For business owners who have spent their lives building a business, retiring may not be an easy prospect. Many lack company-sponsored pension plans and most of their money is tied up in the business. If you are facing this situation, now is the time to start developing an exit strategy. We at Abo Cipolla Financial Forensics are active members of Exit Planning Exchange (“XPX”) with many other professionals playing in this space (i.e. CPAs and business appraisers/valuation experts like us; estate planning attorneys; investment bankers; wealth management advisors; commercial lenders; executive coaches; M&A attorneys; marketing and management consultants; former business owners who now advise fellow business owners on exit planning; insurance advisors, etc.). The organization has been truly insightful for all of us members who provide specialized management, business development and exit planning expertise.

 Cashing Out

Unlike people whose investment portfolios are diversified in many different stocks and bonds, business owners tend to have invested the majority of their funds in one thing -- their own businesses. This makes cashing out when they are ready to retire much more difficult.

An exit strategy involves developing a plan for passing on responsibility for running the company, transferring ownership and extracting the owner’s money. Because a stable business is worth more than an unstable one, creating a seamless transition is essential to maximize the owner’s investment.

Developing an effective exit strategy involves planning on several levels. These include consideration of corporate changes, personal lifestyle changes, family issues, and income and estate taxes.

The cornerstone to any exit strategy is knowing what your business is worth. The company’s value isn’t necessarily its book value. Many other elements play a role. A professional valuation will lay a solid foundation for creating your exit strategy.

Look at Your Alternatives

Depending on the results of your needs assessment, you have several alternatives:

 ·     Set up an employee stock ownership plan (ESOP). An ESOP can effectively transfer all or part of your company’s ownership to employees while providing you with liquidity.

·     Go public. If your company has enough size and growth to warrant it, a public offering can raise capital and gain liquidity. Your company will receive the added benefit of the exposure and prestige of being a public company. But an initial public offering is costly, as is complying with the ongoing reporting requirements. And because the market will expect you to stay on as a significant shareholder for some time after the public offering, this is a long-term exit strategy.

·     Sell your shares back to the company. If you have other partners, you may be able to structure your buy-sell agreement so the company or other shareholders buy back your shares when you are ready to retire.

·     Bring in a strategic partner. If you still have some time before retirement, bringing in a strategic partner -- either through a merger or a joint venture project -- may provide you with the liquidity to diversify your investments now. It may also provide you with a successor.

·     Make a private sale. When planning a private sale, consider the logical buyer: current management, a customer, a competitor or a private investor. Determine if the sale is likely to be outright, a leveraged buyout or an installment sale. Plan now to ensure you have the liquidity you need when you are ready to retire.

·     Gift to family members. If you plan to transfer ownership to a child or other family member, creating a gifting strategy early will allow you to reduce transfer taxes. Consider transferring ownership in a way that will enable you to retain control.

 Now Is the Time

Once you have evaluated your alternatives, create a plan to achieve your retirement goals. Consider everything from the transfer of management to the transfer of ownership. Put the plan in writing and distribute it to those involved.

If you are facing retirement and own a business, now is the time to begin creating an exit strategy. The same amount of energy you have devoted to building the business now needs to be spent planning your exit so that you can fully realize the value that has taken a lifetime to build. We and other colleagues at XPX can help you assess your needs and evaluate your options, from determining your individual cash needs to helping you establish a fair selling price for your business. 

 Assess Your Needs

The first step in creating an exit strategy involves assessing your needs. We’ve found some important questions include the following:

·     Have you identified a family member or trusted manager to take over when you retire? If not,  you may want to consider selling your business to maximize value and avoid a crisis.

·     Have you planned for estate taxes? If you don’t have the liquidity necessary to cover your estate tax liabilities, consider buying life insurance or creating a gifting program.

·     Will other factors, such as relationships with other shareholders or changing market conditions, play a role in your business’s future? Disagreements with other shareholders or risky market conditions may dictate the type of plan with which you feel most comfortable.

Build a Successful Case on a Solid Valuation

You wouldn’t think of buying or selling a home without knowing its value. That logic certainly extends to buying and selling businesses and trying cases in which a company’s value is disputed. To ensure you receive a well-performed and well-reasoned valuation, you need to understand key valuation elements and then carefully select a skilled valuator (that often includes business appraisers like us at Abo Cipolla Financial Forensics). So let’s review how to scrutinize a valuator’s past work and evaluate whether he or she can provide the evidence that pushes your case from questionable to defendable.

The first step is requesting samples of past valuation reports (with client names deleted). Are the valuations written in a manner a lay person can easily follow? If a judge, jury or IRS agent is unable to follow a report’s logic, the results won’t seem as credible as those based on easily comprehensible logic.

What Makes a Valuation Solid?

No matter what the conclusion, a valuation must be backed by thorough documentation. A poorly documented report may cause a judge or jury to decide against you or raise a red flag to the IRS, increasing the likelihood of a lengthy and expensive audit. We believe the key elements of a properly documented valuation are:

1.  Intent. It should be clear why the valuation was performed. Valuations done for different purposes yield different results.

2.  Summary. The valuation report should contain a concise recap of key valuation issues. This is particularly important if a judge, for example, doesn’t have time to read the entire report. He or she should be able to understand the essential issues based on the summary.

3.  Method. A conscientious valuator discusses all his or her analysis methods and explains why they were used. The methods that were considered but rejected also should be explained.

4.  Adjustments. Adjustments to the final value must be presented. The valuator should include discounts or premiums that were applied to the stock being valued and address why those adjustments are important.

5.  Basis for amounts used. Historical operating statements and balance sheets should be prominently featured in the report. And it should explain any adjustments. The valuator uses these and other documents to form the rationale for the amounts calculated.

Concrete Documents Are Key

A good report demonstrates the valuator’s skill and knowledge and substantiates his or her valuation opinion. The report allows the valuator an opportunity to testify both on the witness stand and later when the report is referenced afterward. This is particularly helpful because the amount of material a trier of fact can retain from live testimony may be limited and need subsequent clarification. The valuation report should contain a narrative text and schedules that document value and supporting calculations.

Engage Seasoned Valuators

There’s some room for compromise in the courtroom, but, ultimately, a winner and a loser emerge. When faced with two disparate valuations, the courts often choose the most reasonable and well-supported one. Before you face the judge or the IRS, give us a call. Hopefully we can produce a comprehensive and detailed report or help you review prior reports. When we feel colleagues have a particular strength in a certain industry or an expertise more developed than us, we’ll often tap into our extensive listing of expert colleagues. Abo is often quoted as “not only knowing what we don’t know but, even better, knowing who knows what we don’t know.”