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Jul 3, 2017

The Hardest Part is Letting Go

exit plan info graphicThe majority of small to medium businesses in the United States are owned by baby boomers (about two-thirds of all businesses with employees, or about 4 million companies), most of whom are expected to exit their business in the next ten to twelve years.  Baby boomers span a range of birth years, from 1946 to 1964. The oldest are already 71, the youngest are 53.  If you averaged the number of baby boomer owned businesses over the timeframe, you might expect over 200,000 businesses to change hands each year.

Project Equity, a national nonprofit studying economic resiliency, released data in May, 2017, covering all 50 states about the businesses owned by baby boomers that are likely to change ownership in the next decade.  According to their study, very few businesses owned by baby boomers are expected to pass down to family members (less than 15%).  Some businesses will be sold to an outside buyer, some to an internal management buyout.  The majority, however, are more likely to just shut down and go away – sometimes through a planned and orderly liquidation, but more often through a sudden and disorderly liquidation.

Most baby boomer owners are ill-prepared to face their exit from their business.  They are emotionally and financially unprepared for life without their business.  The decision to exit their business can often be triggered by an un-planned, life-defining moment.  These can include burnout, sudden illness or disability, a death in the family, or a divorce.  Often, the only option for such an exit is liquidation.

planning time graphicThe best option for a successful business exit which provides the owner with value is a well-strategized plan that reviews all aspects of both the business and the business owner’s readiness, and which is put into action with enough time to positively impact retaining or increasing value.  That timeframe is at least three to five years before a planned business exit date.  Given that time frame, baby boomers born in 1957 and later should be already involved with an exit plan, or ready to start one within the next few years.

Planning covers both sides of the business exit.  On one hand, a business should be evaluated as to its strengths and weaknesses, and what its current market value may be with any flaws or short-comings.  Is the business operated for maximum results, or is it operated only to provide a certain “lifestyle” for the owner?  What is its financial strength, capability, and average age of workforce; products and position in the marketplace; current marketing strategies; current adoption of technology and future technology plan; and current business documentation?  A strategic plan is developed to assist the business in addressing factors that negatively impact the possibility of a sale or other transfer.  This plan normally takes several years to both put into place and see results that would improve the attractiveness and value of a business for sale.  On the other hand, the business owner’s readiness should be evaluated at the same time, both from a financial and emotional perspective.  Are the majority of the owner’s assets tied up in the business?  Do they have a diversified financial plan in place (can investing the proceeds of the sale support their lifestyle)?  Have they given thought to their life after the exit and where they will find personal fulfillment?  The same three to five year exit plan helps the owner to prepare him or herself for a positive experience post business.  Without this type of preplanning, the statistics show that one year after the sale 70% of business owners were unhappy with their decision.

Most business owners believe hearsay about the value of their business and are most likely to believe that their business is worth some multiple of annual sales.  In reality, businesses are worth some factor related to their ability to produce net cash flow that is relatively consistent over a period of time.  

A small business, with sales under $500,000, is more likely to sell to an individual seeking potential job security by business ownership and will generally sell for an amount related to the compensation the current owner gets.

A business owner will often hear that a competitor’s business sold for $X. The focus is on the sales price and, of course, the hearer believes that the competitor walked away with that $X.  What usually happens is that the sale price is reflective of what is known as an “asset” sale, which may include fixed assets, client lists, value of an “in place” workforce, and value of current contracts.  The price offered does not include acquiring any of the current business’s debt.  That is because the buyer is usually financing the asset purchase with outside financing.  The seller must evaluate the sale in terms of ultimate cash flow, after all business debts are paid, and all taxes on the gain from sale are calculated.  The amount left in the seller’s hands is usually far less than anticipated from the sale price.

In addition to a solid strategic business exit plan, deal negotiation support is vital.  Details are important, from how long a business owner may stay to assist in transition, whether those transition services are paid for or not (ego here tends to disrupt deals), how the deal itself is financially structured, whether the business owner is willing to self-finance all or a portion of the sale, whether there are “earn-outs” involved (retention of clients/contracts/revenue) and for how long, whether key employees stay or go, etc.  

While there are many pieces to the puzzle, the consultants at RPC CPAs + Consultants are excited to help.  Building a strong exit plan involves various disciplines and we look forward to being a crucial member of your team.  Contact us today:  R.A. Bobbi Hayes, CPA, CVA, CEPA or 866.307.2727.