Exit Planning Exchange

By Jack Beauregard

An estimated seven million baby-boomer business owners will exit their companies over the next 20 years — and many of them are your clients.  How can CPAs take advantage of this growing wave so that, instead of  losing your clients, you can actually develop new business opportunities from these transitions?  When you are ready to exit from your own company, how can you transition most successfully for both your maximum financial outcome as well as your personal satisfaction?  The process of personal transition planning can successfully answer these questions. Transition planning will benefit your business-owner clients.  CPAs who work with clients through the transition planning process can open up new business opportunities for themselves. CPAs thinking about leaving their own businesses can benefit personally from engaging in their own transition planning.

The Time Factor

A major reason why owners fail to make successful business transitions is because of costly misconceptions about time. Many owners believe that it is too early for them to plan what they are going to do with their businesses or with their lives after leaving their businesses.   Another common misconception is the belief that they do not have the time to make a plan for exiting their companies. Owners often think it will take no time to sell their businesses, which causes them to walk into a business brokerage or M&A firm and announce that they want to sell their companies immediately.  The fact is that if owners fail to take the time to plan, they have created a plan to fail.  Overnight transactions are not based in reality, since owners will need time to meet with professional advisors such as lawyers, financial planners, etc. with expertise in the exiting process. It also takes time to create a strategic game plan, so the owner can get the company into the best business and financial shape possible to realize the maximum amount of money.

What Transition Planning Can Do For Your Clients — And For You

A transaction does not happen until an owner makes a decision to transition out of his company.  Just as a successful business reflects well thought-out ideas about growing one’s business, owners also need to take the time to think about and decide “How do I want to leave my company?” In fact, 75 percent of baby-boomer owners who have already exited their companies report regretting leaving because they did not make well thought-out exit decisions, were not aware of all their options and did not develop a planfor their lives after they had left their companies.  Qualitative issues are as important as quantitative considerations when transitioning out of a business.  Often, psychological and emotional issues hold business owners back from thinking about leaving their companies or beginning the actual planning process.  Owners who engage in transition planning are able to deal successfully with both the “hard” and “soft” issues involved in transitioning out of a business. As part of the process, they also work with a team of experienced advisors — including a CPA and other professionals — to develop and implement the best financial and business strategies for exiting and passing on their businesses successfully.   A CPA who is part of this team opens up new billable hours by preparing a business plan, cash flow projection and preliminary estimate of value as part of the transition process. You are also in a position to get in “on the ground floor” with the new owner, as well as make new contacts and develop new business leads through working with the lawyers, financial advisors, wealth management consultants and other professionals on the transition team.  Finally, as reported in the Wall Street Journal on February 16, 2010,  Americans in the 55 to 64 age group have posted the highest rate of entrepreneurial activity for the last 10 years, so a CPA’s next new client may be a business formed by the former owner of an existing client.

Seventy-eight percent of baby-boomer business owners do not currently have plans for exiting their companies. If this includes your clients, you will be doing both them and yourself a favor by encouraging them to start thinking now not only about what they wantto do with their businesses but also what they want to do with the rest of their lives after leaving their companies.

The Head Issues

Owners have created their companies and worked hard to make them grow.  An owner who has put so much time and energy into building the company wants to ensure that costly mistakes aren’t made at this stage. By applying the power of planning, owners can be clear about both their business and personal objectives for leaving their companies in the next five to 10 years, develop clear, concise strategies to maximize return, reduce risk and maintain their sanity in the process.An owner who does not engage in transition planning can experience “owner’s indecision”, which can divert time and attention away from running the company, lead to loss of sales revenue and hamper the efforts of business intermediaries who are representing the owner in trying to sell the company.  Lack of planning and the owner’s indecision can also reduce a company’s profits, cause an upward capital cycle to be missed and lead to loss of business value.

The Heart Issues

Selling or transitioning out of one’s business is fraught with emotional anxiety. In order for owners to transition successfully, they need to do an objective appraisal of how psychologically prepared they are to exit their companies, clarify their goals and be aware of what is motivating them to leave.  Owners need to deal successfully with the complexities involved in making the major life transition of leaving their companies.  They especially need to avoid the debilitating distress of exit remorse and the depressing effects of post-transaction stress disorder,which can cause them to experience boredom, desperation and even an increased chance of dying prematurely after leaving their companies.

The Identity Factor

It’s hard for manyowners to leave their companies because the business is their “baby.” For many owners, their lives are identified with being a business owner, and they think they will lose their personal identity once theyno longer own a business.  They may view their lives after leaving their companies as irrelevant, feel they will lose status in their communities and dread the day they call up other business owners they used to know, only to be given the “bum’s rush” because they are no longer “players.”

The Fear Factor

Unacknowledged fear is often responsible for owners procrastinating about what to do with their companies. Fear can also cause them to suddenly walk away from the sale of the business due to emotional misgivings.  An owner can suddenly experience seller’s remorse and unexpectedly cut off the transaction process, which can incur legal and financial costs, reduce the chance of selling the company in the future and increase employee turnover.

The Death Factor

Many owners view the prospect of leaving their businesses as a kind of death, which prevents them from even thinking about creating an exit strategy.  However, not having a plan for post-ownership life can cause owners to want to die at their desks — and that is sometimes where they end their lives.

Looking Ahead to the Rest of Your Life

Personal transition planning is essential for owners who have no interest in a post-ownership life that consists of sitting on the porch in a rocking chair or playing golf 24/7.   Running a business is intellectually stimulating, which is one reason why owners need to create a game plan for keeping their minds active after leaving their companies.  Owners also need to determine if they want to spend their post-ownership lives working part-time, starting a new business, doing volunteer work or any combination of these.

Owners who engage in personal transition planning are able to answer the crucial question of “What’s next?”  Creating a strategic lifestyle game plan allows them to know where they want to live, how they are going to replace their social contacts, and  how they are going to take care of themselves physically in their post-ownership lives. They also will have dealt with the issue of finding new common interests with their spouse, so they will not experience a divorce or have each partner go a separate way at this stage in life. Finally, owners who have engaged in transition planning have created tactical plans for how they will practically implement each of their lifestyle decisions.  Personal transition planning helps owners become aware of and effectively deal with the various fears associated with transitioning out of a business, so they can successfully navigate the uncharted waters of leaving their companies. Transition planning changes an owner’s perception of what it will be like to leave the company — transforming it from an “ending” to a “new beginning”.  Keep in mind that at some point in the future, you too can benefit from transition planning when you are ready to begin thinking about exiting your own business and considering what you want to do with the rest of your life.

Jack Beauregard is the CEO of theSuccessful Transition Planning Institute and co-founder with Kevin Long, CPA, Esq.of Apollo Transition Advisors. Beauregard can be reached at jack@ thenexttransition.com or 617.576.5728, www.successfultransitionplanning.com.

By Joseph C. Marrow

Choosing the best exit strategy for a company is a daunting task.  The goal for business owners is to maximize the value of the enterprise for themselves, their employees and their stockholders.  Some popular exit strategies include a sale to the highest bidder or a strategic partner, a public offering in the United States or abroad, or a sale of an interest in the business to a private equity investor.  To determine the best alternative, it is necessary to weigh several factors.  Is the business best positioned for a sale (based on the industry or the scope and size of the enterprise) or do the public markets or a private equity investor present an opportunity to brand and grow the business?  Do the business owners desire to remain with the company or is the preference for a clean break?  Is it a buyers or sellers market?  Are the capital markets open to new issuances?  These are some of the questions that should be assessed when making a determination how to proceed.  The best advice is to plan ahead.  Even if you have no immediate plans to pursue an exit, you should understand the markets and think strategically to best position your business for a liquidity event down the road.

Planning for an exit event is critical for you and your business.  What steps should you be taking in the planning process?  As counsel to a variety of business at different stages, we are often asked to weigh in on strategic alternatives.  Having worked with business owners over the years in planning for and effectuating liquidity events, several common themes have emerged.

1.  FOCUS ON EXECUTION

Above all else, keep focused on the execution of your business plan.  Planning for and executing a liquidity event can be an extremely time consuming and distracting process.  Don’t let it be!  If you remain steadfast in the achievement of your business objectives, execute on your plan, dedicate yourself to attracting real customers and revenues, your exit event will take care of itself.  The primary focus of the business owner should always be on the success of the enterprise, not the consummation of the exit.

2.  BE BOUGHT, NOT SOLD

One common mistake business owners make in the pursuit of an exit strategy is to lose sight of the short-term needs of the business.  For example, a business may have some short-term capital needs to address to attract, retain and grow its customer base.  The business owner, believing an exit event is at hand, may elect to forego the short-term expense in light of an impending transaction.  A failure to address short-term cash needs, however, could have long-term repercussions.  Several factors dictate that it is better to spend the money now.  Transactions can often disappear as easily as they arise or a transaction can take significantly longer than expected.  Equally important, the long-term success of the business may be tied to the transaction.  Often times earn-outs, bonuses under employment contracts or other consideration depend on the financial performance of the seller’s business post-liquidity event.  For these reasons, sellers should continue to run their businesses in the ordinary course and meet short-term capital needs to achieve long-term objectives.  Saving a few dollars now could certainly cost the seller many dollars in the long run.

3.  SURROUND YOURSELF WITH EXCELLENT ADVISORS

Unless you have some transactional experience, a liquidity event poses many challenges to a business owner.  The nature of the transaction (M&A or IPO), the specific terms of the transaction and continuing obligations after the sale, employment issues and tax and accounting considerations present a litany of issues to consider.  It is neither necessary nor advisable to go through the process alone.  Seasoned professionals are available to guide the seller through the process.  Very early on, you should engage an experienced attorney, accountant and other advisors (such as an investment banker) to assist you.  Lean on your advisors.  It is not uncommon to hear the CEO of a company explain that he or she has achieved great success because he or she has surrounded himself or herself with smart people.  If you choose carefully, the advisors will have a great deal of experience to draw from and will be able to provide excellent guidance recommending exit alternatives, structuring the transaction, avoiding pitfalls, preparing the company for a liquidity event and completing the transaction.  Many business owners raise concerns regarding the costs involved in engaging service professionals, however, most business owners that have experienced a liquidity event will attest that the right professionals add to, rather than detract from the value of a particular transaction.  In addition, the better the advisors, the more time a business owner can devote to the matter at hand – the day-to-day operations of the business.

4.  CHOOSE CORRECT EXIT STRATEGY

There are several options when considering exit alternatives.  For many, a sale of the business is the logical choice.  Others may opt to raise money through the public markets or to sell a piece of the company to private equity investors.  Recently, the public markets, in particular, have not been an attractive option.  While many are familiar with the perceived downsides to going public (compliance costs, personal liability exposure of officers and directors and short-term financial performance pressures), there can be legitimate reasons to test the public markets (creating a national brand, providing liquidity to employees and investors or using the publicly-traded stock as currency in a roll-up strategy).  Still others have used the public offering route to attract buyers.  In addition, private equity can provide a much needed capital infusion to a company.  A business that accepts private equity investment should note that with the investment comes a fairly short-term liquidity horizon – 5 to 7 years to position the company for sale or to go public.  Once again, professional advisors can be extremely helpful in vetting the available options and guiding a business through the process.

Choosing and pursuing an exit strategy is both exciting and intimidating.  A business owner contemplating a liquidity event is faced with a myriad of issues.  Selecting the correct route to follow is not always easy.  Moreover, above all else, in pursuing a liquidity path, make sure your number one priority is the continued health and prosperity of the ongoing business.

For more information, please contact Joseph Marrow at jmarrow@mbbp.com.

By Sarah C. Richmond

Many companies do not work with their lawyer in a very efficient way, and as a result end up spending significantly more money than is necessary for services that are less than optimal. Keep the following in mind to improve your company’s legal services in terms of cost, effectiveness and responsiveness.

Keep your lawyer informed.

Most business lawyers bill by the hour and, as a result, clients try to minimize their contact with them. However, you are far better off in the long run if your lawyer is kept current as to your company’s activities. Discuss how you might set up a regular program to keep your lawyer up to date as part of your team. For example, invite your lawyer to attend your board meetings. Send your lawyer periodic emails with status updates. Meet your lawyer for breakfast or lunch a few times a year; a good lawyer should not charge you for this time and will be glad to have the opportunity to get to know you and your business “off the clock.” But, do bear in mind that a lawyer’s inventory is her time, so don’t abuse the right.

Many lawyers can provide services beyond mere legal advice. For instance, many business lawyers will have a network of contacts in accounting, banking and insurance that you can easily tap into if your lawyer knows what your business needs are. Some corporate lawyers will have ties to the venture capital and angel investor community. Keeping your lawyer informed about your company’s activities, needs and goals can open a lot of doors for you.

Be proactive rather than reactive.

Be proactive with your attorney to help you catch problems before they become too serious. Too often, lawyers find out about a legal issue the company is facing after it’s too late to nip it in the bud easily. Avoid the predicament of clients who say to their lawyer “I signed this agreement. Could you review it and let me know that it’s OK?” By this time, it’s too late and it’s usually not OK. Have your lawyer review any significant agreements before signing them. Don’t try to do your own incorporation without the help of a lawyer. And don’t issue securities without consulting with a lawyer. It will always cost more to fix something after the fact than to do it properly from the start.

Allow your lawyer to prevent fires from starting rather than just putting out the flames after the fact. Make sure you give your lawyer all the facts. You may think you are saving money by keeping the information you share with your attorney down to a bare minimum. But it may not be obvious to you which facts are relevant and which are not, and omitting a key piece of information can lead to inaccurate legal advice. Keeping your lawyer informed before taking action can help prevent you from getting sued, unknowingly giving away rights to your core technology, jeopardizing important employee and customer relationships, and compromising other important aspects of your business.

Stay organized.

Sign documents your lawyer sends you and send them back, rather than letting them pile up on your desk. Make sure to send a copy of all executed contracts, minutes and other important documents to your lawyer for her files. Most lawyers bill by the hour regardless of the task, so remember that an hour of time spent by a lawyer trying to track down a missing client document costs the same as an hour of the lawyer’s time in providing substantive legal advice. Try not to make your lawyer do your work for you.

Plan ahead for meetings and phone calls. Send your lawyer an agenda of the topics you want to cover in advance. This will enable your lawyer to do necessary background research or analysis before the meeting rather than after, making the meeting go much more smoothly and getting you answers sooner.

Give advance notice.

Plan ahead to the extent possible when you think you will need legal help down the road. Giving advance notice allows your lawyer the time to assemble the proper team, resulting in lawyers who are at the appropriate skill level (and billing rate) to perform the work required.

Set reasonable deadlines. If you don’t actually need something by tomorrow, don’t make your lawyer jump through hoops to have it done by then. Setting unreasonable deadlines can result in lawyers and staff needing to work overtime, take cabs home and eat dinners at work, all at your expense. Allowing your lawyer to plan his life in advance will result in legal services being rendered more efficiently.

Discuss financial parameters in advance.

Make sure you understand how your lawyer’s fees and billing system work, and who at her firm will be working on your projects. Ask your lawyer for an estimate of the cost of each significant project to be undertaken, and get assurances that you will be consulted well in advance if the project’s costs look like they will exceed that estimate. Ask your lawyer if her firm has special fee arrangements. For instance, some firms will offer special rates or deferred payment plans for start-ups.

Choose the right attorney.

Although your brother-in-law may be the best real estate lawyer in town and may be willing to do the legal work for the sale of your business for next to nothing, he is not the right attorney to choose. Go with a lawyer and law firm that has expertise in the area you need. Before hiring a lawyer, take a close look at his bio as well as the description of his firm on the firm’s web site. Feel free to ask him to describe similar transactions and other clients in similar lines of business (without giving away client confidential information) to assure you of his expertise and that of the firm. A lawyer who has experience and expertise in the area you need will end up being significantly more cost-effective and productive for your business, regardless of his hourly rate.

Give your lawyer feedback.

If there is an associate whose work you are not happy with, let the partner know. If you find the law firm’s invoices confusing, let the firm know. A service-oriented lawyer should solicit this feedback from you on a regular basis. But even if she does not, make your concerns known. You are the consumer, there are a lot of qualified attorneys out there, and your lawyer should care first and foremost about keeping you happy.

If you help your lawyer to provide cost-effective legal services by taking the steps outlined above, she can be a major asset to the health of your business, rather than just a necessary cost.

By William A. Duratti

Recent changes to Mergers and Acquisitions accounting has given rise to new questions, confusion, and sometimes even hesitation over completing a deal. Requirements under FAS141R are behind it all, and companies will have to comply beginning in calendar year 2009 – a date that looms large for many who are considering business combinations.  However, the challenges presented by FAS141R should not stand in the way of intelligent deal making. Buyers and sellers alike will adapt to the salient changes and base their decisions on whether an acquisition is a good deal at the right time for them.  Even as their accounting and valuation teams make the necessary adjustments, they know that advantages can be gained from the new system. The changes under FAS141R complete a joint effort by the FASB and the IASB to improve financial reporting for business combinations and to promote the international convergence of accounting standards.

FAS141R will cause some major changes and fluctuations to post-merger balance sheets. Understanding the new guidance, modeling deals accordingly and gauging impact on the financial statement before closing the transaction will help reduce any potential negative effects.  Complications arise due to the tricky nature of fair value and deal modeling, especially when estimating intangibles like unresolved contract contingencies. Calling in valuation specialists mitigates the damage that can result from poor assessments. When financial analysts evaluate transactions and earnings, they’ll be looking for how fair value was applied and what normalized earnings will look like on a forward looking basis.  This is especially timely as fair value under FAS141R will follow the guidance of FAS 157 and is defined as: “the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measure date.”

Major changes to this definition include the marketparticipant perspective, exit price and more reliance on observable inputs, all of which create more difficulty in financial reporting for business combinations.

When all is said and done, these revisions mean that company leaders can expect ups and downs. When it comes to M&A activity, an acquired entity will likely cause turmoil in financial statements until the merger stabilizes over a number of reporting cycles.

The most significant changes coming under FAS141R include:

1. TIMING OF DEALS AND REPORTING

The biggest challenge for financial departments may come with the increased emphasis on timing and a growing list of disclosure requirements. FAS141R provides a more stringent timeline for reporting business combinations, and if deadlines are missed then provisional amounts must be reported for incomplete terms. That means not having the most qualified information, which can lead to more serious issues down the road.  There is a grace period of one year after the deal is closed – called the “measurement period” – during which provisional items can be adjusted.

Also, the expanded disclosure requirements make meeting the deadlines even more difficult and often will force a company to speed through the process. A deeper planning process and having the right team in place early will help avoid sacrificing quality and accuracy for speed.

2. CONTINGENT CONSIDERATION

Perhaps the most significant accounting change is the requirement that the purchase price of a business combination now include the fair value of contingent consideration. This change could significantly increase the upfront purchase price recorded on deal transactions, as well as increase the volatility of subsequent accounting.  The contingent consideration will be recorded by the acquirer as a liability at fair value as of the transaction date and will need to be adjusted to fair value at each subsequent reporting period. Given the major uncertainties as to future amounts and timing of payments of the contingent consideration, the fair value of this liability may materially fluctuate over time as more information is obtained.

Companies putting contingent payments into the deal structure will need to closely assess fair value of the 2 contingency. There is no predicting the future, but modeling and understanding the shapes that a deal can take will help mitigate the potential fluctuations in reporting.

3. IN-PROCESS R&D (IPR&D)

Under previous regulations, companies could record the fair value of IPR&D as a period cost of a transaction.  FAS141R, however, requires that the fair value of IPR&D be recorded as an intangible asset on the balance sheet. If the IPR&D does not come to fruition, it will subsequently need to be written down to its fair value, potentially zero, resulting in an impairment charge to the income statement.

4. DEAL COSTS

Acquisition-related costs such as negotiations that involve banking and legal fees were traditionally reflected as deal costs that could be capitalized along with the purchase price, but FAS141R calls for these items to be expensed immediately as period costs.

5. ASSETS AND LIABILITIES ARISING FROM CONTINGENCIES

FAS141R improves the completeness of the information reported about a deal by changing the requirements for recognizing assets and liabilities that arise from contingencies. An acquirer is now required to recognize these elements as they arise from both contractual contingencies and noncontractual contingencies as of the acquisition date, measured at their acquisition-date fair values. Again, post-merger adjustments to the fair value of these contingencies can create significant fluctuations in reported earnings.

ACTION ITEMS

With these items and others looming large at the beginning of 2009, companies that are pursuing acquisitions should take a few important steps to solidify their position.

• Re-assess current deals to determine the impact that FAS141R might have, and consider if it will be beneficial to close after the deadline passes.

• Be certain that the right teams are in place to understand and apply new fair value concepts to aspects of a transaction.

• Instruct teams to prepare for the new guidelines and adjust their approach as best as possible to minimize impact on the balance sheet and fluctuations in future reporting.

Despite the changes and action items that accompany FAS141R, the reasons for sourcing and completing deals should remain the same. Company leaders will still strive to make decisions that are strategically sound for their business or come at a good investment price at the right time. The fact is, pre-141R accounting was already a mystery to many. Adjustments will come from the valuation and accounting side to ensure that deals go through smoothly and under the best possible terms.

Material Discussed in this Insight is meant to provide general information and should not be acted on without obtaining professional advice tailored to your firm’s individual and specific needs. This information is for general guidance only and is not a substitute for professional advice.

By William S. Andronico and Craig Eaton

As the U.S. emerges from the recession that has plagued the economy during the past 18 months, private equity firms that have been entrenched in their investments are beginning to evaluate exit options in the hopes of earning what is now a long overdue return on their investments. However, there is still a lot of uncertainty on the horizon and as a result, transactions are being subjected to deeper scrutiny as buyers seek out companies with a compelling growth story that can withstand today’s prolonged due diligence process.

In this market, there is no guarantee that any exit will be as timely or profitable as fund investors would hope or require, but market ready businesses can still be sold quickly and at a solid multiple. The key to success? Strategically preparing for an exit. Not only will exit readiness enable the efficient execution of a sale, but it will also maximize its value.

How Important Is Exit Readiness?

As credit markets have tightened, it has become even more critical that companies looking to sell anticipate risks and issues that might arise and potentially disrupt, or lower the value of a deal. Buyers will undoubtedly uncover any hidden problems during the buy-side due diligence process; therefore, it’s important that the seller is aware of any “hidden gems” and has that knowledge available when negotiating sale price.

In addition, there is an ever-present “need for speed” during any transaction, particularly given the drain on management’s time and energy associated with preparing for and executing a sale. In order to quickly and effectively execute a transaction, it’s critical that the seller is fully prepared to exit when the business is taken to market. If not, the seller risks exposing the company to the buyer, prolonging the deal and ultimately lowering the sale price.

Sell-side Due Diligence: Readying For An Exit

Sell-side due diligence is a valuable component of any exit strategy, particularly in today’s uncertain economic environment. Sophisticated bidders have advisors on hand to find any problems within the business and therefore, it’s important that the seller has taken an in-depth look at the company in advance to prevent any unwanted surprises. Sell-side due diligence allows the seller to proactively address any risk areas of the deal and can even expedite the transaction process. Well executed sell-side due diligence includes a thorough assessment of the financial health of the company, as well as an evaluation of all operational, technological and human resource issues. A thorough sell-side due diligence partner assists with five critical phases of the deal:

1. Pre-sale planning. The seller and its due diligence partner must identify any potential issues in order to avoid broken deals or decreased valuations. Pre-sale planning includes performing due diligence and preparing an analysis of the business positioning, providing support and insight for the information memorandum and assessing the baseline valuations range, among other activities.
2. Data room and management presentations. It’s critical to develop financial data and schedules on a basis of accounting consistent with the information memorandum.
3. Negotiation and execution. Sell-side due diligence enables the seller to anticipate the purchaser’s challenges to valuation, support negotiations from a fact-based position of strength and avoid any delays to the transaction process.
4. Operational separation. The seller and its due diligence partner must proactively identify any stand-alone issues including commercial and customer risks, and analyze the cost of those issues.
5. Post-closing issues. Once the deal is closed, the information garnered via thorough sell-side due diligence can help with purchase price adjustments and other post-closing issues that might arise.

Sell-side due diligence allows sellers to counter transactional risks by taking a proactive approach to mitigate potential deal breaking issues. Before moving forward with a potential deal, sellers should:

• Evaluate the financial health of the company by assessing the quality of earnings and identifying any non-recurring charges or credits to maximize the company’s value;
• Develop realistic budgets and forecasts;
• Assess trends in revenues and EBITDA to identify key business drivers;
• Appraise the quality of assets to be sold and liabilities that would be assumed;
• Evaluate trends in required working capital and develop a target working capital level in advance of the purchase agreement;
• Appraise the impacts of fixed versus variable costs, capital expenditure requirements and the importance of certain administrative activities;
• Identify internal management and operational weaknesses, as well as any potential transitional issues;
• Identify tax risks including federal, state and sales tax obligations;
• Determine the optimal tax structure of the seller before the deal and for the deal, and evaluate the impact on potential buyers;
• Consider related party activities and the related transfer pricing or intercompany activities;
• Define key terms and expectations in purchase agreements;
• Mind the GAAP (Generally Accepted Accounting Principles)

Tax Pitfalls and Opportunities

Whether the exit involves an IPO, a strategic/financial acquisition, or another exit option, tax matters can and do drive valuation, specifically when valuable tax assets such as net operating losses and tax credits exist. Two primary areas that require attention are the deal structure and the optimization of the underlying tax assets residing within the target.

From the seller’s perspective, it is essential to:

• Negotiate whether the sale will be an asset sale or a sale of stock. From a tax standpoint, a stock sale will generally benefit the seller and therefore, if it is an asset sale, it’s important to get a premium on the asset sale to put the seller in the same after-tax cash position.
• Consider state tax exposures prior to sale and to mitigate any concerns that might arise. For example, the seller should look at how to structure the sale from a state income tax perspective, evaluating ways to allocate income to low-tax states.
• Look at items such as tax accounting methods that might trigger income on an asset or stock sale, and evaluate how to mitigate the impact on the sale.
• Look for the possibility of tax-free reorganizations, particularly if dealing with a public strategic buyer.

An agreement between the parties related to taxes on a pre- and post- transaction basis should be drafted. Issues related to taxes such as documentation related to basis, net operating losses and credits come up several years after transactions are completed and it is important to identify the responsibilities of both the seller and buyer. This includes taxes triggered through change-of-control payments.

The choice of entity and whether the sale is structured as the sale of stock, a straight asset sale or a deemed asset sale can have many variables that should be considered prior to sale.

Looking Ahead…

As markets and exit multiples continue to stabilize and investor demand for liquidity continues, private equity firms are seizing the opportunity for potential exit strategies – looking to maximize the return on their investments. However, planning how to exit an investment is just as important as completing the transaction. Companies should be sure they’ve considered all options and invest proactively in presale diligence to expedite the sale process, maintain control and credibility, and enhance exit value.