If there is no one to buy your business, you shut it down. In a liquidation you sell off your assets, collect your accounts receivables, pay of outstanding debt, and keep what’s left, if anything for yourself.

The primary reason to consider liquidation is that a business lacks sufficient income producing capacity apart from the direct efforts of the owner and apart from the value of the business assets themselves. That is to say, that the value of the income produced by the business is worth less than the market value of the assets used in the business. No one would pay more than the business value of the assets. In general, small business producing nothing more than a “living wage” for their owners are unlikely to be sold to anyone other than, perhaps, a key employee. 

In businesses that have little “hard value” other than accounts receivable, liquidation produces the smallest return for the owner’s life long commitment to the business. In businesses with few accumulated assets, liquidation is a last ditch method of of getting money out your business. Smart owners plan ahead to ensure that they do not have to rely on liquidation as a last resort to fund their retirement.

 

 

 

You might begin the business transfer process with the thought that a sale to a key employee, co-owner or family member is the path to maximum cash on departure. This is very seldom the case. With proper preparation, more often than not, you can maximize the net dollars you receive by selling to a third party. Additionally, most third party sales are cash and seldom are you forced to “carry” more than 25 - 30% of the sale price.

The bottom line: Selling to a third party maximizes the money you receive and minimizes your finacial risk.

Surveys show most owners who initially want to transfer their businesses to co-owners, employees or family members, usually end up selling to an outside third party. While there are many reasons for this, the most common are:

• Your business is too valuable to purchased by anyone other than someone with access to considerable amounts of capital.
• Prospective buyers among your family or employees, are not capable of running the business.
• You want to receive a substantial amount of cash at close. This is not likely if you sell to co-owners, employees or family.
• Additional cash infusion into your business is needed for it to remain viable after your departure.
• Your employees or co-owners are willing to purchase only a part of your business.

One of the advantages of having other owners in your business is that they can be your means to retirement.  A common retirement planning technique is to take on a younger minority partner while you are still active. Upon your retirement, the younger owner will purchase your remaining stock.

This can be advantageous because the younger partner learns the business under your direction. Equally important for you, the younger person’s strengths and weaknesses are known to you, so you have a pretty good idea of how the business will be run after you leave. Most important, the business can be sold into a market you control. 

Take the case of Fred; Fred started his manufacturing business in the Silicon Valley in mid-eighties and took on Gary as a ten percent partner ten years later, forming FGM Manufacturing Company. At age 61, Fred wants to retire and maintain his current lifestyle. He would like to sell his share of the business to Gary - if he can be guaranteed a good retirement income. Gary who is 40, doesn’t have the cash needed to acquire Fred’s shares. Consequently, Fred is left to contemplate the advantages and disadvantages of a sale to his co-owner.  

Advantages

• Owner can structure the deal ahead of time to suit his needs and objectives.
• Establish an internal fund for the eventual purchase of owner’s interest.
• Maintain control during the buyout.
• Pre-qualify buyer(s) on the job.
• Continuity of business mission and culture.
• Employees who helped build the business retain their jobs and future with company.

Disadvantages

• Limited cash up front, unless pre-funded (usually with owners money anyway).
• Increased risk exists because buyout must be funded with future earnings after owner leaves.
• Difficult for employees or co-owners to afford payments in businesses worth over $2 million.
• Employees often don’t have the entrepreneurial mind set needed to meet the challenges of ownership.

Stephen owned a successful health care business in the San Francisco Bay Area. He knew the time had come to transfer ownership of his business. He had started the company over 25 years ago, had poured his energy, talent and money into it and was proud of its success. Stephen had two sons working in the business and when he contacted me to discuss a transition, it was clear he wanted to keep the business in the family. I knew Stephen to be a take-charge person but as I listened, I realized he had many concerns. 

If you are a typical business owner, there is a good chance that you want to transfer the business to your children. Recent surveys confirm that fewer than 1 in 3 succeed. Even these estimates may be optimistic and my guess is that less than 1 in 10 family businesses are successfully transfered to the children. 

Still, it is in your best interest to understand the advantages and disadvantages, realize the difficulty of this type of transaction, and prepare your business for the possibility, indeed the likelihood, that it will be conveyed to another type of buyer.

Advantages

• Fulfills personal goals of keeping business and family together
• Provides financial well-being for family members
• Allows you to stay active in the business with your children
• Allows you to control your departure date
• Enables yo to fix value and sell for what you need to live on  

 

Just last week I met with the owners of a manufacturing company in San Jose, California. Husband and wife had started the business 30 years ago and over the years had brought in their son and brother in law to work in the business. Now well into their 60s, the owners want to retire while maintaining their current lifestyle.

They would like to transfer ownership to their family members if they can be certain of a good retirement income. They are worried about the family’s ability to run the company. Consequently they are considering selling the business to an outside cash buyer.

That was their problem when they came to me. Before making a plan to resolve such a dilemma, it was important to lay some ground work. Ground work that may apply to your business as well. 

Selecting your successor is a fundamental objective that you should decide early in the planning process. Many business owners want to transfer the business to family members, an employee, or co-owner. Only a small percentage want to sell to an outside third party.

Unfortunately for most owners, the persons they first identify as their successors do not usually end up as the ultimate owners. Much effort is wasted riding the wrong horse. Thats why it’s important to understand the options for leaving your business and the advantages and disadvantages of each option.  

Basically there only four ways to leave your business.

• Transfer ownership to your children
• Sale to co-owners or employees
• Sale to a third party
• Liquidation  

We talked about the importance of determining your departure objectives as a first step to leaving your business under most favorable conditions. One of the goals outlined was deciding to whom you will transfer the business: children or family members; key employees; co-owners; or a third party known or unknown.

It is important to appreciate the methods of business valuation and the need to place a high or low valuation on your business depending on what type of buyer you have targeted as the new owner. If you want to sell to a buyer outside the company, you will want to establish as high a valuation as possible to maximize what you get. If you prefer to sell or transfer ownership to an “insider” (key employee, co-owner, or family member), you may want to establish as low a valuation as possible to minimize what the IRS takes.

We’ll discuss each type of buyer and the pros and cons of each in a future post. Remember, its important to value the business early in the planning process so you will have time implement tactics to increase (or decrease) the valuation to best meet your needs given the type of successor you have selected.

Business owners often ask, “How much is my business worth?” The question may be irrelevant and a much better question is: “What is the most I can get for my business under the most favorable terms and conditions?” Answering this question in a more practical manner requires following one of two approaches. The first is standard valuation methodology performed by your CPA or a professional business appraiser and is often used for purposes of gifting, estate taxation, and general planning . The second approach is that of the marketplace and must be used when you decide to sell to a third party.

Please realize that business valuation is a process that is not absolute. There are a number of methods of valuing a closely held business, each involving a variety of factors and each rendering a different value. I recommend using several techniques to arrive at a valuation range of fair market value. The actual “sale price” of a business should not be confused with fair market value used for transferring ownership to a key employee, co-owner, or child. Not that fair market value and sale price are unrelated, but fair market valuations proceed on the hypothetical assumption of what a willing buyer would pay a willing seller when neither is under any compulsion to buy or sell. As such, it only an educated guess.  

If you have decided to sell to an outside third party, a valuation can serve as an excellent starting point in determining your sale price. But you must gain access to how the market is really going to view your business. You must go to the marketplace and utilize the experience of a business market specialist. Depending on the size of your business and the type of purchaser interested in acquiring it, you will want to utilize an experienced business broker or investment banker.

 

 

 

We’ve talked about some important steps in developing a successful business exit plan: Setting a tentative Departure Date so that Advisors can put all planning efforts in context;  assessing your post-retirement financial needs because meeting them is a key measure of your Exit Plan’s success; choosing a successor to give structure to your Exit Plan. Keep in mind, it is not uncommon for an owner’s sale to key employees (for example) to be preempted by an offer from a third party. Your advisors should design a flexible plan but they do need direction from you.

Another element of a successful Exit Plan is to know what your company is worth. To accomplish this, retain (if you haven’t already) a valuation specialist to give you and your advisors a good idea of what your company is worth. As you know, any Exit Planning Process should be owner based. Its foundation is your goals—one of which is how much money you want when you leave your company. The other part is knowing what type of vehicle you’ll be driving to that destination. You and your advisors need to know whether your company is a dependable, high-performance road warrior or a temperamental vehicle prone to periodic breakdowns. If it is the latter, incorporate that knowledge into your Exit Plan.

Part of the necessary planning includes minimizing or eliminating any weaknesses, making your company more desirable to buyers—thus more valuable. Once you determine current value, these plans can motivate employees to increase that value to the level you require for a successful exit. If you are considering a transfer to insiders (key employees, co-owners or family members), your advisors will likely recommend that you begin transferring ownership in advance of the transfer of your controlling interest. So that you receive more money (and the IRS less), these initial sales are usually made at a discounted value. Of course, the IRS will carefully review the reasons you reduced its take, thus highlighting, once again, the need for a certified valuation specialist.

No matter your desired target successor, or target departure date, an independent valuation provides a solid basis for future planning. Of course, it costs money—typically between $4,000 to $10,000. Imagine that, after spending many months and thousands of dollars on planning your exit, you learn that the value of your company can not support your exit –either on your timetable or for the amount of cash you wanted. Alternatively, you could find that all the months, even years, of working toward your departure were simply unnecessary in light of the lately-discovered value of your company. Would you put your home on the market without knowing its value? Your business is likely far more valuable and the conversion of that value into cash is far more important to your financial future. For all these reasons then, determining a reliable value is essential before planning your exit can truly begin.

 

You, or someone very close to you, are part of 78 million Americans that make up the largest population segment in the United States: Baby Boomers. This generation is classified as anyone born between 1946 and 1964. According to a recent study by BIG Research, 9% of boomers with household incomes exceeding $50,000 are small business owners. Using simple math that means 7 million companies in the United States are owned by individuals 44 – 62 years old.

If you or a family member fall into this category (baby boomer business owner), what is your exit strategy with your business? Currently, 33% of business owners in America will successfully transfer their family business to the next generation (Family Firm Institute). If you fall into the majority of US business owners (67%), then your children (X & Y generations) have opted to not follow in your footsteps of taking over the family business, leaving you with significant, life shaping decisions. 

Now more than ever it is critical that baby boom business owners figure out where they stand so they can strategically navigate for the future. Determine your ideal destination and end result, then reverse engineer your path to reach those specific goals. For the retirement planning of a small business owner, the starting point in all of this should be a small business valuation. It takes years to build a successful business, don’t rush your exit. Know your value, know your business!

 

A lot of business owners ask me, “When should I develop my business exit strategy? and how far in advance of my departure should I build my plan?” My answer is always immediately! A strong business exit plan is dynamic document to be reviewed and updated frequently as conditions change. Change in your personal goals, your business growth, the business acquisition climate and the overall economic environment will all play a part in continually shaping your exit plan.

I’m going to assume you ultimately want to exit your business on your own terms by creating a company that is highly desirable to potential buyers. Generally speaking, the more time you have to implement a plan, the closer you will get to your goal. Below are some of the advantages of early planning:

• Market Timing; you will be able to take advantage of strong demand for your type of business.
• Economic Conditions; you can take advantage of economic trends. Will things be better or worse over the next 3-5 years?
• Tax Liability; you will have time to position your business and exit point to maximize your profit and minimize what the IRS takes.
• Barriers to Sale: cure any defects that may depress the value of your business.
• Growth; establish systems and groom personnel to increase business value.
• Exit options; you will have time to select the exit option you prefer: succession, sale or other transfer.
• Personal planning integration; dovetail business exit planning with personal financial goals.