Buy-In: Adding an Investor—Pros, Cons, and Pointers

Allowing an investor to buy into your corporation or LLC can be a complicated process. While it may be a great idea for some dealerships, it may be unsuitable for others. Every case is unique, and whether to add an investor involves a series of important personal and business decisions that you should only make after careful thought and consultation with professional advisors.

This article provides a brief outline of some of the issues that you may want to consider; it is not comprehensive. Every case is different. Consult experienced dealer counsel for further information.

The Pros:

Bringing in an investor is typically done for many reasons, including (1) raising additional capital; (2) estate planning (you do have a succession plan, don’t you?); (3) management assistance; (4) golden handcuffs; and/or (5) a potential exit strategy.

The Cons:

Adding an investor may lead to personal conflicts. If your co-investor owns 50% of the business or a majority of the business then management disagreements and deadlocks may arise. You will have to share profits with the investor and decisions about write downs, owner benefits, distribution of earnings, and “business as usual” may become a thing of the past. Even if your co-investor is a minority owner, he or she may possess certain rights, such as the right to examine records and possibly, a reasonable right to a return on investment, under Iowa law.

Things to Consider Before You Make Promises About or Enter Into A Buy-In Agreement:

  1. Your Own Motivations.Think about this and then continue to reflect about it before you move forward with any buy-in: “What is my real motivation for doing this?” Is this the best way to achieve your goals? Talk this over with your family and professional advisors. This is critical!
  2. What About the Investor?Really knowing a potential investor may prevent a future disaster. In our practice, we have seen the consequences of a seller failing to consider the following: How long have you known the potential investor? Are you really compatible with him/her and how do you know that? Are you comfortable with his/her spouse and how do you know that? Does he/she possess skills that complement your own skills and how do you know that? Slow down here and make a logical and not an emotional decision.
  3. To Control or Not to Control? Most sellers will want to maintain control in a buy-in scenario. To maintain control, you must retain over 50% of the ownership interests. Your professional team should review your bylaws, articles of incorporation, and/or operating agreement and articles of organization to be certain that there are no adverse provisions involving control issues.
  4. How to Establish a Value for Your Company.If you decide to move forward, then seek guidance in valuing your business before you enter into any oral or written agreements, including letters of intent. If you want to maximize the value that you receive for the ownership interest that you are selling, then your attorney and accountant must be familiar with auto dealership transactions and especially current goodwill and blue-sky multiples. They must also understand the best techniques for fixed and other asset valuations.
  5. How Will You be Paid? Before you enter into any agreements you need to be comfortable with the method of payment. Is it cash? Payment from future bonuses? Will there be a promissory note involved? If there is a payment plan, when will the ownership interest transfer—at the closing or as paid? Is there security?
  6. Enter into an Employment Agreement Concurrently with the Buy-In Agreement. You should strongly consider having counsel draft an employment agreement for the potential investor if the investor is to be a working investor. You should carefully consider the termination provisions and the effect of termination on ownership. In other words, in the event that the investor fails to perform do you want the right to buy back the investor’s ownership interest? This must be coordinated with a shareholders’ or members’ agreement.
  7. Shareholders’ and/or Members’ Agreements.Shareholder and/or member agreements should be entered into concurrently with the buy-in agreement and the employment agreement. The essential purpose of the shareholders’ or members’ agreement is to ensure that if there is a future dispute between seller and buyer, there is an agreed workout, including, for example a provision whereby the seller can reacquire the buyer’s interest in the business at a predetermined price or formula with specified payment methods.
  8. Beware of Securities Laws! Generally, small one-time transactions fall within an exception to the necessity to registering shares or ownership interests under the Securities Act. Proper disclosures will protect sellers! Build this in to your buy-in agreement. See your attorney.

The decision and the process for allowing an investor to buy into your dealership business may seem deceptively simple at first glance. In our experience, it requires a great deal of planning and execution.   Knowing the benefits, drawbacks, and overall process can help your decision-making process. However, nothing substitutes for the knowledge of an experienced auto dealer attorney who can walk you through this complicated process.