No matter where you are in your career as a business owner, it’s the right time to begin preparing for your exit. “Whether you’re turning the business over to a chosen successor, or a third party, there are numerous considerations and complexities," says Brett Thornock, vice president of advanced planning at Fidelity Investments. “From determining the kind of buyer you might be looking for to narrowing the range of possible deal structures, each may have different implications for the future of your business as well as your lifestyle and finances.”
Given the careful planning required, you should work with a team of financial professionals who can help analyze the various possibilities and help you create a plan that supports your long-term goals for yourself and your business. Below are some of the key questions to consider.
Who will succeed you, and under what terms?
Many business owners envision passing the business to a child or other family member. But it’s important to consider whether a family member truly has the interest and aptitude necessary to run the business—and whether it might create an imbalance in the treatment of heirs if one inherits the business and the others do not.
If there is no heir apparent, then you may need to consider a sale to a third party, either an internal successor or an outside buyer. The best strategy will depend on many factors, including how well the business would function without you, and the likelihood of attracting a buyer with the wherewithal—and confidence in the continued profitability of the business after your departure—to buy the business outright. If you’d never trust your business with someone you haven’t mentored yourself, for example, you may decide that internal succession is the only option you’d consider.
As a middle ground, you could sell and stay—that is, receive an upfront payout, but continue at the helm for a certain amount of time. That model is generally favored by private equity buyers, and can also allow you to retain a stake in the company that might pay off in a future subsequent sale.
How might you structure the deal?
You and your team of professionals will need to consider whether you're selling the ownership interests, the company assets, or a combination of the 2, and then negotiate the terms of the sale. You might receive cash, notes, stock of the buyer’s company, or a mix, and payouts may be received in a lump sum, or installments. All those possibilities will likely include additional considerations, such as when you might be able to sell restricted stock, earn-outs, non-competes, and more. “In general, the buyer and seller get different tax benefits from different terms, so this can be a critical stage of the negotiation,” notes Thornock.
Your choice of buyer will likely affect the terms of the sale too. Strategic buyers, particularly serial acquirers, may have tried-and-true processes they adhere to, as well as certain requirements for deal structure that they won’t deviate from. An internal successor, on the other hand, may require years of mentorship or a drawn-out deal structure if, say, your successor needs to gradually accumulate a greater stake in the business.
What is your business worth?
In some cases the value of your businesses’ tangible assets may be readily understood—a retailer, for example, is likely to have a majority of its assets as inventory and showrooms. But often, intangible assets such as intellectual capital, reputation in the market, internal talent, and existing vendor or partner relationships can add significant worth. “In fact, in many industries, intangibles make up most of a business’s value,” Thornock notes.
Getting a valuation that considers all your business’s tangible assets, intangible assets, and liabilities in the context of the wider market can be complicated and can require professional assistance. But getting an accurate valuation is worth it. An expert valuation will show you how you compare to your peers and may influence how attractive you are to buyers. It also may lead you to reconsider the timing of your succession plan, if the value of the business is so high that it’s out of reach for your chosen successor—or is too low to support your future financial goals.
As your valuation picture becomes clearer, you also need to consider how you’ll protect that value in a time of transition, especially if your deal will be structured as a multi-year payout or earn-out. “If the success of your business is dependent on human or intellectual capital, then it’s important to put structures in place to protect those things,” says Thornock. You may want to discuss options such as licensing agreements and non-compete clauses with your legal team—as well as strategies to encourage employee retention. “If your talent is incentivized to stick around through a long-term compensation plan, for example, that makes the company more attractive and valuable to buyers,” says Thornock.
What will the transition mean for your financial plan?
Your personal and financial situations deserve as much attention as everything that leads up to your exit from the business.
A big payout upfront can mean a big tax bill. And if the revenue from the sale moves you into a higher tax bracket, you could end up paying more than you would on the same amount stretched over several years. So while the prospect of a large immediate payout may be enticing, it’s important to bring your attorney or accountant into the discussion early on, so they can advise you on potential options to help mitigate tax consequences, such as establishing a charitable vehicle or passing assets to the next generation, for example.
In addition, if you decide to stay on and continue to draw income, you’ll need to build that into your cash-flow planning. The sale of the business can also have an impact on your estate plan. Conversations with your team should be had about possible estate tax considerations, trust and legacy planning, asset shifting, and chartable gifting.
Beyond all the financial considerations, there is your emotional well-being. “You’ve put your soul into building your business, and a lifestyle that doesn’t include steering a company will take some getting used to,” explains Thornock. “But with the right amount of time and planning you can turn your focus to building the retirement life you deserve.”