Transitions Digest

Part 4

Recently I took my nine year old daughter and a carload of her friends to our town’s Volunteer Fireman’s Carnival for an evening of ferris wheels, funnel cakes, and laughter–of course!  It was a Friday night after a long week.  Truly, I would have benefited from a simple dinner at home to unwind from the week.  Sound familiar?  However, I intuitively knew that the laughter of those children was most important and desperately needed…so off we went.
 
As the girls were getting out of the car, they caught sight of the ferris wheel in the distance and the excitement erupted into chaotic squeals, giggles and laughter.  I found myself feeling a bit nervous for their safety as the other cars were moving in and out of the parking spaces nearby.  I regained their attention and reminded them that they promised me to apply the buddy system to keep safe.  All was well…
 
In typical fashion, the Fireman’s Carnival delivered all that was anticipated.  It rained all week, so the grounds were like a mud filled sponge and no amount of hay can fix that.  It always rains during the week the carnival comes to our town.  The children never take notice of the condition of their shoes.  It is all about the laughter. 
 
When I was nine, I loved carnival rides too.  Another mother and I were lamenting the fact that somewhere between the age of 21 and childbirth the ferris wheel went from thrilling to terrifying.  How does that happen?  I think it is just about the same time that we adults forget how to laugh. 
 
Among my successful Entrepreneur clients, I observe that they know how to keep all of their troubles in perspective.  Simply put, they have not forgotten how to laugh!  And given the times we live in, they have been laughing a lot!  Don’t get me wrong, they do not disregard reality or not take their business or life seriously. They keep perspective and know the value of childlike laughter! 
 
After an evening of laughter, it was time to return home with our funnel cakes “to go”.  Dad and big brother were waiting for them.  As we returned to our car, we found ourselves “in trouble”.  No, I am not kidding.  As we approached my car, a Policeman asked me if I was Holly Magister and if that was my car?  Never a good question when posed by a Police Officer!  His cruiser cornered me and my car in and his spotlight was squarely on me!  “Yes, officer.  What is wrong?”  I replied.  My panic-struck heart was pounding and my nine year old began to cry.
 
Truly, my first thought was that someone died and they were trying to find me to deliver the news.  What else could it be?  My daughter thought I was going away in handcuffs forever because that is what she sees on TV.  She never saw a Police Officer that close before–one that knew my name.  They were looking for my mom!
 
The Officer told me that “the white SUV next to me suffered a “door ding” and he was there to investigate the accident.”  “Is this truly necessary?”  I asked the young man who was standing next to his prized mode of transportation.  (Okay, if you have read my earlier blogs, you know that I ask this question a lot!) With no reply to my question, I asked it another way… “Did you have to call the Police?”
 
It turns out that the nine year old’s chorus of squeals, giggles and laughter muffled the sound of the “door ding” that the neighboring SUV suffered several hours earlier.  And the young man felt that he needed the protection of the Police to make certain that justice would be done.  This young man discovered his “door ding” and decided to wait for me to return to my car.  He waited more than two and one half hours! 
 
The Police Officer informed me that it was his “job to determine if the door ding was inflicted with malicious intent or by accident.”  I replied, “I do not know any nine year old that would have malicious intent of any kind and I am grateful for that!”  He was not pleased with my reply and further informed me that he “did not want this to get ugly”.  Regardless of the absurd situation, I decided to save my sharp tongue and sarcastic sense of humor so the Officer did not feel compelled to take me away!  Besides, the funnel cakes were getting cold.
 
Today, I learned that the body shop did not consider the SUV’s injury to be a “door ding”, instead it was a “paint transfer”.  And it would take only $554.73 to make it go away!
 
The white paint from the SUV that was “transferred” onto my blue car was undetectable after a $6.00 wishy wash at the gas station.  What a bargain!  But here is the best part…after my car was washed, the shine revealed no less than 11 “door dings”.  Real ones! 
 
As I share this story with you, and more recently my family, I am reminded of the numerous “door dings” we endure as Entrepreneurs, parents, and humans for that matter!   And I believe that it is the endurance and perspective gained along the way, not the removal of the door dings, that make the difference!  To know that the door ding the white SUV suffered was because of a child’s excitement and laughter put a smile on my face.  Are you smiling?
 
As for my door dings, all eleven of them, they are not going away!  They serve to remind me daily what really matters… endure, keep perspective and remember to laugh every chance you have!
 
Let us know your insights by commenting on our blog post below.  

Holly A. Magister, CPA, CFP
Enterprise Transitions, LLP

Read Previous Articles in the Series:

Part1:Troubled Waters Part 1
Part2: Troubled Waters Part 2
Part3: Truly Necessary in Troubled Waters

June 30th, 2009 | Tags: Entrepreneur, Entrepreneurship, successfull entrepreneur | Category: Building Value, Business Growth, Economy, Entrepreneurship, Exit Planning | Comments (2)

Are you like many business owners?

• A majority of closely held and family owned businesses will change hands within the next five years¹; but
• Many Business Owners may not have taken active steps to transition out of ownership.

Again, if you are like many of our readers, the reasons for failing to plan
may be:

• You may have simply been too busy working in your business to be working on it — at least until now.
• You may be unsure of how to begin Exit Planning, who to use or even where to begin. Those uncertainties can be addressed today.

This issue of The Exit Planning Review™ and every subsequent issue will encourage you to work on — not in — your business. Your education about the Exit Planning process begins now. Proper knowledge and preparation can possibly mean millions of dollars to you when you ultimately leave your company. Start Exit Planning today and you can help to avoid the sad (but too common) fate of the hypothetical business owners of T J Construction.

Years ago, I met with Jim and Tim McCoy, two owners of a thriving construction company. What I assumed would be a business planning meeting, turned out to be a “We’re getting out of business, how do we do it?” meeting. As successful as they were, they were tired of the government regulations, changing tax codes and day-to-day grind of running a multi-million dollar company.

A sale to a third party was not an option because Tim and Jim were not willing to stay on after a sale — and they had failed to develop a strong management team, which any savvy purchaser would require as a condition of purchasing the company. Transferring ownership to a group of key employees was also out of the question. None had been groomed to take on this type of responsibility and nothing had been done to fund this type of buy out.

Both owners were too young to have business active children so their only option was to liquidate.

Jim and Tim’s highly profitable company had little worth beyond the value of its tangible assets. After the sale of those assets, dozens of the employees lost jobs, the business disappeared, and Jim and Tim left millions of dollars on the table.

How can you help to avoid Jim and Tim’s fate? By engaging in an Exit Planning process that you control. An Exit Planning process begins by asking yourself the questions that follow. Your Exit Plan will begin to be created as you answer each of the following questions affirmatively:

1. Do you know your retirement goals and what it will take — in cash — to reach them?
2. Do you know how much your business is worth today, in cash?
3. Do you know the best way to increase the income stream generated by your ownership interest?
4. Do you know how to sell your business to a third party and possibly lower your taxes?
5. Do you know how to transfer your business to family members, co-owners, or employees while lowering taxes and potentially enjoying financial gain?
6. Do you have a continuity plan for your business if the unexpected happens to you?
7. Do you have a plan to help secure finances for your family if the unexpected happens to you?

These questions are almost misleadingly simple to ask, but to answer them affirmatively requires thought and action on your part.

Creating and implementing your Exit Plan may be the most important business and financial event of your life.

Subsequent issues of The Exit Planning Digest discuss all aspects of Exit Planning. The provider of this Newsletter (Holly A. Magister, CPA, CFP®) offers you unbiased information about what you may need to know. Subscribe to our free Exit Planning educational newsletter to learn more about how to grow and/or plan for your business exit.

1Winsby, Roger. Axiom Valuation, 2003.

June 20th, 2009 | Tags: Economic Downturn, mergers and acquisitions, Pay Equity Groups, Value Drivers | Category: Economy, Exit Planning, Exit Planning Digest, Mergers and Acquisitions | Leave a comment

Step 7

 The last step in your Exit Plan is Wealth Preservation Planning. But that doesn’t mean you should wait until you are out of the business to begin actively preserving your wealth. In fact, if you wait until the value of your business is converted to cash, it may be too late to realize all of the benefits of wealth preservation. The most significant and powerful claimant to your wealth is the IRS — especially in the estate tax arena.

George opened our meeting almost apologetically. “I knew I’d waited too long to begin gifting part of the company to my kids when I met with my CPA. She told me that, based on the company’s pre-tax cash flow of $2 million per year, the company could be worth as much as $12 million to a third party. I had no idea! Since I don’t need that much, I want to transfer at least half the value — at a lower valuation of course — before any possible sale. I’m looking at millions in gift taxes.”

George hired a Certified Valuation Analyst (CVA) who valued the business at $9 million, a conservative but supportable valuation. The company’s stock was recapitalized into voting and non-voting stock. Based on current tax case law, the CVA knew that she could justify discounting the value of non-voting stock (or a gift of a minority interest of the voting stock). In her opinion, the minority discount was 35 percent of the full fair market value of the stock. Even with the 35 percent discount, however, a gift of half of the company (now reduced to a gift of approximately $3 million) would cause the payment of a gift tax of approximately $500,000.

Like you, George was not particularly keen on paying a tax of $500,000. So he didn’t. And he still gave away 50 percent of the company to his children. He did so by using the biggest lever in the Wealth Preservation Transfer Game: a “GRAT” — a Grantor Retained Annuity Trust.

A GRAT is an irrevocable trust into which the business owner (and the Trustee of the GRAT) transfers some of his stock.

The GRAT must make a fixed payment (annuity) to the owner each year for a pre-determined number of years (in George’s case, four years). At the end of this period, any stock remaining is transferred to the owner’s children.

Stock transferred into a GRAT is treated as a gift — the amount of which is the value of the asset transferred minus the present value of the annuity which the owner will continue to receive. (George’s advisors made sure that the present value of the annuity paid out over four years equaled the value of the stock transferred into the GRAT — therefore no gift was made by George.)

Another key to a GRAT’s success is the transfer of an asset that appreciates in value and/or produces income in excess of 120 percent of the federal mid-term interest rate. This rate fluctuates monthly; for examplpe, the rate varied from 7.5% to 2% in the period 2003-2009.

Let’s summarize what George did:

1. He transferred one-half of a business with a fair market value of $9-$12 million to his children in four years using none of his lifetime exemption.
2. He continued to receive all of the income from the company during that four-year period, because the annuity payment to George was designed to equal the amount of income expected from the stock transferred into the GRAT.
3. At the termination of the trust (four years) the trust asset, consisting of one-half of the company, was transferred to trusts for George’s children, free of any gift tax.

These trusts were in turn established by George when the GRAT was created and contained his wishes regarding when, and if, the children were to receive money from those trusts.

This is huge leverage. And best of all, planning techniques such as GRAT’s and the careful use of minority discounts, as well as a variety of other estate tax avoidance techniques, are likely available to you and your family.

Your financial, legal and tax advisors can provide you with more information about this aspect of the planning.

Subsequent issues of The Exit Planning Digest discuss all aspects of Exit Planning. The provider of this Newsletter (Holly A. Magister, CPA, CFP®) offers you unbiased information about what you may need to know.  Subscribe to our free Exit Planning educational newsletter to learn more about how to grow and/or plan for your business exit.

Complete Series

Step One: Setting Exit Objectives
Step Two: What is My Business Worth
Step Three: Working On - Not In - Your Business
Step Four: Getting Top Dollar for Your Business
Step Five: Transferring the Business to Children or Employees
Step Six: Planning for a Rainy Day
Step Seven: Preserve Wealth: Give it Away!

June 15th, 2009 | Tags: Exit Planning, Grantor Retained Annuity Trust, GRAT, retirement, sell a business, sell businesses, selling a family business, wealth preservation transfer | Category: Building Value, Exit Planning Digest | Leave a comment

Part 6

There may be nothing worse for a business than to have its owner suddenly die. . . especially if it’s your business.

Let’s look at what can happen when an owner dies.

Joe Carpenter was the 55-year-old sole owner of a successful construction company. Joe hoped to sell his company to a third party in the next 18 months.

What Joe needed was a way to ensure that his company would survive if he died or became disabled during that period. Before he could put any plan into place, Joe was killed in a traffic accident. Soon after his death, key employees left his company for jobs with more certain futures. They feared that the company might not continue without Joe’s leadership and personal financial backing.

Their departures caused a decrease in revenues, as well as the default on a number of contracts, which exposed the company to significant liabilities. Long-time customers grew uneasy with what they perceived to be a rudderless ship and took their business to Joe’s competitors. Joe’s bank grew uneasy as well and decided to call in his company’s debt — debt Joe personally guaranteed.

Within weeks of Joe’s death, his key managers were gone, his company defaulted on a number of contracts, revenues plummeted, customers jumped ship and any prospects of securing replacement financing quickly disappeared.

As you can see, business continuity planning is vitally important to your company. Without a well thought out “survival plan,” the consequences to employees, customers and most importantly, your family and estate are dire. (Don’t think that your estate will escape the notice of your business creditors.)

Fortunately, there are a number of methods sole owners can implement today to help avoid the type of business collapse that Joe Carpenter’s business experienced.

First, to keep key employees on board after your demise, offer ownership — perhaps via a buy and sell agreement, or offer additional compensation if key employees continue to run the company. The amount of compensation can be directly tied to company profitability and continued success. As an additional incentive, offer these employees a substantial bonus (called a “Stay Bonus”) for staying with the company — one that can be funded with insurance and that can be accessed in case of your death.

Second, alert your bank to your succession plans. Meet with your banker to discuss the arrangements you have made and show him or her that insurance to affect these plans is in place. Make sure your creditors are comfortable with your succession plan. Ask them what arrangements they would like to see in place.

Third, create a written plan that states: 1) who should take on the responsibility of running the business; 2) whether the business should be sold (if so, to whom) continued or liquidated; and 3) who your heirs should consult regarding the sale, continuation or liquidation of the company.

Finally, work closely with a capable insurance professional to make certain the necessary insurance (such as funding the Stay Bonus) is purchased by the proper entity, (you, your trust or the business) for the right reason and for the right amount.

Subsequent issues of The Exit Planning Digest discuss all aspects of Exit Planning. The provider of this Newsletter (Holly A. Magister, CPA, CFP®) offers you unbiased information about what you may need to know. Subscribe to our free Exit Planning educational newsletter to learn more about how to grow and/or plan for your business exit.

Complete Series

June 2nd, 2009 | Tags: business for sale, business planning, Exit Planning, process of selling a business, selling business | Category: Exit Planning Digest | Comments (5)

By Holly A. Magister, CPA, CFP®

Do you know what is truly necessary?
 
With the multiple changes in the marketplace over the past six months or so, many Entrepreneurs find themselves overwhelmed.  They are reacting to client demands, changing vendor and employee relationships, increasing costs, and dwindling resources–financial, human and even their own energy.  They go home at the end of the day not truly knowing if they made any progress.  And that day was likely a 12-to-15 hour day! 
 
Does this sound familiar?  If so, know that you are in good company!
 
As you endure the chaos, it is impossible to have the insight to recognize what is truly necessary and what is distracting you from your best work and opportunities.  Unless, you stop and make a point of asking yourself “is this truly necessary?”
 
In many cases, Entrepreneurs spend inordinate amounts of time dealing with the matters that really mean the least to their future success.  And by doing this, they are expediting their failure.  Do you fear failure?
 
To ensure success, you must take time to reflect on matters that are critical and clearly understand and focus on the matters that are truly necessary every day.  As far as those matters that are not truly necessary, stop addressing them now! 
 
When you recognize how distracting those unnecessary matters are, you will quickly recognize the numerous expenses you will be able to eliminate when you let go of the unnecessary.  That is the good part!   When you eliminate the unnecessary, your life is simplified, some (maybe many) of your expenses are eliminated and your profit increases!  In my experience, “eliminating the unnecessary” has the potential to transform your business, your outlook as an Entrepreneur, and you.
 
Over the past few weeks, I have been sharing my insights through this blog series about how successful entrepreneurs are navigating the troubled waters we all share.  Successful Entrepreneurs are courageous as they consider their numerous options, they utilize their resources and eliminate the unnecessary.  And without exception, they understand the importance of the last principle…they find the humor in the situation.  In very simple terms, they laugh.  They apply this principle often!
 
I will share more about humor in my next blog posting.  In the meantime, stop and ask yourself “what am I doing today that is not truly necessary?”  Let us know your insights by commenting here.

Read the Previous Articles in this Series

Troubled Waters Part 1
Troubled Waters Part 2

May 20th, 2009 | Tags: Entrepreneur, Increasing Costs, Profit, Profitability, Simplify, Successful Entrepreneur | Category: Building Value, Business Growth, Economy, Exit Planning | Comments (1)

Step 5

How do you successfully transfer your business to a child, key employee or co-owner? The most successful method is to follow a recipe that mixes, in equal measure, three key ingredients:

• One part: the ability, experience and dedication of the prospective new owners;
• One part: a company with strong, consistent cash flow and little debt; and
• One part: a transaction designed to prevent income taxes from eroding the cash flow available to you, the seller.

It should be obvious that a business cannot be successfully transferred unless the new ownership is capable. Furthermore, we cannot expect the transfer to be successful if the business itself lacks the ability to provide an ongoing stream of income with which to pay for the business acquisition. What may not be so obvious; however, is the corrosive affect of income taxation upon the transfer of a business to “insiders” — children, key employees or co-owners. Let’s look at two key facts associated with transferring business to an insider.

First, your children or key employees may not have cash to buy you out. Therefore, any sale may take many years to complete — a potentially risky prospect. Further, all of the cash used to purchase your ownership may come from one source: the future cash flow of the business after you have left it.

Second, without planning, the cash flow can be taxed twice. It is this double tax, (sometimes totaling more than 50 percent) that can spell disaster for many internal transfers. Through effective tax planning, however, much of this tax burden can be legally avoided. Witness what Karl Clark did.

Karl Clark agreed to sell his company to a key employee, Sharon Smith, for $1 million. This value was based on the company’s annual $250,000 cash flow, which Karl historically took in the form of salary. While Karl understood that Sharon could not pay $1 million (nor could she secure financing), he did think that she could buy out the company over a five- or six-year period, using the available cash flow of the company.

Karl’s calculations were way off the mark. The time needed for a buy out was at least 10 years. But why were his calculations so off base? In a word, taxes — actually in two words, double taxation. Without proper planning, this is what happens if Sharon buys the company (and what can happen to you when you attempt to sell your business to your children or employees):

1. Sharon receives the cash flow ($250,000 per year) and is taxed on it at an estimated 35 percent federal and 5 percent state income tax rate(These rates may vary depending on total income and your state’s tax rate).
2. Sharon pays $100,000 in taxes (40 percent of $250,000). This is the first tax on the business’s cash flow.
3. Sharon pays the remaining $150,000 (net after tax) to Karl.
4. Karl pays an estimated 15 percent federal and 5 percent capital gains tax on the $150,000 he has received for the sale of his ownership interest, or $30,000 in taxes. This is the second tax on the original stream of income from the business. The result?
5. The company distributed $250,000 of its cash flow, but Karl was only able to put $120,000 in his pocket.

Without proper tax planning, you too, may experience an effective tax rate that could be in excess of 50 percent on the company’s available cash flow used to fund your buyout. This is likely to prevent, as it did for Karl and Sharon, a consummation of the sale of the business.

How might you design your sale to lower taxes and maximize the opportunity for success?

1. Plan. Like Karl, you should have a plan that yields you a greater after-tax amount for the sale of your company. Since the cash flow of the company may increase, the key is to provide Uncle Sam a smaller slice of the available cash flow.
2. Use an experienced advisory team, usually consisting of a business attorney, CPA and insurance or financial professional. They should understand the importance of tax sensitivity to both seller and buyer in order to make more money available to you.
3. In addition, you and your advisors should use a modest, but defensible valuation for the company. Because a lower value is used for the purchase price, the size of the tax bite is correspondingly reduced. The difference between what you will receive from the sale of your business, at a lower price, and what you want to be paid to you after you leave the business is “made good” through a number of different techniques to extract cash from the company after you leave it.

Tax planning for the transfer of your company to an insider takes time, planning and knowledge. But it can possibly save a tremendous amount of money. Take time now to begin the planning process.

• Learn as much as you can about how to best accomplish the transfer of your business.
• Seek the advice of your advisory team. Taking action sooner rather than later may help your business transfer recipe provide a tastier result. Bon appetit!

Subsequent issues of The Exit Planning Digest discuss all aspects of Exit Planning. The provider of this Newsletter (Holly A. Magister, CPA, CFP®) offers you unbiased information about what you may need to know. Subscribe to our free Exit Planning educational newsletter to learn more about how to grow and/or plan for your business exit.

 Complete Series

May 15th, 2009 | Tags: acquisition, Add new tag, buy-sell transfer, buyout, companies change, Exit Planning | Category: Exit Planning, Exit Planning Digest, Mergers and Acquisitions | Comments (4)

By Holly A. Magister, CPA, CFP®

As you navigate these troubled waters, what resources do you draw upon?

Many good-intentioned entrepreneurs confuse being courageous (the subject of my last blog) with the notion that during difficult times they must become Lone Rangers in order to survive.  What I have observed is the truly successful entrepreneurs do the exact opposite.  They instinctively recognize the value of their resources and know exactly when to draw upon them for help.  Instead of retreating to their early days of entrepreneurship, where they were “rugged individualists” by necessity, they call upon the people, companies, and other resources from the past that have consistently provided them with “best of their breed” performances.  And if for some reason, they do not have access to such a resource in their time of need, they find them.  Someway, somehow they find them.
 
As your business is occupying its position in the marketplace today, the world is changing.  Really, really changing.  Stop for a minute and ask yourself the following question: “What is different today in my marketplace than one year ago?”  If you cannot list at least three differences, your head is buried in the sand.  And if that is the case, you have permission to stop reading this now.
 
With your list of three (or more) differences, you have the place from which you should start to work.  You must deal with these differences NOW to survive today AND thrive in the future.  This is where those valuable resources (old and new) become critical.
 
So how do you know if the resources you have drawn upon in the past, or are considering for your current and future needs, are truly “resourceful”?  Or do they simply go through the motions?  I recommend asking yourself if those resources have delivered, kept promises, or maybe even exceeded your expectations. Are they creative and capable of providing a point of view that may not be popular?  Is their advice, service and attitude one that makes you feel as if they truly are concerned about YOU?  The truly valuable resources in your world should not be afraid to make changes to the way they deliver their products and services to you.  They should be flexible, open-minded and capable of adapting to the troubled waters we are all sharing.  Technology and the knowledge base is changing and growing rapidly.   Your resources should be adopting these advances and excited to share with you the benefits from doing so.
 
One of my favorite quotes of Warren Buffett is “You never are hit by the bus that you are looking at.”  How so true, on so many levels!
 
The successful entrepreneurs that I work with have been run over by more than a few busses.  The difference between the successful ones and the rest is the attitude they carry as they react to the situation and the resources they have to draw from to help them.
 
Before you pull out your PDA to call upon your resources, we need to make certain you are applying them to the things that really matter.  And that leads me to the subject of my next blog–principal number three–Eliminate the Unnecessary.  In the meantime, think about your resources…Are they resourceful?
 
Read Trouble Waters Part 1

May 8th, 2009 | Tags: Building Valuable Businesses, Business Growth, Business Resources, Economy, Entrepreneur, Growth Resources, Successful Entrepreneur, Warren Buffett | Category: Building Value, Business Growth, Economy | Leave a comment

Step 4

What is a good way for you to get top dollar for your business?

First, consider selling to an outside third party, not to an insider such as a child, key employee or co-owner. Outside third parties typically have the cash and the ability to pay a higher earnings multiple for your business.

Secondly, proceed through planning steps prior to putting your company on the market. These steps, (discussed in the previous three issues of The Exit Planning Review™) are:

• Setting your Exit Objectives;
• Determining the value of your business;
• And, most importantly, taking action to implement and enhance the Value Drivers in your business.

Third, once you have maximized the value of your business, undertake the proper sale process which, if properly conducted, can potentially put more money in your pocket.

Let’s look at how the sale process itself can make you money.

Basically, there are two ways to sell your company to a third party:

• A negotiated sale; or
• A controlled auction.

Maximizing the amount of cash you receive upon the sale of your company is the business owner’s equivalent of hitting the game-winning home run. To hit this one out of the park, you must know what to do before you approach the batter’s box. So, too, with a sale to a third party.

Gary Reese, owner of Reese Diamond Importers, had been approached by a national competitor. Preliminary negotiations led to an offer of $7 million for the company. Before he accepted this offer, he called me with the good news. I urged him to contact an investment banker to orchestrate a controlled auction — a strategy Gary thought would scare off his suitor. The strategy scared the suitor alright — it offered another million dollars to avoid the auction. Gary subsequently hired the investment banker and sold his company (to another suitor) for $13 million cash. How?

First, Gary was clear about his objectives. He told his investment banker exactly what he needed financially, when he wanted to exit, how long he was willing to stay and in what capacity, and which companies he absolutely would not sell to. Using those criteria, Gary’s investment banker developed a buyer profile and began to market the company.

Next, the investment banker developed a Deal Book, which told the story of Reese Diamond Importers. Qualified suitors signed confidentiality agreements and were sent the Deal Books. After studying the Books, three suitors entered the controlled auction in which they bid against each other for Gary’s company. The auction concluded when Gary selected the suitor that met his financial objectives and other Exit Objectives and signed a non-binding Letter of Intent outlining the terms of the purchase.

The buyer’s attorneys completed the Due Diligence process (learning everything about Reese Diamond Importers as they drafted) and negotiated the definitive Purchase Agreement. The closing was held and Gary left the table with $13 million in cash.

If, as in Gary’s case, a sale is properly organized and orchestrated, the process can help to increase the amount of cash an owner receives. In other words, Step Three, “Working On — Not In — Your Business,” can help to increase your sale proceeds by making your company inherently more valuable. Step Four can help increase the cash you take from the closing table by properly managing the Sale Process.

Contrast the sale method used to sell Gary’s business (a controlled auction) with the negotiated sale. In a negotiated sale, a buyer has identified your company for acquisition and you have decided to sell to that buyer. The buyer controls the timing, the cash, and generally has more leverage in negotiations.

A controlled auction introduces your company to a pre-selected list of qualified buyers. The key to a controlled auction is to have multiple buyers, bidding for your company at the same time, each having identical information and each being financially qualified to acquire your company. As a seller, you can get top dollar when these buyers compete against each other for the opportunity to purchase your company.

Controlled auctions are not a one-size-fits all proposition. They work best when:

1.     The value of the company is at least several million dollars and large enough to attract the interest of multiple buyers.

2.     An owner’s transaction advisors are skilled and experienced in conducting controlled auctions. (This advisor is usually an investment banker or, for smaller deals, a business broker.)

Getting top dollar for your business requires more than having the best possible business to sell. It also requires selling your business using the method best suited to extract top dollar from the buyer’s checkbook.

Subsequent issues of The Exit Planning Digest discuss all aspects of Exit Planning. The provider of this Newsletter (Holly A. Magister, CPA, CFP®) offers you unbiased information about what you may need to know. Subscribe to our free Exit Planning educational newsletter to learn more about how to grow and/or plan for your business exit.

May 3rd, 2009 | Tags: business value, Exit Planning, selling business | Category: Building Value, Exit Planning, Exit Planning Digest | Comments (5)

Step Three

What are Value Drivers? And why are they so important to you and your company? Value Drivers are the various characteristics of a business that professional buy-out experts believe drive business value upward and for which they are willing to pay top dollar. It is vital for you to know what these value drivers are if you want to successfully exit your business.

In Steps One and Two of The Seven Step Exit Planning Process™, you establish your Exit Objectives and determine the value of your business. Driving business value upward is a necessary step if, as is so often the case, you determine that the value of your company is not sufficient to satisfy your financial objective. During Step Three, you create the additional business value and cash flow necessary to help achieve your financial objectives.

To increase business value, you must target those same elements of a business that professional buy-out experts believe drive a business’ value upward and for which they are willing to pay top dollar. These elements — characteristics that both help to reduce risk and improve return — are commonly referred to as “Value Drivers.”

Value Drivers come in two varieties: generic (common to all industries) and industry specific. The generic Value Drivers are:

• A stable and motivated management team;
• Operating systems that improve sustainability of cash flows;
• Operating profit margins, at least as good as industry average;
• A solid, diversified customer base;
• Facility appearance consistent with asking price;
• A realistic growth strategy;
• Effective financial controls; and
• Good and improving cash flow.

Your industry also has specific or unique Value Drivers. For example, if you have a distribution company, a potential purchaser would look at the strength of the manufacturers you represent, the number of inventory turns per year, and the level of technical expertise your sales force possess.

For MMI, a number of Value Driver tools and techniques could have been used to motivate and keep key people. These tools included:

• Stock option, purchase or bonus plans subject to forfeiture if the key employees left prematurely;
• Non-qualified deferred compensation plans — with vesting — to encourage key employees to stay;
• A richer benefit package; or
• A defined succession plan, which included the key employees

All of these tools can be designed not only to motivate and keep your top people — an essential Value Driver itself — but to reward them based on their efforts and success in driving business value upward. Look at your own business. Do you have an incentive system that:

• Is substantial in the eyes of the key employee?
• Has written performance standards, the attainment of which by the key employee not only results in a bonus to the key employee, but also increases the value of the company?
• Is part of a defined, written plan, communicated to the key employee?
• “Handcuffs” the key employee to the business by making it difficult for him to leave the business without forfeiting significant financial benefits?

As you can see from MMI’s example, creating and fostering Value Drivers is crucial whether you simply wish to put more money in your pocket every year, or whether you want top dollar by selling your company.

It bears repeating that we believe you should concentrate on Value Drivers because that’s what professional buyers may deem important and if they deem it important, it probably is. After all, they should have considerable experience in analyzing what increases a company’s value.

How do you implement Value Drivers in your business?

• First, learn more about Value Drivers by contacting us.
• Talk to your advisory team members, especially your financial/insurance professional, your CPA, and perhaps business consultant or attorney.
• Stand above the fray at least one-half day per month. Look at your business through the eyes of someone interested in buying it. What do you see that would cause you to pay top dollar for your business? What would cause you to pay less for your business? When answering these questions look both at what your business is doing, as well as at what it is not. Viewing your business in this way is what we mean by working on your business, not just in it.

By increasing your knowledge, by working with capable advisors, and, most importantly, by thinking about what the business needs to become more valuable, you can work to put into place the elements necessary to drive the value of your business upward.

Subsequent issues of The Exit Planning Digest discuss all aspects of Exit Planning. The provider of this newsletter (Holly Magister, CPA, CFP®) offers you unbiased information about what you may need to know. Subscribe to our free Exit Planning educational newsletter to learn more about how to grow and/or plan for your business exit.

April 17th, 2009 | Tags: Exit Planning, Value Drivers | Category: Building Value, Exit Planning, Exit Planning Digest | Comments (3)