Continuing to deliberate about when and how to exit from his family business, Big Daddy Ernest Bux, 65, considers yet another task on his checklist: Determine Exit Strategy. He’s already Identified Successors and Decision Makers, and Planned for Contingencies. Yet to be tackled are Establish Goals, Plan Entity Structure and Transfer, Complete Estate Planning, and Implement Document Maintenance and Control. Asking his banker last week about a new loan to expand his business, Big Daddy learned that his banker cannot give him a business loan without seeing a complete exit plan. How is an exit strategy different from last month’s thoughts on identifying successors?
Exit planning is more than succession planning. Last month we addressed “Can a Succession Plan Succeed without Identifying Successors?” – discussing the necessity of identifying successors within a business and providing them with an opportunity to develop their skills and experience in order to successfully replace the existing leaders of the business at a future date. Identifying successors permits the transfer of leadership and/or management from one generation to the next within the business – familial business continuity. However, it is not a comprehensive plan that maps an evacuation route for the banker upon Big Daddy’s untimely death or incapacity to pay off that new loan.
Exit planning addresses both the company’s broad and comprehensive analytical issues, including current and future business planning (its value, employees, position in the market), continuity, the business community and, finally, Big Daddy’s family needs and desires. Exit planning must also account for Big Daddy’s goals and objectives in each of these critical areas, together with his current and projected resources (business value, personal and business financial resources), to identify the specific strategies and steps that are most likely to allow him to reach his goals. These must go hand-in-hand. If properly planned, and if Big Daddy lives and succeeds in accomplishing those goals that will afford him a financially successful exit, his banker will also succeed in getting paid.
Depending upon Big Daddy’s business entity – whether it be a limited liability company, partnership, corporation or other – a properly drafted and approved company agreement should provide a fair and equitable exit strategy for the principal owner from the family business under any planned or unplanned event. The terms and conditions of any transfer of ownership, especially of a majority interest, should be clearly outlined. If Big Daddy has no company agreement, the terms and conditions of any exit strategy could become chaotic and almost certainly will result in a heated family business meeting, if not more likely, threats of “you’ll hear from my lawyer” on all sides.
To leave the business in an orderly and well-orchestrated fashion, Big Daddy should:
- Draft a company agreement. Confirm that his entity’s legal documents adequately anticipate and respond to any planned or unplanned exit event.
- Assess and integrate personal and business goals. If Big Daddy succeeds, so will his banker. Yes, the impact of taxes on Big Daddy’s business can affect value, but taxes should not be the tail wagging the business dog.
- Determine the value of the business. If you don’t know where you’re going, any road will get you there. If he doesn’t know what the true market value of the business is today, how can Big Daddy know what the value needs to be to successfully exit?
- Promote, protect and preserve the business value to ensure overall business continuity. Identify, track and reward drivers, such as key employee compensation, to lay the groundwork for continued and measured growth. If Big Daddy sells or if he dies or becomes incapacitated, employment agreements with key employees, stay bonuses and other arrangements can encourage stability in a crisis.
- Evaluate insider purchasers. They offer the best values, whether they be family businesses with solid key employees/management or an employee stock ownership plan (ESOP). Failing an insider purchaser, assess your third party competitors, a strategic buyer or private equity.
- Consider the financial and estate plan. Estate taxes are, nevertheless, obviously a critical consideration – the largest tax ever paid is the one levied the year after the owner is unable to defend against an IRS estate levy which is due in nine months and payable only cash. Also, don’t forget that the business retirement value is not the sales price, but the after-tax proceeds from the sale. Is it enough?
Tilting the Scales – Weighing in for the Family
FOLLOW THE ROADMAP for a deliberate and successful exit plan.
Failing to plan is planning to fail. A written plan puts everyone on notice of your intended timing and direction. Change, if necessary, is easier if you are looking at a written plan. Even if momentarily derailed, resuming the plan is easier than starting from scratch. Most importantly, if founder and principal owner Big Daddy cannot continue, a written plan provides a meaningful place to start. And, Big Daddy’s banker is more willing to make the loan that the company needs.
This Reminds Me of a Song
Do you remember? “Eve of Destruction” by Barry McGuire
Family Business Resources
As I represent families in generational transition and their businesses, I work with Gray Reed’s robust family business/family office team to pick up the pieces when one or more of these estate planning stumbling blocks erupts into a full-fledged fight between families over their businesses, family offices and estates.