Representing a population of approximately 72 million people, Baby Boomers are expected to bequeath $10 trillion in assets over the next twenty years. Today, they are retiring at record rates with about 10,000 Baby Boomers calling it quits each day. These individuals, born between 1946 and 1964 own about 40% of all small businesses or franchises. In Arizona, there are 50,400 small businesses owned by people 55+. These businesses employ nearly 600,000 people, generate a payroll of $22.3 billion and revenue of nearly $100 billion.
Yet, 60% of Baby Boomer business owners nationally do not have a plan to sell or transition their businesses once they retire. Legacy business owners seeking to take care of long standing employees and provide a good living for the owner’s family would be wise to consider a succession plan now utilizing the right professionals to ensure a profitable and buttoned-up transition.
Those who prepare for their exit will have a better understanding of valuation factors that are in or out of their control. Understanding the legal, accounting and valuation variables will help reduce stress and anxiety while providing greater confidence in a business transition.
Baby Boomers planning to transition their businesses to family members or employees should view the transfer through the eyes of the buyer and consider issues such as ensuring critical contracts are signed, incentivizing key employees to stay in place after the sale, resolving business reputational issues, ensuring that the customer base is diverse and not focused on a single account, making sure contracts are assignable, protecting intellectual property, boosting profitability and planning to minimize taxable capital gains ahead of the sale, among other considerations.
An exit plan will require a contract to define rights and obligations in any sale of a business. Therefore, understanding what options are available in terms of negotiation of both rights and obligations under any sales contract are imperative. For example, if one is selling a business on terms, they will want to secure their right to step in and take back the business interests in case of a seller default. The contract will define how the seller can secure their business interests and resume operations, if necessary. It can also define contingencies to be included to reduce the challenges and costs of doing so in case of a default.
Taking time to review and organize one’s accounting records will allow prospective buyers to complete their due diligence review faster and will save the seller time and money in the long run. Income statements, balance sheets and supporting documentation should be reviewed and organized in a way that allows a prospective buyer to understand the financial details of the seller’s business quickly. The goal is to provide records that anticipate and answer frequently asked questions.
According to Inc. Magazine, the median sale price of a small business grew 16% over the last year while the revenue of a business that sold was up 9 percent. Understanding the market value of one’s business to ensure the highest sale price will require a fair amount of planning since an objective view of the business’ market value is needed. This should include hiring a valuation expert who is familiar with the business and can identify specific factors that will make the business more or less valuable to prospective buyers. Ideally, exit planning will focus on attracting a strategic buyer who is willing to pay more for your business because it provides them with a strategic market advantage. Finding a strategic buyer therefore requires the seller, and their representatives, to have a comprehensive understanding of the business’ value and broader trends in the business’ geographic location and industry.
Key steps to take in mind as one looks to transition out of your business
- Review accounting records and make sure that the bookkeeping is in order so that a third party will be able to review and understand them without needing to ask too many clarifying questions.
- Find and interview valuation experts that are familiar with the business and who can help you understand what prospective buyers will find attractive about the business. The valuation expert should be able to provide specific advice on what accounting details will be important to a prospective buyer.
- Hire a competent transactional lawyer who can explain legal rights and obligations in any future sale. Understanding the deal points that are negotiable and non-negotiable for the seller and a prospective buyer before any sale will help keep the seller objective and less likely to make detrimental emotional decisions during negotiations.
- The seller should be comfortable communicating with the exit planning professionals that they hire. Communication is hard and a miscommunication in exit planning can lead to critical mistakes, wasted time and lost value.
The success or failure of an exit plan will usually depend upon a business owners understanding of (1) the real market value of their business; (2) accurate accounting and tax records; and (3) understanding their contractual legal rights and obligations from any sale of their business.
David McCarville is a director at Fennemore and a member of the Trust, Estate and Wealth Preservation practice group. He is Co-Chair of the Arizona Banking Association Emerging Technology Committee. Reach David at dmccarville@fennemorelaw.com.
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