Determining the true value of your company.
by Larry Oxenham
Succession planning can be a tricky matter, especially if you’re passing your business on to a family member. Sometimes keeping it in the family is viable, but not in every case. If it comes time to sell the business instead, you should be armed with some strategies for getting what it’s really worth.
All in the family?
First, some perspective: According to the U.S. Small Business Administration (SBA), more than 70 percent of all family businesses do not survive through the second generation, and only 8 percent make it to a third generation. There are many reasons for this high failure rate. The tactics outlined in this article should help you enjoy a successful transition regardless of your situation.
Selling your business to a family member can be the logical choice. But in preparation for this transition, it is important to remember that family members are still buyers—unique ones at that.
When family doesn’t make sense
Sometimes, the best choice is to sell to a third party, as this story illustrates: A few years ago, a business owner asked me to represent him in the sale of his business. His original goal had been to sell the business to his oldest child, but relations with this child soured.
He had owned the business for 15 years, was burned out and believed it was simply time to sell. He said he suffered from high blood pressure, and both his doctor and his wife told him he was going to “work himself to death.”
His goal was to sell the business and enjoy the rest of his life with his wife. “She has been patient with me all these years. Now it’s her turn to be the boss,” he said. He told me he thought his business was worth about $1 million. If we would have sold his business for $1 million, it would have been the most expensive mistake of his life!
Here are the details: His was a small, well-established company in the information business. He had fewer than 15 employees, a single location, did not own the real estate and had no physical inventory. What he did have was the only complete database of customers/prospects in the area, one that had been built over nearly 15 years. This database would be difficult and time-consuming to replace.
After a thorough review of the financials, it was clear—on paper—that the business should sell for $1 million to $1.3 million. So, if the only consideration stemmed from the financials, it truly was just a million-dollar business.
But what about the customer list? What about the location? What about the key employees? What about the proprietary or patented materials and processes? What about the business reputation? What about the value that does not have a number? In other words, what was the business really worth to a buyer? As we prepared for the sale, I asked, “Who would benefit by buying this company?”
Less than two months later, we sold his business to a $2 billion company for $3.1 million, more than three times what he thought his business was worth! For him, the option to sell to family was removed due to a soured relationship, and he came out better for it. But for you, selling to family may be the most comfortable choice.
When family does make sense
When should you consider selling to family members? When you have family members working full time in the business in management positions, not just as employees. Family members can bring specific advantages to the business in the form of loyalty, desire to preserve the family legacy, carrying on family values and relationships that provide financial security—giving you and them peace of mind—and continued contribution to the community.
At the same time, you may have to deal with family conflicts of interest, competing personalities, dissimilar goals and, of course, egos. By planning properly, you can determine whether your goals can be carried on and whether your family has the awareness and commitment to give its all to the company you worked so hard to build.
Your process should begin with a series of conversations with family members—sometimes individually, sometimes in groups—to determine whether their thoughts for the future of the business are in sync with yours.
A smoother transition
Too often, specialists who assist family members in a transaction concentrate almost exclusively on the technical side of the transition—taxes, trust, shareholder agreements, wills, etc.—when the most important consideration is assuring family harmony in the future. You can have the greatest technical solutions ever, but unless the family has agreed on the future direction, it will be difficult to make a successful transition. Here are some questions to consider:
What is your timeline? When and how will the changeover take place? Maybe your desire is to oversee the transition and gradually phase yourself out of the business, but your family wants the change to happen as soon as everyone agrees to all the conditions for the transfer.
What is each person’s role? Clearly define ownership shares and operating responsibilities. Who gets what title? Who is the ultimate decision-maker? Define, in writing, each person’s participation. Then discuss it, gain agreement and move forward. It may take some time to formally develop each person’s position and contribution, but doing so will assure a successful transition.
How long will you stay on, and in what capacity? This can be a touchy issue because family members may prefer that you step away from day-to-day activities and participate on a consulting basis only. In general, a clean break is beneficial for all parties, but there may be certain advantages you bring to the business—advantages that are not easily replaced.
How will you be compensated? Family members often buy the business using cash that the business accrues. Will family members put in a personal cash contribution in the beginning? Will you be paid a lump sum or monthly payments, or some other form of compensation? How will the payouts affect your taxes and those of the company? If you stay on as a consultant, will you receive regular paychecks or be paid as called upon?
How will reporting be accomplished? What financial reports will be provided and how often? It is also important that each person report regularly on his or her area of responsibility. This can be as simple as scheduling a meeting once a week, with one person moderating, and then allowing each person a chance to give a progress report.
The truth is that all businesses will change hands at some point; either you will pass yours on to family or employees, sell it, or close the doors. Creating specific answers to the questions above will help you decide, objectively, which option is best for you and your business.
Larry Oxenham is a senior adviser for the American Society for Asset Protection. He has spoken at both IFAI Expo and the Marine Fabricators Conference on the topic of succession planning and effective strategies for protecting and perpetuating business.
SIDEBAR: Not all in the family
According to a PricewaterhouseCoopers 2016 survey of family businesses, just half of the family firms surveyed said that successors to key roles will be family members. Of those expecting to change ownership in the next five years, only 52% of them plan to keep the ventures in the family, down from 74% in its 2014 survey and the lowest number since 2010. Of the family businesses expecting to change ownership more than five years in the future, just 69% plan to keep the companies in the family, compared with 79% in the 2014 survey.