Transitioning a Business

Issues to Consider when Management and Ownership Change

John Bird

August 1, 2012

After spending years building a successful business, the idea of transitioning to new management and ownership can be difficult to accept. However, it must be done eventually and the prepared business owner is likely to experience a far more successful transition. Unfortunately, business owners often contact their professional advisors after the sales process is well along. This is too late. A tremendous amount of value can be added for the owner in the years, months and days leading up to a sales agreement.

When thoughts turn toward the sale of a company, initial musings gravitate to two main topics: who would buy the business and how much would they be willing to pay?

The Right Buyer
Potential buyers may be internal: current employees or family members already involved in the business. Or they could be external: a financial or strategic purchaser or a competitor in the industry. Each class of buyers will have unique expectations for the entity. The owner should identify in his or her preplanning who potential buyers might be:

  • One or more children
  • Current employees
  • Current co-owners
  • Financial buyer retaining current management
  • Operating buyer dismissing current management
  • A competitor or another business in the same industry

Each of these buyers will view the value of the business differently, and the business owner will likely find that one buyer sees far more value in the enterprise than the others. But selecting the most suitable purchaser may involve more than choosing the highest price. Does the owner hope to remain involved in the company in some capacity? Do they want the current employees and management to continue with the company? Was the purchase offer unsolicited? If so, has the owner shopped the business to other potential purchasers?

The Right Price
Equally important is to choose the best buyer who fully understands the proposed purchase terms. The purchase price may look good, but the terms may leave the seller bearing excessive risk far into the future. A common tenet in the industry is “your price, my terms.” In other words, the greater the proposed price the less advantageous the terms and vice versa.

Well in advance of entertaining a purchase offer, business owners should have a realistic idea of the value of their company. How are other businesses in the same industry valued? Are there traditional formulas such as some multiple of EBITDA, revenues or assets that apply? Industry trade groups can often provide valuation guidance and while an owner may not want to incur the cost, retaining a business valuation consultant will likely prove to be money well spent.

In the years prior to a sale there are steps to take to make the company attractive to buyers. Determine the corporate structure most suitable for potential purchasers and whether company assets such as real estate, intellectual property and equipment should be owned by the company or held in separate entities. Review the financial statements to be sure they are clean and transparent for at least the previous three years and accurately reflect revenues and expenses likely to be experienced by a non-operational owner with a hired management team. Be sure financial statements have either been audited or are accurate and transparent enough to allow for a speedy audit. Ensure company records such as board meeting minutes, resolutions and records of ownership are accurate and up to date.

Family Matters
Passing on the business to family members adds a new set of opportunities and hazards.  Families who successfully transition to the next generation distinguish between ownership and employment. Members who work for the company can receive competitive salaries for the position they hold and the work they do. These individuals may also benefit from their ownership in the form of stock dividends and share price appreciation. The economic benefit to non-employed family members may be limited to the benefits of ownership: dividends and stock price appreciation.

There is no one-size-fits-all solution. Each family will have a different idea on how to best meet the goals of both the family and the business. In our experience the most successful families are those that communicate regularly and accept the difference between ownership and employment.

This summary skims the surface of issues to be considered when contemplating a sale, yet it highlights a few ways effective preplanning can have a dramatic impact on the success of the transition. It is your business—you have worked hard to create and grow it, nurturing employees, customers and suppliers along the way. By thinking through a variety of issues and taking steps to make your company more attractive, you can dramatically increase the odds of realizing the full value you’ve worked so hard to create.

John Bird is a principal and president at Albion Financial Group

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