Owners Think Differently
Should I Sell My Business As Is?
Too often this scenario works out in the same way for small business owners. In almost all cases, “fixing up” your business prior to listing it for sale is the preferable strategy. An attractive and exit-ready business will be more appealing to potential buyers, resulting in not just a higher sale price but also more options for exit and a faster sale.
What Happens When a Sole Proprietor Dies Unexpectedly?
A sole owner of a business who has a spouse and/or family has not a few key planning issues that need to be addressed before it’s too late. “Too late” is the unexpected event of death or permanent incapacity or disability. To illustrate, let’s use the following story that is based on real-life events…
John Doe owned a very successful commercial real estate development firm. He regularly met with his Business Advisor and “game planned” aggressive growth strategies that were proving to be successful in building the value of the business. To the point where John was seriously considering expansion into other geographic areas. Life was good and the business was growing rapidly!
One evening after meeting with his advisor, John experienced a sudden heart attack and died later in the hospital. At age 55 he still had family financial responsibilities, yet he had not been as thorough in his personal and family financial planning as he had been in planning to build the business. It was a time of extreme grief and mourning as well as uncertainty for Jane…
She didn’t know what to do next.
She didn’t know if John’s salary would, or could, continue.
Employees and customers started to leave as there was no plan, and so the business became less valuable and sellable. This was problematic as Jane was dependent on the sale value of the business as John had limited life insurance and investable assets.
Due to the high level of uncertainty, there was a lack of peace and stability for Jane and for everyone who was at all dependent on the business.
There were too many things that John didn’t do, and that should have been done, to mention in a short blog post. So, highlighted here are just a few (not an exhaustive list) of the key planning solutions that, if John had put them in place, would have helped in minimizing the agony that Jane and the family experienced…
Clear written instructions that were aligned with updated and adequate estate planning documents as to how to continue the business.
A personal financial plan that included a cash flow analysis of how much money Jane would need both short-term and long-term in the event of John’s early death.
A written resolution for Jane to continue to receive John’s salary until insurance proceeds were received.
Plans for the business bank line of credit to continue uninterrupted.
A current and adequate personal life insurance program.
Key person life insurance on John that would have provided needed liquidity for the business to provide key employee stay bonuses, etc.
Invest 12-15 minutes in the FREE ExitMap® Assessment and get a 12-page report scoring you in four key exit planning areas: Finance, Planning, Revenue/Profit, and Operations.
Answer These Questions if You Want to Accelerate Business Value in 2023
Most small business owners invest in the stock market, either directly or through retirement plans, with the goal of future financial security. However, not every business owner pays the same level of attention to the key drivers behind the value of, what is often the largest asset in their investment portfolio, their business.
In their book Execution: The Discipline of Getting Things Done by Ram Charan and Larry Bossidy, they speak about successful execution as “exposing reality and acting on that reality”. These questions will help “expose reality” as we begin a new year, regarding your plan for building and growing the value of your business.
1. Do I have a healthy management team? It's often been said that people are our most valuable resource. Experienced leadership, that understands the business, as well as the culture of the organization, is critical to the ongoing success of the business. This is also one of the key factors behind developing business value when it comes down to selling your business. Cultivating these employees, and ensuring that they remain even after you sell the business is significant to the events or buyer/owner of the business
2. How effective are my operating systems? Human resources, personnel recruitment and training, asset control, production control, and performance reports are all the key ingredients of healthy operations within any organization. If these internal mechanics are not running well, this could have significant negative consequences on the value of the organization.
3. Are my margins equal to or better than the industry average? If not, what actions can will it take to get them there?
4. How diverse is my customer base? Having one's eggs in one basket is always a risk. Having a key single customer that has more than 10% of total sales obviously is a downside for a business. Long before being ready to sell it is helpful to take a look at this and pursue diversification.
5. Is my facility in “ship-shape”? - keeping our home reflects our values and our priorities. Similarly, keeping our business facility in a sharp condition reflecting professionalism and effectiveness is critical to establishing business value. It was so into an outside third party, first impressions are significant. They were plucked attention to the small details.
6. What is my growth strategy? The roadmap for growth needs to clearly laid out, risks identified, and goals established. The future cash flow, value, and well-being of your employees is dependent on a vision for the future codified into actionable steps. The plan alone will not get you there, but no plan will get you nowhere.
7. Do I have control of my numbers? At the end of the day, you need to understand the financial health of your business.
Exit planning should begin the day you start your business. And, at the core, or center of exit planning is maximizing the value of your business. Just as you manage the value of your 401k or investment portfolio, investing time, energy, and thought into building the value of your business will position you to exit in the manner you desire. Get started today by exposing reality and assessing your business value drivers.
Invest 12-15 minutes in the FREE ExitMap® Assessment and get a 12-page report scoring you in four key exit planning areas: Finance, Planning, Revenue/Profit, and Operations.
An Exit Planning Checklist for 2023
Each year at this time we publish our “Exit Planning Checklist” meant to serve you in planning for that most significant event as a business owner...your future exit.
DECIDE WHERE YOU WANT TO GO. Establish Clear Goals and Objectives for Exit and Your Life After Exit.
When do you want to leave the business? Whom do you wish to transfer/sell the business to?
What are your values-based and legacy exit goals?
What is your post-exit "life-plan"? Business owners can often regret leaving when lacking a plan for life that replaces the sense of purpose and meaning they experienced in building their business.
Update your Personal Financial Plan. Find out how much $$$$ you will need post-exit to do all you want to do. Is there a gap?
ASSESS WHERE YOU ARE. Without Accurate Data All Planning Becomes Meaningless.
Get an accurate Estimate of Business Value. If the business is your largest asset, shouldn't you know what it really is worth to potential buyers?
Assess your business Value-Drivers and areas of Risk.
Review your Business Continuity Plan for life transitions and unexpected death or disability to include written instructions. Co-Owners should include a review of their Buy-Sell Agreement to ensure alignment with the current goals of all owners.
Review your Estate Plan to ensure alignment with exit goals.
DESIGN AND IMPLEMENT A PLAN. Build Transferable Value and Enjoy a Future Exit on Your Own Terms and Conditions.
Which Exit Route will best accomplish your goals? Sale to Third-Party | Sale to Insiders | Transfer to Family Members | Sale to ESOP | Absentee Owner.
Focus on growth and profitability today. At the core of tomorrow's successful exit plan is today's profitability and plan for growth.
Strengthen business value drivers. An owner with a sellable business will have more freedom in life and options for exit.
Update a strategic financial plan for business growth.
Do you have the right Team of Experienced Advisors in place for your plan design and implementation?
Who will Manage the Exit Planning Project? You, a current Advisor, or an experienced Exit Planner?
The most important thing you could do in 2023 would be to GET STARTED AND GET HELP if you have yet to do so. If you wait until “you're ready to exit” to begin planning, you won't be ready, and neither will your business. Keep in mind, that "You don't know what you don't know" and like in all other areas of life, that could end up being disastrous.
There is much at stake during this most significant event in your life as a business owner. Take steps in 2023 to be as successful in planning your eventual exit as you have been in running your business.
Following are some easy Next Steps:
Contact Us Today for a No-Obligation Exit Planning Exploratory Meeting.
Take the Free ExitMap Readiness Assessment and get Online Learning and Resources at exitreadiness.com.
A Month on the Beach - A Key Measure of Business Value
Can you leave your business for a month, sit on the beach and leave your phone in the beach bag? If so, you have attained what few business owners do – a business that can run without you! Aside from sound cash flow, the creation of a management team is the most significant driver of business value. When the time comes for you to leave for good, a buyer wants your team, not you! If you can’t yet take that month, here are a few simple thoughts:
What is a management team? This will vary dependent on business size – but it is simply a key group of leaders who can run the day-to-day operations without your oversight. While they may seek your INPUT, they can sell, and deliver service on their own. They hold your values, pursue excellence and treat the company as if they owned it!
The need to delegate. This is the tough part – you must give responsibility to others. Every business has four basic functional roles – Executive, Sales, Finance/Admin, and Operations. Often owners fill each of these roles and thus are critical to everything. If you can successfully delegate these roles (except perhaps the executive function) to others, you will create a team.
Who do you add to the team? Chik-Fil-A has succeeded by carefully choosing leaders who possess three “C’s” - character, competency, and chemistry.
Character – this is the most crucial. The manager must hold their values and live them out in their daily work.
Competency - this is less about specific skills and more about the ability and desire to learn. Environments change and learners adapt. This trait should also have a dash of “fire in the belly” – the drive to build something.
Chemistry – do they play well with others? Team members must be team players – readily partnering with others to build a company, and able to lead.
Look for employees who possess these traits, empower them, and test them. Slowly give them responsibility and look for the ones that you can’t hold back. Help them succeed, give routine feedback and get out of their way.
How do I build a team? The first ingredient is time – don’t rush – build slowly and intentionally. It is an ongoing, iterative process. Here’s where to start:
Step 1 – make a list of roles you fill / what you do.
Step 2 – identify what ONLY YOU can do and what you are best at – these may be different. Identify what you can most easily delegate or are not good at; transfer these responsibilities first.
Step 3 – find the right people/teammates – this can include current employees, new hires or reliable vendors.
Step 4 – prioritize and make a plan to transfer the responsibilities over time. Seek to remove yourself from all but the Executive function.
Step 5 –develop a potential successor – this final step is not for everyone – however it can enable you to sell the business to an insider, or remain as a passive owner.
Step 6 – invest in the team, measure progress and adjust course as needed.
Giving up control is difficult but a necessary part of business maturity. Even if you never get to the “month on the beach”, taking these steps over time will increase value of the company, provide motivation for your staff and give you more options in the future. It’ll enable you to work ON your business and not just IN your business.
So, make a plan, start the transition and contact your travel agent!
Invest 12-15 minutes in the FREE ExitMap® Assessment and get a 12-page report scoring you in four key exit planning areas: Finance, Planning, Revenue/Profit, and Operations.
Deal Momentum, Deal Fatigue, and Pre-Sale Diligence
With the help of her Exit Planning Advisor, Betty has decided that a sale to a third-party buyer would best accomplish all of her goals (financial; values-based; legacy).
The process of quantifying her business and personal resources, with a financial gap analysis, has been helpful to Betty in determining her departure date in six years. She now knows the current fair market value of her business, and how much it will need to increase in value for the attainment of her financial objectives at sale in six years.
Betty now also understands (again with the help of her Exit Planning Advisor) the importance of maintaining “deal momentum” when she eventually enters into a sale transaction.
Betty now knows that all too often “deal fatigue” sets in and damages or destroys deal momentum experienced early in the process. She also understands that deal fatigue is typically the result of a difficult and lengthy due diligence process. Due diligence is defined as the process by which the buyer requests documents, data, and other information pertaining to the business they want to review to identify any potential liabilities or hindrances to a deal getting done. The process of due diligence involves setting up a digital “Data Room” where all requested information is deposited for review.
A key component of Betty’s comprehensive plan for exit is to do everything possible to ensure deal momentum and avoid deal fatigue when the time comes.
Betty also wants to be prepared if a serious and qualified buyer comes calling earlier than her six-year time frame. So, with the assistance of her Exit Planning Advisor, she is going to conduct “Pre-Sale Diligence” systematically over the next 12 months, including the set-up of a virtual data room which she will regularly review and update as needed. This preemptive approach will significantly increase her chances of deal momentum and a smooth transaction experience.
At that point in the future, when Betty’s either approached by a potential buyer or when she takes her business to market, having conducted Pre-Sale Diligence, she will be better prepared, more confident, and less stressed and anxious — all of which lend toward sustaining deal momentum and a successful transaction.
Contact us if you would like assistance with Pre-Sale Diligence | email@ennislp.com | 301-943-8203
Complete our FREE ExitMap® Assessment and get a 12-page report scoring you in four key planning areas: Finance, Planning, Profit/Revenue, and Operations. It will take about 15 minutes and we do not ask for confidential information.
What's an "Earnout"?
The term “earnout” is often mentioned by an advisor or business owner when describing the terms of a business sale. If an owner has as part of their deal an earn-out, they have been asked by the buyer of their business to stay on for a specified period of time in a senior leadership role within your acquirer’s company. In this role, they will be charged with achieving a set of goals in the future (i.e., revenue or profitability goals) in return for additional compensation for their business. This approach is used when the successful operation of the business being bought is dependent on its owner, and/or the buyer needs to bridge the gap between what they are willing to pay for the business and the amount of money the owner wants for the business.
Earnout terms average somewhere between two and three years in length and are very common in service businesses. The assigned earn-out goals are often linked to revenue and profit, the retention of specific accounts or customers, or any other metric that the buyer considers important and the seller is willing to agree to.
Earnouts at times can work extremely well for both parties. At the same time, all too often it doesn’t work out with the selling owner leaving prior to receiving their earnout. A common reason for an owner leaving early would be the fact that they are now an employee of the company they have invested years in building, and that can be a very difficult adjustment.
We talk a lot about planning to exit “on your own terms and conditions”. Leaving on your own terms and conditions might look like not being forced into an earnout when you sell. If you begin planning your exit well in advance, you can think through what roles you would be willing to play when you leave (i.e, lender, employee, shareholder), and which roles you wouldn’t be willing to play. For example, if there is just no way in the world you’d ever want to be an employee of the business you’ve built from the ground up, at the time of sale you will need a business which does not depend on you — and building a business like that can require a lot of time.
Take our FREE ExitMap® Assessment and get a 12-page report scoring you in four key planning areas: Finance, Planning, Profit/Revenue, Operations. It will take about 15 minutes and we do not ask for confidential information.
ennislp.com | email@ennislp.com | 301-859-0860
Can Engagement, Leadership and Culture Really Improve the Outcomes of a Business Exit?
All business owners live in the tension between people and profits.
Often times it seems like these two aspects of our businesses can sometimes be in direct opposition to each other. It’s easy to feel like a $10K investment in our people is just a $10K reduction in profits. That people and profits are a zero-sum game, with one side winning and the other side losing. But I want to lay out some data for you and see what you think about how investing in your people could actually benefit you in the sale of your business.
Most companies operate from this mental framework:
Revenue – Variable costs – Fixed costs = Profit
In this scenario, fixed costs include things like building expenses, payroll, etc.
Most business owners assume that the best way to increase profit is to increase revenue and decrease variable costs (like COGS) and reduce fixed costs (like payroll).
This viewpoint is not entirely wrong, it just fails to take into account the human factor. We all know that people are the wild card in business. I often say “if it weren’t for people, business would be easy”. The people who work for you are not machines that can be dialed up to maximum efficiency from 8 a.m. to 5 p.m. for the 261 working days a year. In fact, if your company is like the average company in the U.S. then only 30% of your employees are operating at full capacity. The term most commonly used for these employees who are connected to their work and are operating at their full potential is engagement. Employees who are operating somewhere below their full potential are referred to as disengaged or actively disengaged.
What if instead of 30% of your people operating at their full potential, 60% of the company was operating at full capacity? Do you think this would have a positive impact on the revenue and profitability of the organization?
Well, let’s look at some numbers. According to the most recent data, disengaged employees have 37% higher absenteeism, 18% lower productivity and 15% lower profitability. When that translates into dollars, you're looking at the cost of 34% of a disengaged employee's annual salary, or $3,400 for every $10,000 they make.
So think about it this way, the average salary in the U.S. is $47,000. If you are leaving 34% of that average employee’s productivity on the table due to low engagement you are losing close to $16,000 per year per employee. And that’s just for your average employees. If you apply that to your managers and higher-level employees working in the $80,000 salary range you are looking at over $27,000 in human capital (think payroll) waste per year. Not to mention that employees who work for disengaged managers are 4x more likely to be disengaged themselves. Take those numbers (somewhere between $16,000 and $27,000 per year) and multiply them by the number of employees you have working in your organization, and all of a sudden addressing the issues associated with a disengaged workforce becomes a top strategic priority. Especially when you consider that an extra dollar of sales is only equal to 50, 40, 30 cents or less contribution to your profits (after you take out taxes and COGS, etc.), but a dollar saved that you are already spending equals a full dollar of contribution to profits.
Just think about all of the potential things that you could be working on to increase the value of your business over the next 12-24 months and ask yourself where addressing engagement stacks up in comparison to all of the initiatives you have lined up for your exit. How much bottom-line impact could address any engagement, leadership, and culture issues that might exist have on your business, even if you only recovered 50% of the human capital waste in your organization? And again this does not even account for the losses that you experience from employee turnover. In a study conducted in 2018, 52% of employees who left their company said their organization or their managers could have done something to keep them from leaving. Yet most employees who leave companies do so without ever having a real conversation with their managers or organizational leaders. This statistic indicates a huge gap in the trust that exists between most managers and employees. And by the way, one more stat. that might be interesting; 47% of an employee’s engagement in their work is driven by the strength of their relationship with their leader.
So what are the advantages of high employee engagement beyond just mitigating losses? According to Gallup, organizations that are the best at engaging their employees achieve earnings-per-share growth that is more than four times that of their competitors. Compared with organizations in the bottom 25% of engagement, organizations in the top 25% of engagement realize substantially better customer satisfaction, higher productivity, better retention, fewer accidents, and 21% higher profitability. Engaged workers also report better health outcomes.
So what if by investing in your people with some of the profits you have now, you could improve their health and happiness, improve the efficiency of the payroll costs of your organization, and simultaneously see higher profits? This is what we call a positive-sum game. All parties win.
So the question is, do you think having a healthy team of employees makes your company more attractive to a potential buyer? Do you believe that a healthier workforce can really be more productive and profitable? Do you think a healthier and more engaged workforce might improve the multiple of EBITDA that you receive at the sale of your business? How much would it be worth to you to gain an extra 1x of EBITDA?
So as you prepare to move toward the next chapter in the life of your business I encourage you to challenge the way you think. I challenge you to consider the potential impact of investing in the engagement levels of your employees, the development of your managers and leaders, and solidifying your organizational culture. Do you think of these as costs that will decrease your profitability, or as investments that will ultimately create positive outcomes, both for you and for your employees?
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Guest Blogger Alan Kemper holds a BS in Management from Georgia Tech, an MBA from Auburn University, a Doctorate of Business Administration from George Fox University, and a Lean Six Sigma Blackbelt from Georgia Tech. He is the President of LEAD Workforce Consulting and speaks and consults regularly on the power of engagement, leadership, and culture on organizational outcomes.
Contact us today and ask about our Surveys for Work and Well-Being and Values In Action.
Expensive Sentences and Your Business Exit
“It’s too late to turn back now.” “We’re too swamped for that now.” “We can probably do that ourselves.” “It’s crazy busy around here.” These are just a few examples of “expensive sentences” mentioned by my friend Jack Quarles in his book, Expensive Sentences, Debunking the Common Myths that Derail Decisions and Sabotage Success.
Jack explains in his book how conversations and discussions containing Expensive Sentences lead to decisions that impact the future of businesses, families, individuals, and nations. How the faulty logic and false constraints of expensive sentences can lead to derailed and costly decisions. He describes how conventional wisdom such as “You get what you pay for” or “We can’t change horses in mid-stream” can be a very costly and destructive trap. Jack paints a picture as to how we can over time drift away from a disciplined analysis of a decision and instead be drawn by a “particular idea as if pulled by gravity.”
When it comes to Exit Planning, or designing and implementing a plan to successfully and responsibly exit from a business, there is a seemingly endless supply of “expensive sentences”.
Such as:
“I’m not ready to exit yet…I will begin planning when I’m ready to exit “
“I am confident our business would be very attractive to a strategic or financial buyer”
“I know what my business is worth…I don’t need a valuation”
“I can sell my business for enough to live on for the rest of my life”
“Yeah, I think we arranged it so that my spouse will get the business when I die”
“I’m not worried about my employees leaving if I die…I have been good to them and they’re very loyal”
“One of my friends, who is in the same business, sold for $$$$...I’m sure I will be able to sell mine for at least that much”
“I don’t need a financial needs analysis. I know about what we would need.”
“I am confident I can sell my business when I want or need to”
Business Owner Exit Planning employs a process requiring analysis that results in a strategy that will allow you to exit successfully and responsibly. Avoid the costly and destructive trap of expensive exit planning sentences and begin the exit planning process today.
Invest 12-15 minutes in the FREE ExitMap® Assessment and get a 12-page report scoring you in four key exit planning areas: Finance, Planning, Revenue/Profit, and Operations.
Focus On Net Proceeds And Not Just Sale Price When Selling Your Business
John was excited as “today is the day!” Twenty-five years ago this month he had started his home remodeling business with a truck and a tool belt, and today at 3pm he was going to the deal table to sell his business to a much larger remodeling company. It would be a strategic purchase for the buyer who was willing to pay a premium with a goal of expansion in the region. With the check received today, John knew he could now do everything he and Kim had thought about doing for years — travel, more time with the family and for hobby’s and other interests they both enjoyed.
The amount received actually exceeded John’s “number”, and hence, he and Kim spontaneously pulled together a celebration dinner with family and a few close friends at their favorite restaurant. John had done a great job through the years building a “sellable business” focusing on a strong management team, strong financial performance, a plan for growth, up-to-date systems and processes and other value drivers which and now he was reaping the rewards. There was indeed much to celebrate!
Fast forward, six months later: John has come to realize that his number needed to be quite a bit larger than what he had originally calculated. In whatever way he had performed his calculations, he failed to consider to the extent needed, or at all, the following important factors in the equation:
Of the $10 million in proceeds, he was going to net approximately $6 million after these charges/expenses:
Transaction and professional fees.
An asset sale was negotiated and there was income tax on some asset depreciation recapture.
$1 million in business debt needed to be repaid.
Capital gains and affordable care act taxes.
Miscellaneous expenses including “stay bonuses” for two key employees.
John was in a small percentage of small business owners who have built a sellable business and actually sold it for their “number”. For that, he is to be commended and congratulated. At the same time, John was now experiencing much regret and was actually concerned about his financial ability to do everything he and Kim had planned on. What could have John done differently when planning for this most significant event? Worked with his exit, financial, transaction, and tax advisors well in advance of the sale in calculating the real number… net sale proceeds…and whether or not he and Kim could do all they wanted with that number.
If you need help contact us at 301-859-0860 or email@ennislp.com. Invest 12-15 minutes in the FREE ExitMap® Assessment and get a 12-page report scoring you in four key exit planning areas: Finance, Planning, Revenue/Profit, and Operations.
To ESOP or not to ESOP...
An ESOP, or an Employee Stock Ownership Plan, can be an attractive exit route for business owners. It can provide a path to “take chips off the table”, sustain the business culture, motivate employees, and ensure that employees have a future with the business. Selling owners can also have more control over the timing of their departure from the business, with the most enticing aspect often being the favorable tax consequences of a transaction.
These are indeed compelling reasons to move toward an ESOP for an owner who wants to mitigate taxes while at the same attain pronounced values-based goals. An ESOP can indeed be a rewarding exit strategy for all stakeholders in the right situation.
There are however drawbacks that Business Owners should understand and plan for with rigor (with an experienced advisor team) prior to implementing an ESOP strategy. Following are some key planning issues:
Realizing Owner Financial Goals
There are financial risks that an owner needs to understand, mitigate with planning, and be willing to assume as they execute an ESOP:
The management team will need to run and grow the business successfully. If they don’t, there may not be adequate cash flow to pay off the debt owed to the selling owner(s).
It is often necessary for the selling owner(s) to accept a promissory note for part of the purchase price. There is a risk of non-payment if the business does not have adequate cash flow to make loan repayments.
The owner(s) may also be required to personally guarantee bank financing that is used in purchasing their stock. If the selling owner(s) has pledged sale proceeds as security for the bank loan or has not received the entire purchase price at closing, the owner risks losing the unpaid portion of the sale proceeds, if they are no longer involved in the business or have control.
Establishing and operating an ESOP can be expensive.
An ESOP transaction may not be as financially beneficial as compared to a sale to a strategic buyer.
Next-Level Management Team and Other Business Considerations
A “next-level” Management Team, that can operate well in an employee-ownership environment capable of taking the business to the next level of growth, is critical for a successful ESOP transaction.
If employees observe ineffective management, it can impact their perspective on the future growth of the business and their ownership interest in the business. This could result in employees leaving when a goal for the ESOP was employee retention.
ESOPs can put a strain on the future cash flow of the business in repaying the loan if the owner’s stock sale was financed. Also, the obligation to purchase stock from the ESOP accounts of departing employees can result in further cash flow challenges.
The level of due diligence is like that of a sale to a third party. This will require time and attention, which can result in a lack of focus on managing current business growth.
Properly executed ESOPs produce favorable tax consequences, resulting in a high level of scrutiny and regulation by the IRS and Department of Labor.
The ESOP exit route may be the most complex requiring the deepest level of expertise for analysis, feasibility, and implementation. Make sure to get the right experts on your advisor team early in your process, as it can take years to prepare your business for a successful transaction.
Following are ExitReadiness® PODCAST episodes focused on ESOPs that will prove helpful:
Contact us today if you need help in determining if an ESOP is your best exit strategy.
The Achilles Heel of Wealth Planning for Business Owners
Small to mid-sized business owners pour themselves into building a valuable business, and if they have a retirement strategy, it likely includes “selling the business”.
Many business owners have a Wealth Advisor who diligently seeks to ensure the owner has a plan for that “Next Act” – when they sell the business. And as I speak to Wealth Advisors, a common data point is that for the majority of Business Owners, the business is often a major portion (80%+) of their portfolio. So, the retirement plan is:
1. Run the business and invest in your 401K and
2. Sell the business to fund retirement.
Yet – there is an Achille’s Heel to this plan.
When asked how the value of the business was determined, advisors often say “The Owner told me the number”. And when we dig a little deeper, that value the owner passes on is often not based on an outside valuation/estimate but on conventional wisdom, hearsay, their friend’s business, or a simple gut feel. A full 80% of the Wealth Advisor’s planning is not based on objective data, but on a gut feel! Unfortunately, if that gut feeling is wrong, it can be too late to correct it.
Basic Exit Planning is a key to protecting against this threat and ensuring that plans are based on reality. Several key facets of Exit Planning support sound wealth planning, including:
1. Establishing business value through a 3rd party analysis through a formal valuation or estimate of value. This gives an objective number for planning.
2. Assessment of business quality – giving an objective sense of whether the business is sellable.
3. Plan for value creation – if there is a value deficiency, exit planning focuses on enhancing business value, including correcting weaknesses and planning for growth.
4. Clarification of Exit Options allowing an owner to understand and choose an optimal exit path that maximizes the ability to meet financial and non-financial goals
5. Coordination with Wealth Advisor, Tax Advisors, and other professionals to develop tax-efficient strategies for wealth planning, as well as plans to accrue wealth prior to sale.
6. And perhaps most importantly, clarity of the reality of the situation. If the news is bad, at least it isn’t a surprise and plans can be made accordingly.
We recommend:
1. Team up with a wealth advisor who routinely works with business owners and understands your unique challenges.
2. Establish the value of your business with a 3rd party estimate of value/valuation.
3. Consult an Exit Planner to understand your exit options.
4. Consult your CPA to understand the tax implications of those options.
5. Work with your advisors to accrue wealth while you own the business.
Invest 12-15 minutes today in the FREE ExitMap® Assessment and get a 12-page report scoring you in four key exit planning areas: Finance, Planning, Revenue/Profit, and Operations.
Scary! High Hanging Bridges and Exit Planning
Scary high hanging bridges
If you’ve ever attempted to cross a rickety bridge expanded high above whatever is far below, you know how terrifying it can be even if you’re not afraid of heights! If you fear heights like I do, each step on a high hanging bridge produces huge anxiety as you become keenly aware of what’s at stake…your life! Once as a teenager, I started out across a bridge like that with friends, and realized real quick that there was no way I could make it across and back…I was simply too afraid. In a rare “wisdom moment”, I decided to turn back. Meanwhile my friends had arrived on the other side, and were sitting on the hill loudly mocking their beleaguered friend. So, not only a terrifying but also a humiliating experience.
Potential for disastrous consequences
The source of my anxiety was an intense awareness of the disastrous consequences of a fall from that bridge, that seemed all too probable. It would be a long and hard fall to the river about 100 feet below…and the odds of a skinny teenager surviving were not high! Disaster for sure!
Exit planning can be scary too
An owner’s life may not be at risk when planning an exit, but many other valued aspects of life, including financial security and relationships, are at stake. So, it is certainly understandable when owners experience fear and trepidation during a transition, as the decisions such as the following have huge impact on the owner and all business stakeholders:
Should I risk having my kids take over the business now….even though they may not be ready? I want to set them up for success…
I’m going to sell to my key employees….no wait, what would happen if they can’t pay me?
I’m going to move ahead with a sale to a third-party. But wait, will my employees and customers still be treated in the same way…that’s important to me…
How will my spouse and family be impacted if I die prematurely? Who will own and run the business?
I really don’t know what I’d do after leaving that would be as meaningful as building my business…it’s scary to think about!
As owners become highly sensitized to the significance of these issues, it sometimes can be easier to “turn back” and not take any further action in planning their departure. They might experience paralysis with procrastination, or simply decide not to do anything at all.
5 tips for crossing hanging bridges and planning your exit…if you’re scared…
In an interesting article, the author Anna (“would be traveler” and “ethical adventurer and proud member of #TeamHerbivore”) provides very helpful and insightful advice about crossing hanging bridges:
Stay with someone you trust and who understands your fear.
Cross the bridges with a group of people.
Avoid the tendency to look down – Keep your focus on the main reason you’re at the hanging bridges in the first place…
Don’t think about how high up you are – At the beginning of each bridge, you’ll see a sign telling you how high and how long the bridge is. If knowing these statistics is a trigger for you, avoid looking at them. Instead, walk straight past them and out onto the bridge.
Explain your fear to the front desk – He said that if I couldn’t make it over the first one without feeling terrified, he would refund me the money I paid.
Anna’s advice for crossing scary bridges transfers nicely to business owners planning to exit
In reading Anna’s article, and her recommendations for those facing their fears of hanging bridges, I found it interesting how her advice correlates with exit planning:
Move forward with a trusted advisor, and possibly another owner who has “gone before you”, who can understand your fear and apprehension.
Go through the process with the right group of people — a capable advisor team.
Keep your focus on the main reason you’re in a planning process to begin with….your personal vision for a successful exit on your own terms and conditions.
Don’t dwell on what triggers fear and apprehension, but simply create the plan and execute it one step at a time.
Anna’s #5 doesn’t translate…no refunds!
Get started today “crossing the bridge” to exit. Start with the right trusted advisors, the right process, and adequate time for planning and you will minimize anxiety and maximize your potential for a successful transition.
Invest 12-15 minutes today in the FREE ExitMap® Assessment and get a 12-page report scoring you in four key exit planning areas: Finance, Planning, Revenue/Profit, and Operations.
Before Moving Forward with a Sale to Key Employees...
If you’re a business owner with a desire and vision for selling to key employees who have helped you build the business, the following is a short list of important issues to seriously consider prior to moving forward. And, the sooner you begin the greater chance of a successful transition.
Identify and test your assumptions. For example, it’s not uncommon for owners to assume that employees want to buy and own the business. Often this simply isn’t the case due to differing values, life goals, risk tolerance, etc. You and they will be better served if this is established sooner rather than later. It’s not unusual for key employees to prefer a cash-based incentive plan such as Phantom Stock, particularly if they are approaching an age for retirement.
Employees may be enthusiastically willing to become owners, but perhaps not equipped or even well suited to become owners. Facilitating an objective evaluation of their skills and characteristics, and professional coaching if needed, early on in your process is advisable.
Avoid making premature and unsubstantiated promises about ownership, either written or verbal, that can result in employee expectations of ownership.
Be clear on common mistakes to avoid such as selling too much too soon and giving up control prior to realizing goals or including employees in the buyers’ group that will not work well as partners (see the Partnership Charter).
Be clear on your own risk tolerance. For example, how much $$$$ of a deal would you be willing to self-finance, and for how long? Forecasting business cash flow with a “sanity check” on how the business would financially support the transaction will help you decide how much risk you’re willing to take on.
These are things you could do on your own without assistance, but a safer and risk-averse way to proceed is to engage professionals who can identify and test your assumptions, what you know and don’t know, and then provide advice as to how to proceed wisely.
Invest 12-15 minutes in the FREE ExitMap® Assessment and get a 12-page report scoring you in four key exit planning areas: Finance, Planning, Revenue/Profit, and Operations.
Cash Flow Projection and a Successful Exit
A small business owner named Simon understands how the cash flow of the business drives his current income, and as well how it would eventually impact the valuation and sale price. However, Simon lacked awareness of elements of potential exit routes that demand cash flow. For example:
When considering an ESOP, his business met all the basic parameters EXCEPT having the adequate cash flow to service the debt needed to fund the ESOP.
When running a “sanity check” as to whether key employees could finance an insider purchase with a bank loan, the bank would only finance a small amount…due to projected cash flow.
In considering a third-party sale, and as a result of Simon’s exit planner’s financial gap analysis, there was a need to invest in updated systems, new hires (next-level management), and incentive plans for key employees in order to increase the value of the business…cash flow was needed to make it happen.
Simon has said that “he’s ready to exit”, but after analyzing his business’ readiness for an exit, and projecting future cash flow, Simon will not be able to exit the way he wants to for at least five years — there’s just too much to get done to realize the value he needs. So, the moral of the story is to have a ten-year cash flow projection and keep it current for planning both growth and your eventual exit. The stronger the cash flow and its management, the greater chance of building a transferable business and having multiple options for exit.
And, begin planning today…it will take longer than you think.
Invest 12-15 minutes in the FREE ExitMap® Assessment and get a 12-page report scoring you in four key exit planning areas: Finance, Planning, Revenue/Profit, and Operations.
Will Your Buy-Sell Agreement Solve Problems or Cause Problems?
The most important business planning document that multiple owners of a business can have is a buy-sell agreement. A buy-sell agreement provides direction to owners and other stakeholders when certain events trigger the transition of an ownership interest in a business.
These agreements can be very effective in minimizing uncertainty and indecision during challenging and emotional times. However, it’s not enough to simply have a buy-sell agreement, it needs to be written skillfully to accomplish the desires and goals of the owner(s).
Buy‐sell agreements, in some situations, can create as many questions, problems, and conflicts as they seek to address. A primary benefit of having this agreement is to avoid having to make decisions that could lead to disagreements at an inopportune time. Unanswered questions, outdated agreement language that no longer represents the goals of the owner(s), an agreement that is not comprehensive and too simplistic or was poorly implemented can render the buy‐sell agreement ineffective and fail to accomplish the intended purpose.
Opening questions:
Do you need a buy-sell agreement, and if so, do you have one?
Is your buy-sell agreement outdated? When was the last time your agreement was reviewed to ensure that it still well represents your goals?
Will your buy-sell agreement cause more problems than it would solve in its current form?
Too often buy-sell agreements have one or more of these planning gaps:
Ignores lifetime trigger events such as divorce, bankruptcy, voluntary exit, and involuntary exit.
A simple valuation method that does not consider the ever-changing dynamics and growth of the business.
The timing of valuation is not adequately addressed.
When buy-sell agreements are not regularly reviewed, they can become outdated and result in unpleasant surprises when they are needed. Owners rely on Buy-Sell Agreements to manage emotional situations, and if those agreements don’t account for changes in their goals as well as the business, they can cause significant problems for everyone involved.
Many buy-sell agreements are too simplistic to manage the personal complexities of the individual owners who sign them, and their relationships with each other. For example, companies with multiple owners often don’t want to treat all owners similarly, or one owner subject to the agreement may be uninsurable. In family businesses, non-business considerations may affect the design of buy-sell agreements.
Fails to address threats to business continuity. Most buy-sell agreements don’t address the challenges that the business, surviving owners, and deceased owner’s family will face after an owner exits. Too often they only address the transfer of ownership upon an owner’s death or permanent incapacitation. For example, if the surviving owner does not have enough assets to satisfy the personal guarantees previously made by the deceased owner, once that financing is pulled, the business may not be able to continue. Likewise, if the deceased owner was the company’s rainmaker or COO and no one can step into those roles, the business may be unable to survive.
Buy-sell agreements are typically deficient in considering the financial security of the decedent’s family.
Questions your buy-sell agreement should answer include the following:
Are “lifetime triggering events” addressed as well as death and disability? Divorce? Bankruptcy? Voluntary exit? Involuntary exit?
What type of valuation estimate is required? Book value? Fair market value? Fair value? Investment value? Agreed upon value?
What is the desired timing for the value calculation? Date of the trigger event? Subsequent event?
Does the entire business need to be valued, or a partial ownership interest?
What method of funding will be used to complete the transaction?
Cash – Requires sufficient cash flow or reserves to pay the full sale price in a lump sum. May not be available when needed.
Loan – Future credit availability and cost of borrowing are factors.
Installment Sale – Requires repayment from earnings and is contingent upon the future growth and success of the business.
Insurance – Provide liquidity when needed for either death or disability trigger events.
Should the buy-sell agreement method of funding be taken into consideration in the value?
What method will be used for valuation? Fixed price? Formal valuation? Formula-based?
Is there clarity as to what is mandatory and optional regarding the purchase or sale of an ownership interest?
What goals for your spouse and family do you want to be realized if you die, become incapacitated, or otherwise exit the business unexpectedly?
Contact us today to learn more about our STRATEGY RENOVATION® Business Continuity Plan if you need help creating or “renovating” your plan for the unexpected.
Keep The End In Mind
Often business owners are exhorted to build their business with "the end", or their eventual exit in mind. This can be a good idea in that it lends toward building your business to have "transferable value", or value that someone else will want to buy and own when you're ready to leave. Value apart from you the owner.
It is also wise to build your exit plan with the end in mind. The end being, not just your eventual exit from the business, but also your exit from this life. In other words, creating your business exit plan with your "desired legacy" in mind. Each of us leaves a legacy, but we don't all leave the legacy that we want to leave.
We find that when thinking of legacy, business owners often focus on the transition of wealth. And certainly, the effective distribution of wealth to future generations is a most important consideration. At the same time, there are other significant and unique factors pertaining to the legacy of a business owner:
Family peace and harmony
Provision for family and others
Sustaining the culture of the business
Effective transfer of personal and business values to future generations
Reputation and role of the business in the community | Family name in the community and marketplace
Continued service to employees, customers, vendors, local economy
Being prepared for the unexpected
The way(s) in which the business owner wants to be remembered
This is a limited and representative list of issues and categories for reflection and planning pertaining to the legacy of a business owner. You may have other priorities and desires. The point is, in order to leave your desired legacy, it will take reflection, planning, and time to execute the plan. Get started as soon as possible, as we don't know how long we have to create a plan for our desired legacy.
Invest 12-15 minutes in the FREE ExitMap® Assessment and get a 12-page report scoring you in four key exit planning areas: Finance, Planning, Revenue/Profit, and Operations.
'''What You Don't Know Won't Hurt You!"
Have you ever heard the old saying, “What you don’t know won’t hurt you”? Not sure why, or who it was in my life at the time would say it, but I remember hearing it a lot when I was a kid. Through the years I’ve found this saying, through personal experience and observation, severely misleading at best. I wonder if the person who originated the phrase had only “current hurt” in mind. For example, I might be unaware that my car has no engine oil and that the engine is going to die exactly a week from today – but today, because I don’t know it, it doesn’t hurt. However, in a week when the car blows up and catches on fire, there is a lot that’s going to hurt. So, what you don’t know, can absolutely hurt you, and often does…it simply may not be immediate.
If you’re a successful business owner, your business may be your biggest asset, and play a key role in whatever represents success for you in the future (i.e., financial, values-based, or legacy goals). You may understand there are things you need to know about how ready you are, and how ready your business is for you to leave on your own terms and conditions. But you’ve chosen not to know, as it will surely result in additional work, time, and/or financial investment…and because “what you don’t know, currently isn’t hurting you.” It may not hurt now, but the hurt that comes later could be devastating when you eventually leave your business if you then learn that your financial, values-based, and legacy goals are not going to be realized.
Take steps now to expose reality and get the knowledge you need then act on it. And get help…because you don't know what you don't know.
Invest 12-15 minutes in the FREE ExitMap® Assessment and get a 12-page report scoring you in four key exit planning areas: Finance, Planning, Revenue/Profit, and Operations.
"Five Years...That's When I'm Planning to Leave..."
We refer to it in the exit planning trade as the "perpetual five-year exit plan". When asking a business owner when they plan to exit their business, the following is a fairly common response: "Not sure but probably about five years from now..." And it’s not unusual to get the same response year after year from the same owner. There can be numerous and varied reasons for the response, but a lack of planning is often primary.
The problem is that if you don't begin planning now, you and your business may not be ready for you to exit in five years, and it could end up being necessary for you to plan and wait for another five years in order to attain your goals.
In our effort to help you avoid the perpetual five-year plan, the following is our "2021 Exit Planning To-Do List" we posted at the end of last year to help you get started.
DECIDE WHERE YOU WANT TO GO. Establish Clear Goals and Objectives for Exit and Your Life After Exit.
When do you want to leave the business? Whom do you wish to transfer/sell the business to?
What are your values-based and legacy exit goals?
What is your post-exit "life plan"? Business owners can often regret leaving when lacking a plan for life that replaces the sense of purpose and meaning they experienced in building their business.
Update your Personal Financial Plan. Find out how much $$$$ you will need post-exit to do all you want to do. Is there a gap?
ASSESS WHERE YOU ARE. Without Accurate Data All Planning Becomes Meaningless.
Get an accurate Business Valuation. If the business is your largest asset shouldn't you know what it really is worth to potential buyers?
Assess your business Value-Drivers and areas of Risk.
Review your Business Continuity Plan for life transitions and unexpected death or disability. Co-Owners would include a review of their Buy-Sell Agreement to ensure alignment with current goals of all owners.
Review Estate Plan to ensure alignment with exit goals.
DESIGN AND IMPLEMENT A PLAN. Build Transferable Value and Enjoy a Future Exit On Your Own Terms and Conditions.
Which Exit Route will best accomplish your goals? Sale to Third-Party | Sale to Insiders | Transfer to Family Members | Sale to ESOP | Absentee Owner.
Focus on growth and profitability today. At the core of tomorrow's successful exit plan is today's profitability and plan for growth.
Strengthen business value drivers.
Update strategic financial plan for the business.
Do you have the right Team of Experienced Advisors for plan design and implementation?
Who will Manage the Exit Planning Project?
Following are some easy next steps: