As you run your business on a day-to-day basis, have you created a long-term strategic plan? Do you think you can sell your company in a few years with enough money to buy a small private island, to live out your days drinking from a coconut with a parasol?
Well, think again. Smart business owners need to have an exit strategy, or a succession plan. There are several options, each of which requires strategic and tactical planning. For example, would you run your business differently if you intended to sell it rather than turn it over to your children or simply shut the doors and retire?
HOW WILL YOU EXIT YOUR BUSINESS?
First, it is important to consider two different types of exit strategiesliquidation or continuation. Continuation consists of selling your company or finding a way to continue to earn revenue from your company even though you are not running it. And selling your company may be harder than you think.
Liquidation may be a good alternative to consider. One financial goal of owning a company is to build personal wealth with corporate dollars. For example, many systems integrators own their own shop or store. But typically it is not owned within their systems company, but owned either personally or by another corporation, such as an LLC (Limited Liability Corporation). Most CPAs will recommend that you own property personally or through a different company than your systems integration company. That way, the appreciation builds personally and you can benefit from favorable capital gains taxes. Meanwhile, you can lease the building back to your systems company so that it continues to pay rent, which may be enough to cover the mortgage payments.
This is just one example of building your net worth using company dollars. If you can take the profits out of your company and use them to invest in real estate, mutual funds, retirement funds, etc., you can work toward creating enough wealth to retire comfortably. Then, your lifestyle after retirement is not dependant upon finding a buyer for your company.
This is important, because the sale of small businesses is fraught with pitfalls. First, think about how you started your business. Did you buy a thriving business or did you start from scratch? You probably started from scratch because you were young and enthusiastic and thought you could do it better on your own. And you probably didnt have the ability to raise enough capital to purchase a company. One client told me, If I knew then what I know now, I would have bought an existing company. But convincing young and energetic entrepreneurs of the value of purchasing your business may be difficult.
CREATE A VALUABLE COMPANY FOR SALE
The value of your company is based on three things: customers, staff, and process. A customer list can be a saleable item, especially if you have recurring revenue. If your business includes maintenance contracts, security agreements, or other types of ongoing revenue, buyers may be more interested in your company.
Staffing can be another valuable asset. With so many integrators finding it difficult to find good, qualified, trained employees, your staff may be just what another business owner is looking for. Imagine if you wanted to grow your company, your sales are increasing at leaps and bounds, and now you have to be able to produce the work you have sold. If you had the opportunity to purchase a small company that had several qualified technicians, you might just jump at the opportunity. As a result, you are creating a good team of employees who are trained and can work together at optimal performance, and increase the appeal of your company.
Finally, the most valuable aspect of your company is your process. Many times, the success of small businesses is based more on the power of the owner than the process of the company. Many small business owners are control freaks and micromanage their company. If that is the case, then the chances of selling your company are slim. If, on the other hand, your company can run without you, you may have a saleable company. Therefore, creating a process from sales lead to completion of all jobs is one way to make your company attractive to an outside owner.
TYPES OF CONTINUATION STRATEGIES
If you choose to try and sell your company, there are several methods to provide additional income to you as the owner.
Most owners consider only outright sale. If you find a viable buyer, you need to decide both the terms and method of payment. Do you want a single payment or a stream of income? Even if a buyer could pay you in a single payment, there are tax consequences that you need to consider. It would be a shame to sell your company and have most of the proceeds eaten up with taxes. On the other hand, a stream of income over time may not only avoid the tax hit, but also bring in more potential buyers. However, if you sell your company based on a percentage of future earnings, or a payout over time, it now depends on the success of the company after youve sold it. There are many instances where an owner sold his or her company and after two years, ended up owning the company again. And it is no longer the healthy company that was sold, but a shell of a company with fewer employees, a cash flow crisis, uncompleted jobs, and unhappy customers.
You might consider selling your company to a key employee. But if key employees were good enough to purchase your company, what would stop them from quitting and starting their own company? And you know how much these employees earn; where will they come up with the money needed to buy your company? If you are considering this option, you need to create a company that is both more valuable than starting a new company and one that is affordable. One way to do this is to consider a form of deferred compensation (sometimes referred to as golden handcuffs.) You can create a plan that provides financial reward to the employee in the future, only payable if they stay a certain amount of time. This way, if the employee chooses to leave prior to the payout of the plan, the employee loses that income. There are tax consequences for both you and the employee, so talk to your CPA or accounting professional.
Another possibility with key employees is to work toward creating a partnership. You can develop a program where an employee makes regular purchases of a portion of your company stock over time. As he or she becomes a 49-percent owner, you can work toward transferring ownership to the employee. Dont forget to include transfer of management as well as ownership. Because partnerships are difficult to maintain, you will want to have a long-range plan where your exit is specifically outlined in a timeline. A key employee wont stay at 49-percent ownership forever and will be anxious to take over the company.
Another option is to pass your company on to the next generation. If your children show management aptitude, technical skills, and an interest in your company, you can work toward a long-range goal of selling your company to your offspring. However, you must also consider the relationship of all your children and how you will involve the active and non-active heirs. You are creating a valuable asset and you want to be sure to include your whole family. To avoid jealously in the future, you might consider passing your company on to the active family members, while giving ownership, but not voting rights, to the non-active family member. You might also look into different gifting strategies to defer or avoid tax consequences. And dont forget to include an agreement where the company continues to provide you with financial compensation, even after you hand over the reins to the kids.
Finally, you might consider selling your company to your competition. They may be the most variable buyer. If you are a significant threat to your competitor, you may be able to sell your company at a good price. If you can provide a successful process, a good customer base and/or trained staff, your competition may be interested in paying you money to go away. Consider finding a business broker to confidentially test the water, but make sure you find a broker who understands this industry.
Ultimately, you need to build a company that that has value and the value of your company cannot be you. Find ways to create value that do not revolve around your ability to keep the company running, but your ability to build a company that can run without you.
There are two inevitabilities in life: death and taxes. And if you can find a way to exit your company long before death and without losing it all to taxes, you may be headed to that private island. Or, at least, a leather chair in your own home theater.
Leslie Shiner, owner and principal of the The ShinerGroup, is an author, speaker, and trainer, with more than 20 years of experience working as a financial and management consultant for the construction industry.