triggering event of retirement or just wanting out is is probably the one of the trickier wants to deal with.

 

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Michael Paiva: As opposed to say you know disability or in capacity in capacity or you know so.

 

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Michael Palumbos: Sure, Michael Robinson when you're you know thinking about you know these triggering events.

 

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Michael Palumbos: I want to go back to I love that you know what you said, the right questions, what are some of the questions that you're asking clients to help them think through you know when somebody wants out or death or disability or just as a guest green that what are some of those questions.

 

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Michael Robinson: Sure, so you know, one of them is sort of the overall big question is just what is your vision for the business.

 

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Michael Robinson: and make sure that there's alignment there because is Michael paper was just saying you know, some people may view it as a retirement plan others may view it as an ongoing income generator that they might pass on.

 

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Michael Robinson: You know, to others so just what's the what's the vision, secondly and related who do you want to work with and and maybe more importantly, who do you not want to work with.

 

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Michael Robinson: You know so so we want to make sure that that the right people and by the right people I mean from the perspective of the stakeholders that the right people are going to remain involved in the in the business.

 

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Michael Robinson: Are all stakeholders, going to be treated the same way when various triggering events occur, maybe, maybe not you know, especially if you have people with.

 

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Michael Robinson: Different differing ownership interest you have majority stakeholders minority stakeholders How does that you know how do you view that, because that that can be interesting.

 

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Michael Robinson: So you know Those are some of the basic questions, but the key is to have the conversations before everybody commits and not you know when somebody turned 70 years old and decides that they want out of the business.

 

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yeah.

 

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Michael Palumbos: And I think as you're going through and looking at these triggering events there's you know option A, B or see in many of these scenarios, you know if I want to retire at the age of you know 40 because I won the lottery.

 

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Michael Palumbos: But i'm still trying to get full share, you know value of my shares and is that going to be putting you know undoing you know undue stress on the on the business.

 

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Michael Palumbos: or my you know my my wife wants to move, and you know we're you know, making that change and so we're doing that early.

 

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Michael Palumbos: versus I put in 35 years in the business and now i'm 65 years old, and you know, and I want to retire and I deserve to be able to retire, but you know just because you don't have the well thought out plan to say how are we going to do this, is that really on me to do that.

 

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Michael Palumbos: You talking to Michael payment, we talked about you know the disagreement piece wanna you know there's when those things happen.

 

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Michael Palumbos: You know and Michael Robinson, you probably have you know some things that you're going to want to add to this, but what do you do what you know what do you put into the document, how do you, you know when you have somebody that's disagreeing.

 

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Michael Palumbos: How do you address that in advance how do you think about those things.

 

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Michael Paiva: All the time just even having a dispute resolution.

 

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Michael Paiva: clause is really important, so you can have something that says look if there's a dispute about evaluation or there's a dispute about someone's exit.

 

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Michael Paiva: You know, this is the process that we're going to follow to resolve it so we're going to mediate the issue if we can't resolve it by mediation then we're going to arbitrate the issue.

 

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Michael Paiva: And so you can really sat out the process for dispute resolution with with great particularities.

 

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Michael Paiva: who's going to pay legal fees, you know or the party is going to bear their own costs.

 

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Michael Paiva: Who will be the decision maker, you know what mediator us who will be the professional accountant will will each side of their own accountant or will there be a neutral third party one account to save money, as opposed to paying to to help you know resolve the issue.

 

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Michael Paiva: So really having a dispute dispute mechanism is is a great way to at least address what happens then usually the cause will say something fag like Oh, the parties agree to negotiate in good faith.

 

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Michael Paiva: As we know, when money's at play saying you know Okay, we agree with negotiate in good faith it's really quite mean meaningless at the end of the day.

 

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Michael Paiva: But what you don't want to do is, if you can avoid it do not leave the decision making to someone, that is, a court because you'll likely both sides will likely feel disappointed at the end of the day.

 

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Michael Robinson: Great yeah and I would agree with what Michael Pavan just said, it is so important to have a clear and specific method for.

 

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Michael Robinson: for dealing with disputes that arise, you know it, certainly in the drafting component you try to address as much of that, as you can.

 

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Michael Robinson: And and and eliminate opportunities for disagreements, but.

 

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Michael Robinson: You can't anticipate everything and I, you know i'm reminded of the saying you know no man or woman steps into the same river twice because it's not the same river and they're not the same man or woman.

 

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Michael Robinson: things change and and people circumstances change so as much as we try to identify in in take care of those things up front, a clear dispute resolution process is is critical.

 

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Michael Palumbos: Great there's there's some phrases when in the buy sell world that I, you know people might not be familiar with, I think they'd be worth talking about but.

 

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Michael Palumbos: i'm just trying to think that a Russian roulette inside of the business agreement or you can you can talk about some of those at all.

 

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Michael Palumbos: It says i'm making Sydney I.

 

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Michael Palumbos: Am I making sense to you and my cat yet catching that it's kind of like I think there's you know when it comes to the value of the business.

 

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Michael Palumbos: You know if there's a disagreement, how do we, you know settle the disagreement, other than arbitration I think there's some clauses that have been put into buy sell agreements to just outline to say.

 

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Michael Palumbos: You know, if you want to leave that's great you set the price, but I get to decide whether i'm a buyer or seller.

 

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Michael Palumbos: That ring a bell to either of you ever or is that just something that.

 

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Michael Paiva: yeah I mean you've got shotgun clauses you've got piggyback clauses you've got dragged along clauses and just important to note, just because you want out doesn't mean that you can necessarily prejudice the other shareholders.

 

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Michael Paiva: very fundamental point, like you, don't have all the rights in the world, just because you simply want out as a as a minority shareholder as a one third shareholder like you can't screw over the business, especially if your key personnel.

 

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Michael Paiva: But yeah you can of course have rights of first.

 

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Michael Paiva: refusal to the first offer the shares to the partners, you can have any share transfer conditional on the approval of all other shareholders, so that you don't bring someone into the business that you don't want to be partners with.

 

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Michael Paiva: So yeah there's lots of different ways, you can draft draft.

 

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Michael Paiva: Draft that up in the agreement, I don't know Mr Robinson, if what you put into your agreements, beyond that, but.

 

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Michael Robinson: No, I mean I think that's just exactly right it's all part of the, how do you want it to work, and you know, think of all the bad stuff that can happen and hope that it doesn't but make sure you've addressed it.

 

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Michael Palumbos: Great um what happens, you know, in a termination kind of in a situation somebody terminated for cause, you know they you know, have done something that ruin, you know hurts the reputation of the business.

 

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Michael Palumbos: How do you address you know Should I be Should I be buying that partner out for full value is there, you know what are some of the conversations around that type of what if.

 

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Michael Robinson: Sure, know that you know malfeasance miss seasons, you know yeah that That certainly is something that should be addressed in the agreement, and is, you know, Michael Columbus, as you just said, well.

 

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Michael Robinson: Assuming that the criteria for removing somebody are met, what is the monetary result is there, do they suffer some kind of the of a discount because of what they did or did not do.

 

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Michael Robinson: Those you know those things come up and it's unfortunate but it happens and the parties need to think about that.

 

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Michael Paiva: And that's a good point, and you know you've got the employment question which is you know what is the any employment compensation knowing you know, for a long time employee, but you know that doesn't necessarily mean that their share value or their share interest.

 

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Michael Paiva: necessarily takes a hit as a result, maybe in the situation where you're malfeasance or miss seasons, then I can see, maybe.

 

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Michael Paiva: You know, a discount to shares being applied, but just to be clear, there are two questions it's one, what is the employment compensation knowing and what is the share compensation only and the two aren't aren't the same, but they can definitely overlap.

 

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Michael Palumbos: Great um I think you know some of the other things, to think about is you know, on these triggering events and I, you know, again, we could get lost in the weeds on the on all of this stuff there's you know tons of places to go, but it, you know inside of there is to be thinking about.

 

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Michael Palumbos: What are the terms you know if somebody owns 30% of the company and you've got a $10 million company, whereas the company now coming up with the $3 million, and what are the terms.

 

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Michael Palumbos: And what is the impact that that's going to have on the company, which you know it's going to go into our our funding in a second that's so I i'll i'll save that save some more of that there um.

 

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Michael Palumbos: But i'm looking for you looking forward to that what obviously i'm disability, I want to hit that real quick Michael Robinson disability.

 

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Michael Palumbos: And a C corp if it's not covered in the buy sell agreement, are there any you know issues that can come up for the business, you know when you don't have that covered.

 

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Michael Robinson: yeah it, it will depend, to a significant degree on what is this stakeholders involvement so once again, are they simply a part owner.

 

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Michael Robinson: And and they're otherwise passive with respect to their involvement, or they are they an employee.

 

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Michael Robinson: Of the company, so if that's a tricky one it, you know, certainly, you want to identify what is what is incapacity mean it's not just physical and capacity it.

 

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Michael Robinson: it's something that prohibits somebody from being able to do their job properly in to be contributing to you know, to the enterprise properly so once again just defining the term.

 

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Michael Robinson: In terms of is it a triggering event or not, and that is, you know as Michael paver was saying two very different considerations, one is if they're an employee.

 

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Michael Robinson: What does that do to their position you know they may have to be removed, but they may not be at all impacted in terms of their ownership interest.

 

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Michael Palumbos: Right yeah because you're treated differently if you're working there the C corporation, you know if it continues your salary.

 

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Michael Palumbos: If you're not working there any longer know you've got a whole different issue so there's.

 

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Michael Palumbos: You know these buy sell things, even though we're talking buy sell agreement, you also have to look at it from an employment standpoint, because more often than not, in this small to medium sized business the owners are employees and taking a salary from the business as well.

 

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Michael Paiva: You know if you've got your disabled partner that's the main rainmaker sure, and then the company can't really operate without that disabled partner.

 

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Michael Paiva: You know, is it practical to be paid full pop your to pay out for the other shareholders to pay out full pot for the rainmakers interest it's just impractical sometimes.

 

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Michael Paiva: Right so you've got to have a mechanism for resolving not set out, you know.

 

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Michael Palumbos: that's and now you're going right back into you know funding of all of these triggering events so let's you know let's talk about funding for a second.

 

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Michael Palumbos: Who wants to jump on there and talk about.

 

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Michael Palumbos: Some of the ways that we fund, you know, an agreement.

 

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Michael Palumbos: Michael Robert.

 

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Michael Robinson: yeah I was just gonna say Michael the whole funding piece it's so basic, but it is so often overlooked.

 

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Michael Robinson: You know, but the reality is if you're going to have a buy sell agreement that creates obligations of some sort how you going to fund those obligations, and you know, I know, in many instances life insurance is utilized as a as a tool to create some liquidity.

 

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Michael Robinson: That works if the triggering event is the death of someone but otherwise it's not terribly helpful, so if you're trying to address other issues yeah, how do you fund that you create a sinking fund.

 

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Michael Robinson: You know, for that to be available is there an agreement that when a triggering event that requires a buyout occurs, is there some provision for that payout to happen over time.

 

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Michael Robinson: If so, you know how do you, is it a fixed payment Is it based on profitability or revenues, you know Those are some of the things but.

 

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Michael Robinson: you're or maybe there's just you know it's it's a cash rich enterprise and they've just gotten money you know that's going to be available.

 

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Michael Robinson: Financing you know that's that's an option, too, and in a lot of instances, so you know how you do it is going to depend on on again the structure of the company, what kind of resources does it have.

 

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Michael Robinson: As well as on what is the nature of the triggering event but boy, the funding aspect is just yeah is so important.

 

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Michael Paiva: You know who cares if you have an agreement if you can't find it that it's all meaningless.

 

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Michael Robinson: yeah yeah.

 

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Michael Paiva: The one I see what i've seen a lot of is vendor take backs secured by share pledges or promissory notes the vendor actually.

 

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Michael Paiva: You know enters into this agreement, the accident shareholder and you know they're paid over time.

 

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Michael Paiva: A lot is what needs to happen, because you know if you're not in a cash rich operation or the other shareholders don't have enough assets to you know put up as collateral from the bank.

 

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Michael Paiva: you've got to go the vt be route, which you know, for the excellent shareholder that's not necessarily the best because you're not getting that lump sum cash, but it may be the only way to work, it is payment over time right.

 

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Michael Robinson: yeah there's always practice a great point Michael there's just practical considerations that come into play is is part of this, but even going back to the life insurance, you know, then okay who's going to pay the premium.

 

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Michael Robinson: How do you what if they don't pay the premium, how do you monitor that there's you know there's just always something.

 

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Michael Palumbos: Of course, and then you know it's thinking about in a family business and we've seen this.

 

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Michael Palumbos: Because the the current owners are planning and working until they're 70 or you know they're they're going to keep going so term insurance doesn't work right in that circumstance you can't just can't hold it that long.

 

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Michael Palumbos: And you know where term insurance in a buy sell agreement makes the most sense because it's inexpensive.

 

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Michael Palumbos: More often than not it's you know a great way to do that, but then there's no cash value so there's no asset, where that you know so there's all of these all of these pieces, where I think that's where.

 

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Michael Palumbos: The the two of us, the three of us would really you know get along well is because, from a planning perspective, we want to model these things okay so you've got a buy sell agreement, let me show you what you know.

 

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Michael Palumbos: You know, a 10% down at 5% on $3 million looks like before tax and after tax to your business oh wait a minute, maybe we need to do this for 15 years.

 

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Michael Palumbos: And now, how does that 15 year agreement look like in your retirement when you get out there.

 

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Michael Robinson: Sure yeah.

 

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Michael Palumbos: So it really does make you know, a boatload of of difference.

 

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Michael Palumbos: We you know we utilize life insurance on a pretty regular basis for funding the death side of by cells.

 

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Michael Palumbos: You know, as you said, who's paying for it.

 

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Michael Palumbos: Regardless of whether it's a cross purchase or a stock redemption a lot of times, we will have the company pay for it, but if it's personally own, then it has to be section 162 bonus out to everybody, but now at least the company's paying for it so everybody knows what's going on.

 

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Michael Palumbos: If it's if it's permitted insurance, you might be able to get some double duty out of it, but I always caution people life insurance, you know I i'm a big fan of it should have one purpose as often as it possibly can anything outside of that is just gravy.

 

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Michael Robinson: yeah no I agree.

 

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Michael Palumbos: it's yeah that that funding piece, you know I think it's modeling what you're looking at and understanding here's what we agreed to on paper, but what is the what does that look like realistically.

 

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Michael Paiva: Right it's funny because you can have a buy sell agreement that has a shotgun clause as part of it.

 

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Michael Paiva: But those clauses are often abused if they know that the other shareholder can't finance our fund the purchase so, then you can end up actually stealing the shares away from you, because hey I know you can't pay for this anyway so i'm going to exercise the shotgun clause.

 

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Michael Palumbos: So you remind everybody with the shotgun clauses real quick.

 

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Michael Paiva: uh yeah so essentially one shareholder makes an offer to the other, and this is, if you don't buy the shares back from me, then, you know.

 

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Michael Paiva: Then I can buy them back from you, essentially yep.

 

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Michael Palumbos: it's fine we we call that the Russian roulette you know the same kind of same I hadn't heard the call the shotgun you know scenario before that's why I was asked.

 

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Michael Paiva: Okay yeah.

 

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Michael Palumbos: that's.

 

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Michael Palumbos: Good and i've seen it in your bed where it's like we both put the the you know, the number of the business into the business and highest number wins.

 

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Michael Palumbos: And so Those are some of the ways that they do that but, like you said, Michael pop Pave I didn't even think about that, if one shareholder has more money than the other one.

 

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Michael Palumbos: that's pretty tricky it's tricky anything else, when it comes to funding that either of you want to add to what we you know what we've done here today.

 

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Michael Robinson: And just I think to your point is you got to address it up front and and you got to run the numbers and you can't just say well.

 

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Michael Robinson: i'm going to you know buy this insurance or we're going to do an installment sale or or whatever you really have to look at what are the economic realities.

 

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Michael Robinson: You know, maybe you've got some cash flow where you can start a sinking fund, but you, you have some term insurance to cover you know the initial period until you're comfortable that the.

 

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Michael Robinson: The fund is up to where you want it to be, but yeah you got to look at whatever you're thinking about realistically, can you afford it.

 

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Michael Palumbos: I, which goes back to what I think we talked about in the beginning, at one point was just that it's a buy sell agreement is not a set it and forget it agreement.

 

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Michael Palumbos: Exactly reviewed, you need to look at it, the value of the company, you know changes over time, the the people change over the time what you need what your needs are changes over time, so this is a you know, this is a live document that should be reviewed.

 

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Michael Robinson: yeah, it is not something that goes on a shelf and that's that.

 

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Michael Palumbos: Great.

 

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Michael Paiva: And though, even though most of the time let's be honest that's what our clients do.

 

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Michael Paiva: You know, business owners, they don't like peg lawyers attorneys you know accountants they're just really boring people they're always over complicating things, but please to our listeners you've got to take a look at the agreement every few years.

 

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Michael Paiva: And you may you may may save a lot of legals by avoiding a dispute, if you just put pay that little bit of of money for the planning and for the updated agreement.

 

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Michael Palumbos: yeah yeah you can think of the meeting with your attorney or your plan or an advisory team, and you know as insurance, so you can pay a little bit to have this stuff all covered or you can pay a lot later, and you know that's a really great place I.

 

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Michael Palumbos: Family that i've you know worked with they didn't have the valuation pegged down properly and one of the family members, wanted to leave.

 

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Michael Palumbos: And you know I said to them, you know your buy sell agreement isn't up to snuff we were getting ready to fix it and he decided to leave.

 

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Michael Palumbos: Right, that was a great time to for him to you know revert to step aside and when you know you look at those things hadn't been reviewed by one of the two of you.

 

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Michael Palumbos: You know, three years earlier, they wouldn't have been in the situation at that point net cost them more because the attorneys fees they were fighting.

 

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Michael Palumbos: And they were going back and forth and those attorneys fees, I was shocked at how fast when you start talking litigation they start to add up really quick don't think Michael paper.

 

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Michael Paiva: Goodness gracious yeah you want to avoid paying litigators at all costs seriously to the listeners avoid litigation fees at all costs i'm not joking.

 

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Michael Paiva: Because they get astronomical really quick, not only that you're paying your own forensic accountant to be the hired gun in terms of seeking your valuation.

 

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Michael Paiva: Of the shirts, so you know it's great it's great if it works if you know if it works until it doesn't i've got a client they've done hundreds of million dollars and they've got a group of company worth hundreds of millions.

 

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Michael Paiva: And so i'm kind of advising on the up and comers in the family, like how are we going to facilitate this transition and they have not one shareholder agreement, not one shareholder agreement.

 

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Michael Paiva: And that's amazing and it and if it can work that's great, but it works until it doesn't work it's it's, the question is when it when it ceases to work, how are we going to deal with this got it.

 

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Michael Palumbos: So we're coming up on the top of the hour, let me let's do this any last words or you know thoughts that you want to share, about buy sell agreements, but more importantly.

 

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Michael Palumbos: When you wrap up make sure people know how they can get Ahold of you where did it where can they find you, you know.

 

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Michael Palumbos: I think you know either one of you should be spending some time with you know these people that are listening, right now, and having them, helping them to review their buy sell agreement.

 

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Michael Robinson: yeah you know it, Michael robbins in here, the most important thing is to have one.

 

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Michael Robinson: And, and then, of course, you want to make sure it's appropriate.

 

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Michael Robinson: For for your situation but it's an investment it's an investment in your business, and if this is something that's important to you and you want to see it continue whether it's within the family or or not.

 

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Michael Robinson: You need to address these issues if they're difficult conversations they're difficult, there are people who can help you facilitate them, if necessary, but the conversations need to be had it needs to be memorialized in writing, and it needs to be reviewed on a regular basis, great.

 

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Michael Palumbos: And how do people get Ahold of you.

 

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Michael Robinson: sure you can access me through our website, which is w w w dot m Robinson law.com.

 

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Michael Robinson: You can shoot an email to info at em Robinson law.com and, if you want to give us a phone call 585-374-5210.

 

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Michael Palumbos: here for Michael appreciate it Michael paver.

 

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Michael Paiva: yeah absolutely you need an agreement, and you need it to be as clear and as practical as possible practicality, think about the practical implications of how you're going to facilitate that agreement.

 

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Michael Paiva: Think about how you're going to resolve disputes that's, the most important thing, from my perspective, is how are we going to resolve any dispute, you want to get in touch, you can email me at m dot Pave at rp lawyers, with an s.ca or by phone 4168 817 33 beautiful.

 

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Michael Palumbos: Gentlemen, I appreciate your time and sharing your information and knowledge with our listeners and I bid you adieu and.

 

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Michael Palumbos: really appreciate your time today thanks for joining us everybody i'm Michael Columbus with family wealth and legacy in Rochester New York and you've been listening to the family biz show make sure to.

 

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Michael Palumbos: chime in for our next episode and find us on your favorite podcasts if you, you know if this is your first time listening subscribe, so that you don't miss another episode have a great day, everybody.

If you’re a family business or a family business consultant and want to be on the show, share your story and help other family businesses, send us an email to producer@thefamilybizshow.com or fill out a contact form here!

*not affiliated with Lincoln Financial Advisors Corp.

Michael Palumbos is a registered representative of Lincoln Financial Advisors Corp. Securities and investment advisory services offered through Lincoln Financial Advisors Corp., a broker/dealer (member SIPC) and registered investment advisor. Insurance offered through Lincoln affiliates and other fine companies. Family Wealth & Legacy, LLC is not an affiliate of Lincoln Financial Advisors Corp. Lincoln Financial Advisors Corp. and its representatives do not provide legal or tax advice. You may want to consult a legal or tax advisor regarding any legal or tax information as it relates to your personal circumstances.

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