It’s time for business-owning boomers to plan for transition
Business owners have more to worry about than just death and taxes. There’s also the eventual transfer of the ownership of that business. That’s where exit planning comes into play.
Unfortunately, most business owners, especially those who are members of the baby boomer generation, don’t have such a plan in place. Consequently, they run the serious risk of losing significant value, and paying more taxes, if they or their estate is forced to sell the business when they are no longer able to run it effectively. Let’s consider these two recent examples.
Example 1: Joseph owned and operated a successful manufacturing business, which he started in the basement of a triple-decker. By 2000, the business was easily worth over $10 million. That was also the year Joseph turned 65.
Needless to say, Joseph didn’t have his fastball any longer. The business environment became more complex with the onset of globalization. Joseph should have responded by going offshore to have certain items manufactured at a cost that was lower than Joseph’s domestic cost of materials. However, at 65, Joseph didn’t have the health or energy for extended trips to Third World countries. Instead he hunkered down in his office hoping that he could rely on his longstanding relationships with his old customers.
Unfortunately, most of those customers were transitioning into the hands of new owners who were only loyal to their bottom line. Within 24 months the business was in the red for the first time in its history. Joseph was ultimately forced by his lenders to sell the company. He was able to sell the assets of the company to a foreign competitor for just enough money to pay off the majority of the company’s creditors. There was nothing left for Joseph or his family.
Example 2: Fred owned and operated a very successful aviation-related business. In 2005, the value of Fred’s stock in the company was easily worth $5 million. At age 66, Fred started to think about selling the company, although he never went through the planning process, nor did he engage the services of an investment banker. Instead, he reached out on his own to several competitors, hoping that one of them would buy the company. The process was more time-consuming than he had expected, and as a result the business began to suffer.
In 2006, Fred had to deal with certain health issues that resulted in several extended hospital stays. The decline in his health caused a further slowdown in the sale of the business as the “potential” buyers tried to exploit the situation. Fred died before a “going concern” sale of the company could be completed. The business was ultimately sold to a totally unrelated third party, but at a much reduced price that paid all of the creditors in full, plus $100,000 for Fred’s widow. Clearly, it was significantly less than the $5 million-plus Fred could have received for his stock in the company just a few years earlier.
Exit planning is the process by which the business owner can obtain a comprehensive roadmap that leads him/her to a successful exit from the ownership of a private or closely-held business. The plan must, therefore, focus on all of the business, legal, personal, financial and tax issues that arise from the sale or transfer of a closely-held private company.
When completed, it covers a broad range of contingencies, such as illness, burnout, divorce, death and disability. The purpose of the exit plan is to maximize the value of the business at the time the owner decides to transition it and to make certain that it is structured in a way that will minimize the amount paid out in taxes.
Additionally, the exit plan deals with the timing and type of transition the owner wishes to pursue. The word “transition” is used because it covers intergenerational transfers (sale and/or gifts), employee/management buyouts and ESOPs as well as an outright sale to an unrelated third party or equity fund.
Even if you intend to transfer it to your children or your employees, numerous things have to be done well in advance to make certain that everything happens exactly the way you want it for both your benefit and for the benefit of your family and your employees.
If you intend to sell your business to an unrelated third party, exit planning and timing are even more critical. In most transactions, the buyer wants the seller to stay with the company for at least a year or more to assist in the transition. Couple that with the fact that it can take over a year to complete the sale, and you are looking at a two- to three-year process.
Consequently, if you thought that you’d be leaving in six months for that long-awaited trip around the world, you’d better reschedule it.
In the majority of cases, a business represents the owner’s most valuable asset. The value should be protected for the owner’s retirement and family. Business owners worked hard to create the company, which is why they should take the time to see an exit planning professional to begin the process most appropriate for their particular situation.
Daniel W. Sklar is one of the founders and managing director of The Daymark Group LLC, Manchester, which specializes in mergers, acquisitions and business divestitures for middle market closely-held and family-owned businesses.