A look at buy-ins

NOTE: The following article is from the collection of articles in our Automobile Dealership Buy/Sell Newsletters. The newsletter deals with the complex area of buying and selling automobile dealerships. Some of the material may not be up to date because of changes in the law from the date shown at the end of the article. This article is not to be taken as legal, accounting, tax, or other advice. You should consult your own professionals for such advice and for any updating of the information provided. 

When a dealer considers selling a portion of the dealership business, it is essential that he/she addresses several critical issues raised by a buy-in transaction.

A dealer may contemplate such a sale when planning for his or her eventual departure from the dealership business by retirement or as a result of death or disability; if heirs are unqualified or uninterested in operating the dealership; or as a means to attract and retain key management personnel, such as a general manager.

Since a dealer usually operates a dealership business through a corporation, the sale or transfer of a portion of such a business will involve stock. The number of shares actually involved in this type of transaction would be less than fifty percent (50%) of the total number of outstanding shares. The stock to be transferred is either owned by the dealer, or, in certain instances presents new shares issued by the corporation. While this transaction may not be as complicated as a buy/sell agreement involving the sale of the total dealership business, a buy-in has many aspects which a dealer should carefully review including the following:

FRANCHISOR RELATIONS: Normally, any change in the ownership of the dealership business is subject to franchisor approval. A franchisor may have other requirements applicable to a buy-in transaction, some of which may be spelled out in the franchisor’s sales and service agreement. For example, if the person buying in is to be named in the successor addendum to the sales and service agreement, there usually are requirements as to the percentage of stock that person must own or have the option to acquire within a specified period of time. Dealer compliance with the applicable franchisor requirements is critical to avoid serious problems. Although it is not really an issue of approval, a dealer should also be aware that any change in the ownership of the corporation holding the dealer license must be reported to the California Department of Motor Vehicles.

STATEMENT OF TERMS: The buy-in agreement must state the precise terms of the stock sale. One of the important terms is how the stock is to be valued for purposes of the sale. Typically, stock is valued according to a formula, either based on book value, capitalized earnings or appraisal. A dealer needs to carefully evaluate what valuation approach makes the best sense as to that dealer’s situation because the formula used can have an impact on valuation issues relating to other transfers of the corporation stock that may occur in the future.

SPECIFICATION OF PAYMENT: The buy-in agreement should also address how the person buying in is to pay for the stock being acquired. Often the financial resources of that person may be limited, so payment may need to be structured under a promissory note with terms which realistically take into account his or her expected after tax income. If the buy-in involves payment by promissory note, the stock to be acquired can be pledged pursuant to a pledge agreement to give greater security for the payment. This approach can also minimize the chance of an unauthorized transfer of the stock.

REACQUISITION TERMS: The buy-in agreement should include terms allowing the dealer to reacquire, upon the occurrence of certain events, the stock being transferred. Routinely, these provisions give the dealer and the corporation at least the option to purchase the stock in the event of the death, disability or termination from employment of the person buying in. To be effective, these provisions should provide precise terms as to what events trigger an option, what time frame is allowed to accomplish the purchase of the stock, what formula is used to determine the purchase price of the stock, and how the purchase price is to be paid.

EMPLOYMENT RELATIONSHIP: A buy-in agreement should include provisions that prevent it from being construed as an employment agreement which changes the nature of any employment relationship between the dealer and the person buying in. This is especially important where that person is an “at will” employee and the dealer wishes that status to continue. This issue is also important in those situations where a dealer may transfer stock to a dealership employee as part of a stock bonus program. Just as with a full-blown buy/sell transaction, certain formalities should be followed regarding a buy-in including the following:

• Both parties to the transactions should be, or at the very least have the opportunity to be, represented by legal counsel to help ensure that the agreement is legally enforceable if a dispute should arise at a later date.
• Compliance with formal requirements of the Commissioner of Corporations of the State of California which apply to the transfer of stock should also occur.
• Formal corporate minutes and other records should be maintained to confirm any necessary corporate approvals of the transaction.
• Routinely, the buy-in agreement will provide that the actual corporate stock certificates being transferred are to contain a legend referring to the restrictions that exist as to the future transfer of the stock. This legend should be actually typed or otherwise placed on the stock certificates prior to transfer.

Certainly, there are many issues that can arise concerning a buy-in which may represent the critical point in the life of a dealership business. With so much at stake, a dealer needs to carefully review such a transaction to ensure that it accomplishes what the dealer intends.

This article was written in 1994.