Nobody wants to lose control of their business––at least, not without their say-so. Unfortunately, this can happen more easily than you think; particularly if you are lacking shareholder protection cover.
The biggest mistake you can make with shareholder protection is getting the wrong cover, or not understanding what you are paying for. That’s why our biggest piece of advice is to talk to a trusted advisor; one with experience in the business sector. The wrong advice can be worse than no advice at all, so ensure you speak with someone who walks the talk!
That being said, with the help of insurance adviser Dean Young, we’ve put together a few of the most common shareholder protection mistakes that you need to avoid.
First of all, a quick notice: if you have just started a company, or are a sole trader, it’s unlikely you’ll need shareholder protection.
In the first case, your company isn’t likely to be worth enough to need additional funds by way of insurance to buyout your partner in case of their exit. You are likely to have enough liquidity to purchase outright. In the second case, you wouldn’t need to buy out your partner in the first place—because you don’t have one.
However, the line at which point you’ll need insurance is different for every company and every person. As Dean says:
“It’s not my job to tell you what you need or how much you need. It’s my job to give you the tools to make an informed decision.”
If you think that a shareholder buyout would put you in dire financial straits, then it’s time to investigate your insurance options with a trusted advisor.
One of the most common mistakes that we see is people who want to get their shareholder protection tucked away and sorted, but don’t have a buy/sell agreement or the relevant clauses in their partnership agreement.
If you don’t have one, or keep an out-of-date clause in your agreement, you can end up with all kinds of unpleasant scenarios.
This agreement tells you how, when, where and how much you would need to buyout a partner should they need (or want), to exit the partnership. If you don’t have one, or keep an out-of-date clause in your agreement, you can end up with all kinds of unpleasant scenarios, such as:
These are just a few of the common scenarios, but the problem ultimately comes down to the same thing: you need to have these procedures documented and agreed upon before the clause needs to be activated.
Furthermore, you need to keep both your buy/sell agreement and your shareholder protection insurance levels up to date. Dean suggests checking about once a year, but if you are a fast-growing company, every six months might be more accurate. The value of a company during these early stages can rapidly adjust, so ensure that you would be paid out the right amount to purchase your partner’s shares.
This review should also take place, according to Dean, if there is a major event that would adjust the balance of shares in the business. Bringing on a new partner, for example, or one partner deciding to buy into more of the business. Your buy/sell agreement and shareholder protection needs to reflect these changed circumstances.
Finally, you need to remember that shareholder protection is like normal life insurance—it just pays out to your business partner instead. And, just like life insurance, people who have more severe risk factors will cost more to insure.
You need to remember that shareholder protection is like normal life insurance—it just pays out to your business partner instead
A 55 year-old going into business with a 25 year-old would cost more to insure. This is an important factor to discuss with your fellow shareholders to ascertain what is or isn’t a fair payment structure for the insurance premiums.
If your business has reached the point where you need additional financial protection to maintain control, then you don’t want to go for the cheapest option around. You can save money by getting quotes from multiple insurers, but never simply pick a policy based on its price.
There could be a lot of money of the line here; even your entire business. Do yourself a favour and choose a policy that covers what you need to be covered, not just as little as possible to keep the price down.
Avoid these mistakes with your shareholder protection, or better yet, get the right advice from an advisor with experience in this space. Don’t wait until you need to buyout a partner before you invest in insurance, and make sure you’ve got a buy/sell agreement hashed out before anything else. Keep your policy and your agreement up to date, and don’t simply go for a cheap option because it’s cheap.
Shareholder insurance could be the difference between retaining control of your company and having to work with someone you had no intention of doing business with. Is it time you protected your enterprise?
For more information on business insurance, check out our free ebook below.