Security Sales & Integration March 2023 - 62

EXECUTIVE DECISIONS
Legal Briefi ng by Ken Kirschenbaum
ken@kirschenbaumesq.com
Selling Shareholders' Interests
▶ STOCKHOLDER AGREEMENTS in close
The shareholder
agreement
should be
discussed and
agreed upon by
people who are
friendly with
each other and
optimistic about
the business
they are about
to start or
memorialize
their relationship
in a business
that is
successfully
operating.
corporations (nonpublic and generally shares
held by small number of shareholders, more than
two and fewer than 35, typically) will commonly
address the sale of a shareholder's interest in the
corporation.
A sale of the interest can arise in several ways:
▶ disability
▶ death
▶ unable to meet capital calls (if required in
the shareholder agreement)
▶ voluntary withdrawal; retirement
▶ involuntary withdrawal; age requirement in
shareholder's agreement or forced out by
remaining shareholders
Ken Kirschenbaum, an
SSI Industry Hall of Famer,
has been a recognized
counsel to the alarm industry
for 45 years and is
principal of Kirschenbaum
& Kirschenbaum, P.C.
(kirschenbaumesq.com).
The opinions expressed in
this column are not necessarily
those of SSI, and not
intended as legal advice.
62
Th e shareholder agreement will typically have
a formula to calculate the selling price; the value
of the selling shares. It's common to fall back on
established accounting principles that will account
for capital contribution, assets, liabilities,
all of which are calculable by an accountant. Th e
calculation may or may not include a calculation
for " goodwill, " which includes, among other
things, reputation, brand, intellectual property
and commercial secrets. All of those factors lend
themselves to subjective evaluation and, thusly,
lead to disagreement.
In the alarm industry, the goodwill should encompass
the alarm contracts and the recurring
monthly revenue (RMR) required to be paid pursuant
to those contracts. If the business has been
successful, it's this category that is going to add the
signifi cant value to the selling price. Technically,
this asset is " recurring revenue for future services, "
which means the portion of a company's revenue
that is highly likely to continue. Th is revenue is predictable,
stable and can be counted on in the future
with a reasonably high degree of certainty.
In the alarm industry, we refer to this revenue
as RMR, because we calculate it on a monthly
basis, no matter how it's invoiced. To qualify
this, RMR must be " under contract. " Predictable
RMR that is not under contract has little or no
value in the alarm industry.
When calculating the value of an alarm company
we apply a multiple to the contracted RMR.
Th at multiple can range from less than 18x RMR
to over 40x RMR, so there is obviously a great deal
Security Sales & Integration MARCH 2023
of subjectivity involved in arriving at a " multiple. "
Now back to the shareholder agreement. Keep in
mind that the shareholder agreement is usually an
agreement made among friends, relatives and, more
to the point, people who are talking directly to each
other rather than through their respective attorneys.
Th e shareholder agreement should be discussed and
agreed upon by people who are friendly with each
other and optimistic about the business they are
about to start or memorialize their relationship in
a business that is successfully operating.
If you look at the times when selling shares may
arise, you can easily see that in many situations not
all shareholders may be equal (e.g. age, health or
diff ering interests). Two shareholders may be able
to predict which shareholder is likely to be the one
who is selling; the other, buying. Sure, it's a gamble,
but sometimes disparity makes it a better-than
50/50 bet. When that's the case, they may have
diff erent views on how to value the selling shares.
For example, close analysis may reveal that the
selling shares should be priced diff erently for each
or at least some of the contingencies mentioned
above for selling. Let's assume the alarm business
has been operated using established best practices.
We would hope to get 36x RMR for this company
if selling to another alarm company. But this is the
selling and buyout multiple the shareholders want
to use when they aren't selling to a third party, but
selling among themselves for any of the contingencies
calling for a sale (e.g. disability, death).
Th e shareholders may want to agree that a disabled
or deceased shareholder be paid based on X
multiple, a shareholder who wants to retire Y multiple
and a shareholder booted from the business
Z multiple. Or they may not want any diff erent
calculation. A young, healthy shareholder may
want a lower selling price than an older shareholder,
fi guring they are going to be the one buying.
But that same young shareholder may be the one
selling, so he wants the higher calculation. Th ere
are many scenarios that can infl uence how a shareholder
will want to calculate the selling price.
Don't make the mistake of delaying addressing
these issues in a shareholder agreement because
if the time comes when you are forced to address
a buyout it's going to be much more diffi cult to
reach agreement at that time.
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Security Sales & Integration March 2023

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