Basic Training: Capital vs. Sweat Equity: What’s a Fair Buyout?

Posted on June 10, 2015 in Business Partners

Post image for Basic Training: Capital vs. Sweat Equity: What’s a Fair Buyout?

Q: I’m in a situation where one owner is an active “sweat equity” owner; the other is inactive but provides financial capital. I’m the sweat-equity owner who has put in the hours and grown the business, while the other has been gone for months at a time. I am now in the process of trying to buy out my business partner. He put $20,000 into the business and I am trying to figure out where to start on coming up with a fair number to buy him out. He seems to think $32,000 is the number, although we are just barely starting to turn a profit. Any suggestions?

A: Whether $32,000 is a fair number depends on a number of factors:

  1. Whether you have a partnership agreement that sets out the method for valuing a partner’s interest upon exit (If so, follow that.)
  2. How businesses in your industry tend to be valued–$32,000 may be fair for a product-based business if you’re on the upswing and your partner relinquishes all rights to develop similar products, but not fair in a service-based business where he’ll walk away with a fair amount of the goodwill. Your accountant may be able to provide you with guidelines of how to value the business at this stage.
  3. The cost of litigating the dispute. If you don’t have a written partnership agreement and can’t reach an amicable agreement, your only recourse is to go to court to have a judge figure it out–and he/she will probably expect you to hire your own valuation experts to provide guidance on the financial terms, etc. The likelihood is that you could spend more than $32,000 and then still have to pay him something. Best to consult with an attorney in your area to get a sense of the costs involved.

To get the latest posts delivered right to your inbox, enter your email in the box below:

back to top