Exit Planning Exchange

IN THIS PAPER

Selling a private business is best thought of as an ongoing planning process that begins well before the deal is consummated and ends well afterward. But at every point along this continuum, the owner and his professional team are grappling with and resolving both financial and personal issues. Bernstein’s proprietary modeling capabilities can quantify the likelihood that a sale will meet an owner’s critical financial objectives and help evaluate the trade-offs across different deal terms.

You Can Get Satisfaction

Sir Michael Jagger, better known as Mick, led The Rolling Stones in proclaiming that “You can’t always get what you want…but you just might find you get what you need.” This trade-off applies to all things in life, including investments, and it has special validity when selling a private business. Although an owner’s focus may be on getting his “magic number” for the business up front, he may find that other alternatives offer acceptable, or even superior, trade-offs.

We begin with the premise that business sales are typically complicated, and laden with emotional issues. The owner is selling his means of livelihood, and more—the configuration of his financial portfolio: He’ll have to make the transition from relying on business earnings to living off the pool of liquid investments generated by the sale. The good news is that sellers are not in the process alone, but generally represented by teams of advisors, usually quarterbacked by an investment banker and including a portfolio-management professional such as Bernstein (display below). The role of the investment manager is not to pass judgment on one or another termsheet, but to place each in the context of the seller’s overall financial objectives. This can be done at any point in the deal—but the sooner the better.

A Thicket of Questions

Display 2 parses some of the interconnected financial and emotional issues that arise when selling a business. For example, whether the owner receives “enough” for his business depends on how much it generates in earnings and how much the market is willing to pay for those earnings. But directly connected are issues like whether now is a good time to sell, whether the owner wants to retain an interest in the business for a while longer—often a negotiable point—and how the sale will impact the owner’s family and employees. All of these issues affect owners’ personal lives as deeply as their financial wherewithal—and on both sides of that equation professional planning can identify opportunities and help solve problems. Further, each of these questions leads to additional questions.

Arriving at answers is made none the easier by the blizzard of alternatives often available, and frequently buyers and sellers find themselves in disagreement about deal terms, legalities, and tax-related matters. The job of the professional teams—the seller’s and the buyer’s—is to satisfy their respective clients, resolve as many issues as possible before the consummation of the deal, and monitor the transaction as it moves forward. And there are never one-size-fits-all answers. One seller may justifiably be anxious to consummate the deal before taxes go up in 2011; another may be willing to pay the higher levy if he expects hisearnings to increase significantly in the near future, raising the value of the offers he’ll receive. The question is whether the risk of waiting will pay off. We’ll have more to say about this later.

Display 2

Typical Business-Owner Questions

Emotional

• Do I want to stay involved in the business?
• Do I have a plan for my life after the sale?
• What effect will the sale have on my family and employees?
• Do I have the risk tolerance to accept contingent deal terms?

Financial

• How much is my business worth?
• What’s the best deal structure for me?
• Will I get enough to meet my needs?
• Is all-cash-now better than staged/contingent payments?

Professional planning is critical.

What about the environment? Is this a good time to sell? Evidence of an economic recovery is mounting, but financing is still tight,and there are no assurances about what the future will bring. In addition, the profit dynamics of every industry—and, more important, for every company—are different. That last criterion is the one that truly counts for a business seller: It’s his company and his livelihood that are at issue. The job of his professional team is to keep him from falling into one of two traps: rushing headlong into selling now because the “landscape” looks good, or refusing to budge because it was better several years ago and good times may be around the corner again.

Still, owners need a touchstone for deciding whether to sell, and one metric might be if the proceeds—whether all up front or parceled out over time—are at least enough to provide for the owner’s lifetime spending needs (his so-called core-capital requirements). Ideally, he’d take home even more than that and generate “excess capital” (see “Will You Get Enough? Core Capital vs. Excess,” facing page).

Non-Sellers’ Remorse

During the boom years of the mid-2000s, many business ownerswere offered and refused term sheets, hoping to do better—only to regret that decision when the bear market ensued. Consider John and Jane Commander (Display 3, page 4), who decided in early 2007 that they were ready to give up their business, which was earning more than $7.5 million a year, and represented the vast majority of their net worth (the rest of which was invested in two IRAs totaling $1 million). They wanted to sell the business for $60 million, which worked out to 8×EBITDA, a high multiple even by 2007 standards—but were offered $48 million. They chose to pass. As we’ll see, while more money is obviously better than less, they didn’t need proceeds of $60 million to meet their financial objectives.

Indeed, three years later new offers came in, but by now, in harder times, their earnings had declined to $6 million. They’d have to sell at a lower multiple, yielding $27 million cash, leaving them with $23 million after taxes, including their IRAs. Should they sell this time?

Case Study: John and Jane Commander—Disappointment…Or Opportunity?

In 2007

• Business earning $7.5 Mil./yr.
• Appraised at 6.5× earnings=$48 Mil.
• Commanders passed on a sale
• Their Questions: Will we have enough to support our core needs?
• Will we be able to buy a $3 million second home?
• Should we hold off selling again, and hope for better?
• How should we evaluate alternative deal terms?
• Will we leave a sizable estate?

In 2010 (65 years old): Earnings down to $6 Mil.

• Appraised at 4.5× earnings=$27 Mil.
• Net proceeds after taxes: $23 Mil.**Includes $1 million in IRAs

Could they, and meet their objectives:satisfying their core-spending needs ($500,000 a year, grown with inflation), purchasing a $3 million vacation home they’d had their eye on for decades, and establishing a substantial legacy for their two children?

With so much money on the table, you wouldn’t think that core capital would even be an issue, but the Commanders live an upscale lifestyle, and there are subtractions from the top. They’dwant to set aside their capital-gains tax bill in cash, for example, and the 10% of the purchase price that would go into escrow is never entirely safe. The couple and their team justifiably wanted a specific core number from us—an estimate of how much they’d need to support themselves even in dreadful markets. To answer that question, and others related to the deal, we input the Commanders’ goals, assets, risk tolerance, time horizon, and other data specific to their situation into our proprietary Wealth Forecasting System.  The couple were fortunate enough to be able to consider three different deal structures, sowe studied all three term sheets, various asset allocations for the proceeds, and several “what-ifs” for their business earnings over the next five years. After subjecting these data to 10,000 simulated future returns in markets ranging from spectacular to dismal, we generated a probability distribution of outcomes (Display 4). We projected their required core at $16.6 million, but that was a function of how they invested the deal proceeds.

Determining Allocation and Required Core Capital

Like many business owners who can no longer rely totally on earned income, the Commanders had a conservative bent when it came to investing their sale proceeds—a portfolio weighted toward bonds. We used our Wealth Forecasting System to evaluate the potential returns and volatility of a portfolio invested 20% in globally diversified stocks and 80% in bonds (Display 5).

While the model suggested that the portfolio would almost never generate a peak-to-trough loss as great as 20%, that security came at a price: Bonds have limited growth potential. We projected that the couple’s age, budget, and portfolio allocation would translate into a core-capital requirement of $18.6 million(at the 90th percentile of probability) and an expected portfolio value after 30 years of spending and taxes of $30.4 million. That doesn’t sound at all bad—but the Commanders and their team wondered if the couple could do even better.

The Commanders were aware that stocks tend to grow more quickly than bonds, so they wanted to see how much more wealth they might accumulate over 30 years if they invested at a higher risk level. If we pushed stocks to 60% of the portfolio,we projected the 30-year wealth figure at $48.8 million—$18.4 million more than a 20/80 mix.  And with the extra growth of stocks, we’d expect the Commanders to need less core capital—$16.2 million. But the trade-off for stock growth is volatility. We estimated that the Commanders would face a one-in-three chance that at some point they’d lose as much as 20%. This went far beyond the limits of their risk tolerance.

The optimal solution—for this particular couple—turned out to be a bond-tilted 40/60 portfolio, which would require core capital of $16.6 million. Our analysis convinced the Commanders and their team that a 40/60 investment strategy could meet that hurdle even if markets were very poor, and with a very small risk (6%) of ever experiencing a 20% portfolio correction over the next 30 years. Our median 30-year wealth expectation was $39.4 million.

Altogether, this was an attractive picture for the couple, one they could readily embrace as the centerpiece of their financial planning. The question is, would the deal net them their core capital, and an additional $3 million to fund the vacation home—$19.6 million in all, plus enough extra to support a legacy for their kids?

Take the Money and Run…or Wait Awhile?

And so the Commanders would have to work through different term sheets with their professional team, since they were considering three different types of transactions. It turned out that all were variants of cash deals, but the cash would come to them at different times and from different sources.

One offer was straight cash up front: $27 million. After paying capital-gains taxes at 15% on the federal level and 5% to their state, and assuming a zero cost basis in the business, the Commanders would have $23 million (counting their $1 million in IRA funds). It wasn’t the $60 million they were looking for in 2007, but it was substantially more than their spending plans required. They could easily satisfy their core needs, buy the vacation home, and have $3.4 million left over for legacy purposes on Day 1—even in very poor markets and before any multigenerational planning. Why couldn’t they take the offer and walk away satisfied? The fact is, they could—if they were willing to leave behind their disappointment about not garnering $60 million. In business sales, the financial and the emotional issues are inextricably tied to oneanother. There’s another angle to consider about accepting alower offer than the peak the couple had hoped for: Lowervaluations for a business often coincide with lower valuationsin the capital markets—and hence higher return potential forthe liquid portfolios that house business-sale proceeds. For the Commanders this could even translate into more wealth in theout years than if they sold at the higher 2007 offer.

Another sale alternative was a leveraged recapitalization. What if the company took on some debt in hopes of using the extra money to improve their operations, and hence their earnings?  They might find a prospective buyer interested in the growing potential of the business. In the deal the investment bankers laid out for the Commanders, a new partner would enter the business right away, with a 20% ownership interest in the Commanders’ shares. Under this structure, combining proceeds from the sale of equity and a substantial portion of the debt assumed by the business, the Commanders would come away with $13.5 million.  They’d also be paid an annual salary of $400,000 for five years for continuing to participate in the company’s operations.  Meanwhile, the couple would be using their company’s earnings to pay down the debt and work toward a profitable exit—in this representative case, five years after inception of the recap.  True, the up-front cash would fall short of satisfying their spending needs—but the couple wouldn’t consider a leveraged recap in the first place unless they were confident about their company’s five-year earnings prospects. In a worst (and unlikely) case, if earnings plummeted enough, a deal would probably be worked out through negotiations between the would-be buyer and seller, albeit probably at a price that both sides would see as a compromise.

Finally, the Commanders received a so-called “earn-out” offer: also cash with a five-year contingency, but not as dependent as a recapitalization on an earnings upswing. In this transaction,the Commanders would give up their entire interest in the business in exchange for a share of the earnings: as much as $2.4 million annually over a five-year period. If post-sale earnings were to fall short of agreed-upon targets, the earn-out payments would be reduced proportionately. If the Commanders agreed to the terms, the couple would be offered $19 million on Day 1, plus $400,000 a year in consultingfees for five years—not quite enough to meet their coreneeds and the cost of the vacation home at the critical 90% level of confidence, though close.  But unlike all-cash up front, the final value of the earn-out would be dependent on how the business performed over the near term—and like a recap, the Commanders would have to be interested in staying involved in business operations.

Working Through the Trade-Offs

Of course, there’s no “right” alternative for every business owner. Some owners feel both emotionally and financially secure staying tied to their business for a longer period. Other owners are eager to take the cash immediately, if they can get it, and go on to the next phase of their lives (which may not be retirement but another business venture). Similarly, there was no perfect alternative for the Commanders. It depended on the trade-offs they were most comfortable with—which is where we and their other professional advisors came in.  We knew, though, that working together, we’d enable the Commanders to identify the strategy best tailored to meet their goals.

But why all these complications? As we said, the Commanders could take the all-cash $27 million up front and avoid the uncertainties, a strategy that many business owners embrace.  Along those lines, we compare the up-front cash portion of each offer in Display 7. The all-cash-now deal was the only one that virtually ensured the couple would meet their needs in any plausible scenario; in the other two cases, a significant portion of the transaction involved contingent payouts. (With the recap, we estimated the chance of the up-front cash meeting the Commanders’ core needs at only 29%.) Deferring completion to a later date would mean exposure to a whole host of issues outside the scope of this paper, including future market conditions and buyer insolvency. Extreme cases, as we re-learned in 2008, do occur.

“The Icing on the Cake”?

But the case isn’t closed. Often, business owners regard the contingency payouts as merely icing on the cake.  But with our Wealth Forecasting System, we can help sellers systematically evaluate the sensitivity of different offers to varying earnings scenarios. The more the business earns over the contingency period, the more the sellers will benefit—and the odds are generally in their favor. Display 8 adds the potential future proceeds from the final sale of the Commander business in the recap case and from continuing distributions in the earn-out scenario, as well as the salary and consulting fee, respectively. For the immediate cash alternative, of course, there are no contingencies.

Using this scenario analysis, we were able to help them stress-test different earnings outcomes versus the security of immediate cash. The leveraged recap and the earn-out both offered the opportunity for more upside—and the potential for greater downside as well.  But because of its reliance on leverage, the recap was far more sensitive to earnings changes on both sides. So, for example, we estimated that just 5% earnings growth would be enough to deliver a median result of almost $100 million—and an upside above $175 million.  A 10% earnings decline, on the other hand, would leave the Commanders with about $8 million of excess capital in downside markets—not a dismal outcome by any means, but the Commanders wouldn’t want to test a recap much beyond a 10% earnings falloff. As we’ve said, they wouldn’t want to take the risk of a recap unless they were quite sanguine about the future of their business.

An earn-out is also sensitive to profits, as its name implies—but less so. The earn-out considered by the Commanders would allow for an earnings decline as large as 20% and still be comparable to the all-cash offer while retaining some upsidein good markets. All the alternatives—cash, recap, and earnout—were viable options that might be appropriate depending on the Commanders’ priorities and risk tolerance. They might not have gotten what they wanted (i.e., $60 million), but they would find that they got what they needed.

Setting the Table for the Family

As we’ve said, the Commanders wished to transfer some ofthe excess capital from their proceeds to family beneficiaries.  Addressed early enough, planning before the sale can be especially important. One effective means of transferring wealth is to gift shares. For gift-tax purposes, the value of the transfer will be based on a current or recent appraisal—generally lower than the value assigned at sale because pre-sale shares are illiquid and essentially unmarketable. In addition, if the gift represents a minority interest in a private company, for gift-tax purposes the value could be further discounted because the beneficiaries have no control over the illiquid shares. If  the business is indeed sold for significantly more than the valuation at appraisal, the beneficiaries would end up with more than the appraised value of the gifts.

For example, if the owner uses his $1 million lifetime applicable gift-tax exclusion amount to transfer shares of his company that ultimately benefit from a 30% discount at the time of sale, he’s actually transferring $1.4 million. However, to take advantage of a discount, there needs to be a sufficient time interval between the gift and the sale agreement.

Adding the Power of GRATs

A grantor-retained annuity trust, or GRAT, can leverage gifting substantially.

Here’s how it works: The owner contributes shares of his business to the trust and receives annuity payments back that equal his gift plus an amount of interest determined by the IRS Section 7520 rate. If the assets in the GRAT appreciate at a rate faster than the 7520 hurdle, the GRAT “succeeds” and all extra appreciation passes to the beneficiaries free of transfer tax. At today’s low interest rates, the GRAT bogey is especially low. (As of June 2010, the Section 7520 rate was 3.2%.) Further, donors pay the income and capital-gains taxes from outside the GRAT, enhancing the amount transferred. Because the statute of limitations on the valuation of the shares is three years (during which time GRAT distributions can be adjusted if the IRS disputes a claimed value), professional teams often recommend a three-year GRAT when contributing assets whose value is questionable.

Contributing discounted shares of a business increases the potential benefit if the company is sold within the three-year period.  The realization of the full value of the discount helps the assets in the GRAT appreciate rapidly, making it very likely to outperform the 7520 rate. In this case, we presume that a three-year $6 million GRAT invests its proceeds from the business sale in bonds for the safety of locking in returns. Once the trust expires after three years, the proceeds intended for the children are invested for the next 27 years in an 80% stock/20% bond portfolio—suitably stock-heavy if you assume that the beneficiaries have a longtime horizon. The display makes clear how the advantage of discounting builds. If the $6 million of shares in the GRAT were subject to a 30% discount, we’d expect the median value of the 80/20 portfolio to be $15.6 million after taxes and fully $7.8 million in very poor markets. Had the shares been discounted by40%, we’d project a $24.2 million median and a $12.0 million downside case.  Discounting can be a powerful tool when put touse in a GRAT.

Quantifying the Advantages of Planning

Assembling a legacy plan yields notable benefits. Returning to the Commander case study, let’s assume the couple sold the business for $27 million in cash and did no planning prior to or after that point. Recall that on Day 1, they’d have $3.4 million to set aside for legacy. In the absence of any estate-planning techniques, we’d project that even in dismal markets the legacy would grow to $13.2 million—the amount left over at the 90th percentile of probability before any estate taxes (refer back to Display 8, page 7).  But in the median case, we projected that—again, making use of no planning tools—they’d leave a hefty amount to their heirs at the end of 30 years: $18.8 million after estate taxes. But they’d cede even more to the government.

Suppose, though, that the couple’s legacy strategy was, pre-sale, to fund a three-year GRAT with $6 million in company shares, 30% discounted. Assume the Commanders invested the proceeds in a liquid portfolio over the 27 years following the GRAT’s term. Our models suggest that their heirs could expect the GRAT combined with the rest of the Commanders’ assets after estate taxes to produce $11 million in additional wealth.

Through the single action of funding a trust before the sale with discounted shares—and then investing the proceeds appropriately—the couple would be able to increase the legacy to their children by more than 50%—and reduce their estate-tax liability by nearly $6 million. The benefit derives from removing appreciating assets from the Commanders’ estate, decreasing their estate taxes, and setting that 80/20 risk level for the children’s portfolio rather than their own more conservative 40/60. If the couple were uneasy about leaving their children so much money, or wanted to do even more planning, pre- or post-sale, for any reason, there would be a variety of multigenerationaland philanthropic strategies at their disposal.  Such strategies—using vehicles including direct gifts, private foundations, charitable remainder unitrusts (CRUTs), and charitable lead annuity trusts (CLATs)—could be used for philanthropic purposes alone or for wealth transfer to both the family and charity. Each such strategy would absorb some of the Commanders’ gifting capacity and reduce their estate-tax bill.

These techniques lie beyond the scope of this study, but the same basic principles apply—relying on professional counsel, considering various trust vehicles, and carefully timing all strategies. Evenwhen a deal is complete, it’s not too late to plan for legacy-building; it’s doing nothing with excess capital that can incur a large opportunity cost.

Conclusion

We conclude with these thoughts about the intricacies of selling a closely held business:

• Planning for personal as well as financial issues in a business sale can help the owner feel secure about completing a deal.  Emotions count for a lot, whether they’re centered around the effects of the sale on family and staff, the owner’s desire (or lack of it) to close out a phase of his life, or any other issue not directly related to the proceeds.
• Rigorous scenario analysis is critical in understanding the impact that uncertain future earnings, valuations, and tax rates have on different deal structures that owners may be considering.
• Owners are well-advised to revisit their plans continuouslythroughout the sale process (before, during, and afterward).

As for the Commanders, they were strongly considering the leveraged transaction to recapture the level of upside they had in 2007.  But ultimately they opted for an all-cash up-front deal and they decided to initiate a pre-transaction GRAT, a combination that provided them with peace of mind and virtual certainty of leaving a significant legacy for their children. They and their professional team knew they were trading off some good things for others they rated even better. Sir Michael would approve.

The authors would like to acknowledge Cory Dowell, a Directorof Bernstein’s Wealth Management Group, and Matthew J. Teich, an Investment Planning Analyst in the Group, for theirinvaluable insights and quantitative research.

Brian Layton, Financial Advisor at Bernstein and Exit Planning Exchange member, may be reached at Brian.Layton@bernstein.com.

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 Laura Kevghas and Donald Richards

Top Five Buyer Blunders and How to Avoid Them

Many of the past Viewpoints we’ve published have advised sellers on how to secure a great deal in the M&A market. In this issue, we take a seat on the other side of the conferencetable to highlight five common and sometimes critical buyer mistakes that can be fatal to a transaction.

Some of these mistakes or misunderstandings can cause a seller to mistrust a prospective buyer. Others lead a buyer to present an offer that doesn’t meet the seller’s needs or interests.  In any case, they can result in a deal that’s in serious jeopardy.

Why This Matters:

Most buyer mistakes are avoidable. Being aware of how things can go wrong will help you improve your chances of sealing the deal.

1. KNOW the Real Decision-Maker(s)

Things can get off track right from the start if you don’t take the time up front to clarify key and hidden Decision-Makers in the seller’s world. John Kenny, Executive Vice President of Corporate Development for Iron Mountain, states that one of the most important factors that needs to be uncovered early on is whether the people that you’re dealing with on the seller side are the people who can actually approve a transaction. “I’ve seen a lot of cycles wasted and deals just never get done,” he said, “because you’re talking to someone who isn’t authorized to make a decision, or the board isn’t aligned with the sale.”

Although unfortunate, it is not unheard of for someone on the seller side to overstate how much authority they have to get a deal done. Mirus once had a principal of a seller represent himself as the sole decision-maker, only to have the partner committee turn down the letter of intent the principal had negotiated because his partners did not want to sell the company at any price!

Exaggeration of authority may be difficult to ascertain, and supports the idea of asking probing questions up front . Confirming as many deal-related details as possible early in the relationship helps streamline the deal process and keep it from derailing.

2. DON’T Focus on Price Alone

Some buyers assume getting the best price possible is the only thing that matters to a seller. In reality, many sellers have other goals that are important to them. Not taking time to uncover these objectives can be a big mistake.  John Kenny also advises learning as much as possible about the complete dynamics of a seller’s situation in advance. “One of the first questions to ask is why the asset is for sale,” he adds,“…and also understand whether it’s a distress situation and whether it’s been shopped for a while. Are they shooting for the whole market, or targeting you specifically?”

Mirus represented a client recently who wanted to ensure that his staff, many of whom had helped him grow the business for more than twenty years, had bright futures with the company post-acquisition. One finalist in the auction process,who didn’t believe this was a real objective of the seller, was dropped from the process despite a high proposed purchase price, when they indicated that they planned to cut employees and close facilities after the close of the sale.

Similarly, many entrepreneurs want to know that the company brand and culture they’ve spent years building–and which they believe support their company’s success–are going tobe maintained. Factors like these are often especially important when a family owned business goes on the market.

“Seller motivations are important, because if the seller cares about their brand, or their people, or their staff’s ongoing employment; and these factors don’t match up with integration into the new company, then you might as well stop–because you won’t be the preferred buyer,” adds Kenny.

3. Romance the Seller

Sellers want to believe a prospective buyer is really pursuing them and truly cares about the business the seller has built.  This is especially true if the seller is planning to stay involved with the business, but it can also be true even if the seller is planning to exit.

“You need to distinguish the different situations,” said attorney Les Fagen, a partner in the Venture Capital practice group at Cooley Godward Kronish’s Boston office. “If it’s a family-owned or founder-owned business, not spending time ‘romancing’ the seller can definitely be a problem.”

Taking time to get to know the seller, and letting the seller get to know you, are essential to building the type of personal bond that will help move a deal forward. Making sure that there are enough face-to-face meetings, spending time getting to know sellers and their key players, listening closely and asking good questions, and helping the seller learn about you are examples of the types of things a buyer can do to help a seller feel “wooed” and special.  At the end of the day, relationships buy companies.

4. BUILDING A Win-Win DEAL

Some buyers focus on winning during every negotiation with the seller, whether it’s related to the purchase and sale agreement, employment agreements or post-closing integration. Every purchase and sale agreement has numerous points that involve a give and take between buyers and sellers. Sellers can get fed up and walk away, simply due to the perception that a buyer is trying to shift all possible risks to the seller’s side.

“Being too aggressive in negotiating the indemnities in the purchase agreement is one of the more common problems,” Les Fagen elaborate(s) . “The seller wants certain limitations on liability, and the buyer wants all these protections in the document. Not wanting to intelligently assume risk on a buyer’s part is probably one of the most common reasons that deals fall apart.”

5. Organization

A seller can quickly lose confidence when a buyer doesn’t appear competent or knowledgeable in terms of how they approach the sales process. “One of the key success factors for an acquisition is earning the seller’s trust, that you will indeed be able to close the transaction,” pointed out Fagen. “The seller wants to know that the buyer has the ability, the wherewithal, and the determination to close and close promptly. I’ve seen a number of deals fall apart because the buyer took too long and didn’t keep the process moving forward.”

The due diligence process is seen by many sellers as a proxy for how they will work with the buyer post-closing.  A smooth due diligence process comforts the seller and his/her management team that the buyer’s company is also well run, and that integration and post-closing activities will be smooth and well-managed.

Planning for Success

Buying and selling a business can be challenging for those on both sides of the table. If you’re on the buyer’s side, understanding as much as you can about your seller in advance will help you anticipate and avoid the common mistakes discussed here. Through good planning, excellent listening and communication skills, understanding your seller’s motivations, and knowing your seller’s key influencers; you can become a successful buyer, and complete profitable transactions.

Laura Kevghas is a principal and Donald Richards is a partner at Mirus Capital Advisors, Inc., with a collective history of more than 150 buy-side transactions. Mirus is a middle-market investment bank that specializes in advising companies on strategic mergers and acquisitions. By combining a proven process, industry and  transactional expertise, creative thought, and personalized service, Mirus has completed hundreds of transactions for both public and private companies. Mirus is a registered broker-dealer and FINRA/SIPC Member. For more information, visit www.merger.com.

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By Laura Kevghas

The phone rings unexpectedly one day, and on the other end is a CEO wondering if you would be willing to sit down and talk about selling your business. You may or may not discuss a purchase price. You may or may not commit to even a meeting, let alone an exchange of information. But nonetheless, that single unexpected phone call can touch off one of the most significant, emotional and time-consuming events in your life as a business owner: deciding whether to sell your company. The way you respond, both initially and in the weeks that follow, can have an impact on your company, your employees, and the value you can realize from the sale of your business.

For this article we asked experts in accounting, law and business consulting for advice on what to do when you receive this kind of phone call. Their suggestions – on everything from evaluating pricing, to managing proprietary information, to establishing a team of advisors, to performing due diligence on the buyer – can help you navigate the complexities of your unsolicited offer, and make the most of your opportunities, whether you decide to sell or not.

Why This Matters:

• Planning ahead can make the unexpected offer manageable
• Contemplating selling your business is the most significant and emotional decision you’ll ever make
• Even considering an offer can affect your company, your employees and your family

Top ten rules for evaluating unsolicited offers

Though every company – and every deal – is different, we have found that there are a number of simple principles that can simplify the process of responding to an unsolicited offer and help you make the right decisions. Here are ten things to keep in mind when someone offers to buy your business:

Rule #1: Don’t wait until the offer comes to plan your response

“Unsolicited offers can come at any time,” says Tom Sherwin, founder of the consulting firm CEO Resources,Inc. “Ideally, CEOs should have a strategic plan in place before they get an offer.” That plan doesn’t have to be complicated, he adds. CEOs simply have to know whether they plan to continue to manage the business over the next three to five years, or whether they would be open to the possibility of a sale.

Linda Swerling, founder of Level II Solutions, adds that business owners should consider their personal, as well as financial, goals. “How long were they planning to work? What was their exit strategy for the business? All these things need to be written down,” she says.

Sherwin says that he regularly meets with CEO’s who maintain that they have no interest in selling theircompanies; yet it’s often merely a question of price. “We play a game of ‘what if’ scenarios, usually over lunch,” he says. “What if someone offered you 20% more than you think your company is worth? What about 50%? You end up constructing a game plan. Say, for instance, that you would consider offers above 25% of some benchmark. At 50% you would actively pursue a deal. And at 100% above the benchmark, you schedule a closing. Then you put that game plan away until the time comes.”

Rule #2: Know what your company is worth

Of course, you can’t evaluate an offer without having a very good idea what your company is worth. Public companies learn their value every day when the market closes, but for private, closely held companies, it may be worth spending the money  required to get a good valuation at least every three to five years, Sherwin suggests.

Amy Mastrobattista, an attorney with the Boston law firm Ruberto, Israel & Weiner, says that the first stop should be your CPA, who can walk you through the most appropriate valuation techniques for your company and industry. “It’s also not a bad idea to develop a relationship with an investment banker far in advance of any planned exit,” she adds. “They can incorporate their knowledge of market conditions, recent transactions and prevailing multiples in your industry to give you a more accurate view of your company’s value.”

“To truly understand your company’s worth, though, you need accurate and timely financial information,” asserts Swerling. “Your current performance relative to last month,the year-earlier period and budget all influence the value of your company.”

The integrity of your financial data is important, not just in understanding the value of your business, but in presenting it to outsiders, comments Margery Piercey, a CPA with the accounting firm Wolf & Company. “First impressions are important when you put numbers in front of a potential buyer.  And it can have an immediate impact onvalue if your financial statements aren’t in order. You reallyneed to make sure that your numbers are presented in sucha way that you’re going to be maximizing value, by ensuring that your financial statements are in compliance with GAAP and industry-specific reporting norms, and that you’ve identified any owner-related or other expenses that won’t continue post-closing.”

Rule #3: Protect your company’s proprietar y informat ion

Very early on, potential buyers will often request extensive proprietary information about your company.  It’s important to provide information in stages – very little early in the process, and further information in pieces, only as you become comfortable that a transaction with this potential buyer is desired and likely.

However, Mastrobattista points out that “Before you share any information at all with a prospective purchaser, you need to have a good confidentiality agreement inplace. This is the case even if the potential acquirer is not a competitor. You don’t want your confidential business information to be used for any improper purpose, even if youthink it’s innocuous.”

Piercey concurs. “Usually in the early stages of getting to know your potential buyer, you are going to be disclosing a good deal of information,” she says. “It’s important that your attorney has put a strong confidentiality agreement in place to make sure you’re properly protecting trade secrets, customer lists, and other things that contribute to the value of your company. That way, if the deal doesn’t go through, you haven’t given away some of these things of value.”

Rule #4: Keep it quiet

These negotiations should, in most cases, be kept confidentialfor as long as possible. “The impact on the employees of even considering a sale of a business can be very unsettling and actually can reduce the value of the business,” says Piercey.

“Control of information is critical,” adds Mastrobattista. “Rumors about your deal can affect not just employees, but customers, vendors and lenders. If the transaction falls through, it can even have a negative impact on your company’s reputation, since people may assume there was something wrong with your business.”

Mastrobattista advises CEOs to think carefully about who within the company needs to know the details of a transaction and to limit the access to this information to a small group of top managers for as long as possible.

Rule #5: Put together a team of expert s

“Acquisitions take up a good deal of time – incremental time over what the CEO is already spending on the business,”says Piercey. “Moreover, they require experience and insight that most CEOs don’t have. As a result, it is critical that the CEO bring in people who are experienced in transactions: investment bankers, accountants, lawyers and tax advisors.”

“You’re only going to sell your business once, and it’s a steep learning curve,” cautions Sherwin. “Why would you try to do that yourself?” He advises seeking out experienced transaction professionals, people who specialize in M&A and work on multiple transactions every year. He recommend stalking to other CEOs who have sold their businesses for referrals to investment bankers in your market.

Mastrobattista adds that you can often find these people by asking your current team of advisors. Your regular accountant, for instance, canusually recommend a taxspecialist experienced in M&Atransactions to augment his or her expertise. Your general counsel may know an M&A lawyer. “The best place to find good people is from good people,” Mastrobattista says.“Talk to your trusted sources for business referrals and evaluate independently.”

Rule #6: Scrutinize deal structure and provisions carefully

Price is one key factor in a deal, but it’s not the only one.“You and your team should look closely at the structure of the transaction,” says Mastrobattista. “Is it cash? Is it notes? Is it stock? Are there hold-backs? Are there earn-outs?” There are tax implications to all of these different purchase price methods that a good tax advisor will help you evaluate. Each structure has different risk implications as well, with payment in seller notes or earn-outs increasing the risk that you won’t receive the value you expected from the transaction.

Rule #7: Think about other possible acquirers

“Just because one person is interested in buying your business doesn’t mean you have to sell it to them,” says Sherwin, adding that there may be multiple offers out there, in addition to the unsolicited one.  For CEOs who are interestedin pursuing a sale, he recommends widening the circle of potential buyers, not just approaching known competitors, but a larger circle of complementary, often larger potential buyers.

Unearthing these buyers may require an investment banker’s help, Sherwin adds, and Mastrobattista concurs that their insight can be invaluable. “You need to look at the state of your company and of the market as a whole when you think about soliciting other offers,” she says.

Deciding to widen the circle of potential buyers carries with it the risk that the buyer who gave you the unsolicited offer may not wait for you to test the market. This is when an investment banker can be particularly helpful to determine if the offer on the table is pre-emptive enough to be worth accepting to the exclusion of other potential buyers.

Mastrobattista adds that bankers can tell you more about the market’s appetite for deals like yours, but that ultimately, the transaction should be done on your timetable. “There’s nothing worse than rushing a deal through, not understanding all the implications of price and market conditions, and then getting bitten in the end.”

Rule #8: Check out the buyer carefully

CEO’s should also scrutinize their potential buyers carefully.  Sherwin says he is always astonished when a company owner agrees to a transaction without first verifying that the buyer can pay. “There are a lot of people out there who can’t close,” says Sherwin. Particularly in today’s tight credit climate, you want to know that the buyer has the financial capacity to close the transaction.

Rule #9: Plan your post-transaction role car efully

You sell your company, and what then? Every one of our experts maintains that you should think carefully about what, if any, role you play in the acquired company.

If the transaction is structured to include an earn-out, you may wish to continue to run the business through the earn-out period to ensure that the maximum incentive payment is earned.

However, Swerling suggests that CEO’s consider the implications of their shift from owners to employees, if they continue in the business. “You’ve been managing this business for years or decades. You’ve been doing everything your way, maybe with the support of some hand-picked managers. Now it’s not yours anymore, and the company you built will change,” she says.

Rule #10: Don’t be afraid to walk awa y

Given the intense and emotional nature of negotiating a sale, our final rule is perhaps the hardest to follow. If a transaction turns out not to be in the best interest of you or your company, you need to be willing to pull the plug.  Not every deal is a good one.  Sometimes even attractive transactions can turn sour over the course of negotiations, or as market conditions change. Even if you’ve spent months working on a transaction, it may still be better, at a certain point, to simply walk away.

Unsolicited doesn’t have to mean unanticipated

Unsolicited offers happen more often than you think – and they can be a welcome wake-up call to business owners caught in the day-to-day details of running a company. Yet they shouldn’t take you completely by surprise. Sound preparation for an unsolicited offer is good strategic planning.

By developing a strategy that says whether, when and for how much you would consider selling, by obtaining accurate valuations of your business on a regular basis, and by developing relationships with seasoned M&A advisors now, you can make sure that you maximize whatever opportunities come your way in the future.

Laura Kevghas is a principal at Mirus Capital Advisors, Inc. Founded in 1987, Mirus Capital Advisors is a middlemarketinvestment bank that specializes in merger advisory, capital-raising services, fairness opinions andvaluations to entrepreneurs, corporations and professional investors. By combining a proven process, industry andtransactional expertise, and personalized service, Mirus has completed hundreds of transactions for both publicand private companies. Our affiliate Mirus Securities, Inc. is a registered broker-dealer and FINRA/SIPC member.Additional information about the firm is available on our website www.merger.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 Bonni Carson DiMatteo

Often motivated by business “burn out”, a strained business climate or the image of an endless vacation, founders begin to consider selling their business. It seems like a perfectly left brain solution to frustration, malaise or boredom. They may talk to their spouse about how they are burned out or want to extend their winter vacation in Naples, or have more time to visit the grandchildren, and before you know it they are talking to their accountant, lawyer, financial planner or a business broker about selling their business. Their business advisor helps them crunch some numbers, estimate how long it might take to sell the business in the current environment and to determine the value proposition. When all the signs point in the direction of “Sell”, why do some businesses fail to execute? Founder reluctance and a founder centric culture will derail the ability of many businesses to “close the deal”.How can these companies change their mindset so that they can implement a successful exit strategy? Which advisors are best equipped to address the right brain thinking that can often instigate or derail the sale?

Over the last several years, exit planning advisors have been thwarted by a business climate marked by declining sales and earnings, shrinking bank credit, and a poor economic outlook. Consequently, there have been few buyers in the market since the beginning of the financial meltdown in 2008. With cash reserves built up over the last 2-3 years, and gradual improvement in economic conditions, companies are showing more interest in buying new businesses. The availability of buyers is estimated to exceed that of sellers in 2011. As more deals are executed, company valuations are expected to increase. This appears to indicate a great opportunity for companies to jump into the market and sell their business.

Stalled at the Altar

The companies most likely to stall at the altar are those that have what we call a “founder centric culture”. These companies, often started by boomers 25-40 years ago, have been operating for more than a generation. If they do not have a succession plan they are looking for some way to capitalize on their biggest investment, their business. What obstacles are inhibiting these companies from successfully completing a sale? Many attribute the failure to execute the sale to factors such as disagreement on price and market conditions. Buyers looking for a good investment may back away from companies that have an immature internal structure and a founder centric culture. Often, the emotional founder ambivalence and founder centric culture of the company are the biggest hurdles to overcome.

Symptoms of Founder Ambivalence

Founder ambivalence is marked by:

• Difficulty with following through on action plans suggested by advisors.
• Being preoccupied by a stream of company crisis that distracts from the big picture.
• An over worked and stressed founder who has no reason to focus on the big picture.
• Lack of a clear personal and family strategic plan to take them into the next 10-20 years
• A clearly defined sense of purpose and mission beyond the business

• Company leadership deficits
• Process deficits
• Culture deficits

The business is the founder and the founder is the business. Therein lies the challenge. Their greatest strengths are often their greatest weaknesses. In founder centric companies, you often find a Founder who is actively involved in working in the business, but not on the business. They are a key rain maker or customer evangelists. They are what we call a Founder Hero because they are often the only one who can serve customers right. There are frequent fire drills and often the founder is the one rescuing the day.

It is what Michaels E. Gerber refers to in The E MYTH as the conflict that rages among the three hats of entrepreneur, manager, and technician. They may be the chief decision maker and process saboteur; they have no succession plan or strategic plan; They have no advisory board; They simply meet each day’s challenge; keep a steady pace and do things in ways that have worked in the past. They see no reason to have a vision or a plan. The company mantra is “we’ve always done it this way”.

Buyers are wary of a lack of process and systems that can survive beyond the founder. They may, or should, have a certain skepticism that this founder will be able to let go of something that gives him or her such a sense of identity and purpose, or that staff, vendors and customers will be able to transfer their loyalty to a new owner.

Company/Leadership Deficits

In the founder centric company there are noticeable leadership deficits. While the founder is clearly the culture creator, and larger than life in many ways, the sense of leadership dwindles from there. Often there is a key executive who has been with the company almost as long as the founder and follows his or her path. There are little to no leadership/management competencies or development. If there is a management team, it may be one that does not function effectively.

Buyer Red Flags

Buyers may be cautious of such leadership vacuums, knowing that without the founder there is little capacity to decide, execute and achieve results.

Process Deficits

In founder centric companies there are often great ambiguities among people in terms of roles and responsibilities. This is further complicated by the lack of a systemized process that allows for efficiency and success. The firefighting caused by last minute crisis ultimately results in the erosion of profits. To further compound the problem, decision making often occurs only at the top and there is no accountability throughout the company.

Buyer Red Flag

Buyers observe this cautiously. Process improvement and tightening may create an opportunity to improve profits, but the current state of the organization points to weakness.

Culture Deficits Are Created By The Leader/ Founder

In founder centric companies there are often extreme levels of morale and engagement. Larger than life personalities often create a tightly woven family of employees. They are loyal to the founder and the founder is loyal to them. There are blessings and curses with this.

As the company grows it is difficult to change the guard and the guard is not always adaptable to change.

The culture is often marked with crisis du jour, stress, complacency, silos, no sense of accountability. There are challenges with retention/talent attraction, an aging work force, lack of diversity, change resistance, and no sense of vision of the future due to strategic plan deficits.

Buyers eye this phenomenon guardedly. They understand that if the founder leaves there may be a vacuum too big to fill and the loyalty will soon dissipate. Buyers are looking for a company that can evolve beyond a company founder. As buyers observe the challenges of a founder centric company often the financial value begins to diminish.

What can a founder and their advisor team do to reshape their company and make it buyer friendly?

Steps In Evolving From A Founder Centric To A Buyer Friendly Company

Buyer friendly companies have evolved from a founder centric culture by implementing best practices in leadership, management, organizational development and process/ profit focus. They differ from founder centric companies in that they focus primarily on working ON the business rather than IN the business, utilizing a more systematic business process. The following steps are needed to evolve the company from founder centric to buyer friendly.

Key Advisors Needed At Each Step

To execute a sale that maximizes the company value, key advisors must work together and in tandem to help reset the company’s GPS.

1. Founder Readiness: Creating A Legacy And Resetting The GPS Personal Strategic Planning:

The execution of a sale begins with a focus on legacy and personal strategic planning combined with corporate strategic planning. This enables the founder to create a vision, mission, values, and goals for him/herself, as well as leaving the business in a position that commemorates their legacy of success.

ADVISOR TEAM: Management Consultants; OD/Coach; Recruiter

The company and the founder need to prioritize building a leadership/management bench by identifying key leadership capabilities and competencies, and through training or coaching in house managers or recruiting new blood. There also needs to be some team building to solidify a cohesive team to set and execute goals and to develop a new organization chart that clearly defines roles and responsibilities.

ADVISOR TEAM: Business Coach/ OD Consultant Corporate Strategic Planner

As with a personal legacy, the founder and executive team need to create a strategic plan that closes the gap of vision and current reality and sets executable goals for:

• Decentralized decision making
• Management competencies
• Process improvement
• Innovation
• Increased revenues

It is necessary to set the stage for growth and operational effectiveness that will attract the right buyer at the right price. The discipline of executing on a 1-3 year plan will much better position themselves for a good sale.

ADVISOR TEAM: Business Coach, Organizational Development or Management Consultant

Help create the change necessary to maximize the volume of the business. Heath & Heath’s book, The Switch, is a good reference for this. This step is not only a process improvement leap, but a mindset and cultural leap as well.

ADVISOR TEAM: Financial Planner/Accountant to help owner finance the future

Understanding what the owner needs, what they have, and closing the gap

ADVISOR TEAM: Lawyer, Coach, Financial Planner, and Accountant

Addressing the 4-legged stool: the legal, financial, long-term financialgoals and the personal legacy the owner wants to create

7. Finding The Buyer:

ADVISOR: Broker

Identify the new value of the company and determine the strategies for selling and finding the best buyer.

ADVISOR TEAM: Lawyer, Accountant, Coach, Broker, Financial Planner.

This is where seller ambivalence most rears its head. The collective input of all advisors, particularly the coach who best knows the right brain challenges needed to help take the founder to the altar.

Both advisors and sellers can benefit from the lessons learned from implementing these steps. Evolving from an Entrepreneur to Founder owner to Leader is not an easy or fast process. However this can be accomplished in 6-12 months once the founder mindset is fully engaged in the process and the outcome. Specialists in behavioral economics and organizational culture are essential to unbind the organization and leader from a founder centric mindset and homeostatic behavior. Experts in this field are an essential part of the Exit Planning Team that provides right brain balance to the left brain experts.

A sale that maximizes the value of the company can best be reached when the first 7 steps are completed. As the founder resolves their ambivalence they become more confident and committed to the sale. In turn, buyers respond with a similar confidence and enthusiasm. It is only through creating the changes inside and outside the founder and the company that the sale can be fully achieved at its greatest value and without last minute ambivalence that can undermine the final signing of the agreement.

Copyright Bonni Carson DiMatteo 2011 Atlantic Consultants 27 Mica Lane, Suite 106, Wellesley, MA 02481 5

By Michael Oleksak

Over the next several decades, millions of U.S. businesses will be sold, merged, recapitalized, gifted, closed, or liquidated. In any of these events, both the owner and the company’s value will benefit from advance exit planning. Financial executives, whether internal or external, play a key role in educating company owners on the basics of exit planning.

If you are the lead financial officer of a privately-held business, such as CFO or VP Finance, part of your fiduciary duty is to protect the company from the risk of an unplanned change of ownership, through sudden death, of both the shares and the operation of the business.  You also play an important role in increasing the company’s value by strengthening it for the possibility of a future transition or transaction.

Whether you are an internal or external financial advisor, you should make the business owner aware of three things every owner must have: a will, a succession plan, and an exit strategy.

The will protects the ownership of the firm in case a tragedy or sudden death affects the owner.  With a will, the shares will stay out of probate court and land in the hands of the person or people chosen by the owner, thereby ensuring some sense of business continuity.

The succession plan will help with the orderly transition of the operation of the business if the owner is suddenly incapacitated.  The exercise of preparing a succession plan will also help establish whether internal management is strong enough to handle running the company without the owner.

The exit strategy will be the catalyst to determine whether the company is ready for some other entity to assume ownership. Are the books and records, processes and systems, management and employees, business model, brand, public image and reputation desirable enough for someone else to pay to acquire it? If the answer is yes, the next question is would the acquirer be external or internal?

Exit Options

The owner’s external exit options are sale to a strategic buyer or sale to a financial buyer or private equity group. Internal transfer options include a management buy-out, a sale of shares through the Employee Stock Option Plan (ESOP), or gifting of shares, usually to the next generation of the owner’s family. Each of these five exit options has a different valuation range, with external transfers generally having higher values. The owner will also relinquish control of the firm after the external transaction, giving up the ability to subsidize his or her lifestyle through internal expenses. The external exit option also eliminates the owner’s control over his or her legacy, so the owner must determine his or her financial and emotional readiness to exit the business.

If the owner is emotionally ready to leave the business, but needs the highest financial return, as the financial advisor you can recommend that a sale to a third party strategic or third-party financial buyer should be considered. Under these arrangements, it’s important to calculate investment banking and legal fees, as well as taxes, because all will be subtracted from the amount of the check the owner will cash at the end of the day. Due diligence by the third party buyer will be thorough. If there are family members working in the business, their employment may be at risk if the current owner is not calling the shots.  The owner may be required to bridge any financing or value gap with seller notes or earn-outs over time.

A management buyout (MBO) creates a different risk to analyze: is the management team capable of continuing to generate enough cash to pay out the owner over time? Some industries lend themselves to MBO’s better than others, such as construction. Such a deal will require outside financing from a bank or another source, and management may be required to pledge personal assets to support a bank loan. Seller notes will also likely be part of the financing. After the buyout, the owner may still be involved and may retain some financial expense benefits under the deal. The further in advance this option is considered, the better the owner can prepare the team for the execution.

An ESOP is a tax-advantaged, though administratively complex, way for the owner to take some money off the table by selling shares to employees and management. Under a buyout or transfer through an ESOP, the owner will likely remain in control if less than 50% is sold, and will continue to have some personal expenses paid by the company.

Gifting is also a tax-advantaged way to transfer ownership, usually to (hopefully capable) family members. The owner can stay in control and have expenses paid for by the firm. This option will cause complications in relationships, especially as you get deeper into the second and third generations of the family.  Capable outside consultants with experience in family business issues should be considered to help smooth out issues.

All the options that financial executives can suggest for exit strategies carry different valuation ranges, with external transfers having higher valuation ranges (and higher tax impacts). However, a clear awareness of each will help the owner and the company mitigate risk and prepare for the future.

Published in Financial Executive

Michael Oleksak was a commercial lender for 17 years at Bank of Boston. He is a principal at Trek Consulting LLC, Woburn, Massachusetts and co-founder of the Exit Planning Exchange. He works with small and medium-sized businesses to improve performance and value and to prepare for exit.

Contact him at oleksak@ trekconsulting.com - www.trekconsulting.com

© Copyright 2010 Michael Oleksak. All rights reserved.

by Sarah Richmond

The media is filled with reports of the red hot merger-and-acquisition market. In the technology sector in particular, the volume and transaction value of 2007 M&A deals are both forecast to approach levels not seen since 2000. And despite improvements in the IPO market in recent years, M&A remains the liquidity event of choice for venture-backed companies.

These trends bode well for entrepreneurs hoping for a sale to a strategic buyer. However, for many of these aspiring sellers, a deal will never be concluded even though their business’s fundamentals are solid and buyer interest is strong. These “M&A casualties” occur because too often entrepreneurs do not exercise sufficient planning, realism and creativity.

An early mistake that sellers make is not having a realistic picture of how much their business is really worth. Much as many parents overestimate the intelligence and beauty of their own children, many founders overestimate the value of their own company, causing them to expect an unrealistic price. If you are a seller thinking about your exit, finding comparables in the marketplace will help you arrive at a realistic valuation. Much of this type of data is available online, and there are also outside advisers who can assist you.

Even realists sometimes find that their expectations are out of sync with a buyer’s willingness to pay, so thinking of creative solutions that can bridge the gap is important. One solution that is frequently employed is an earnout, which defers some of the sale price to future payments, which are contingent on sales targets, product developments or other milestones. An earnout satisfies the seller’s desire to be compensated for the expected future value of its assets, while also satisfying the buyer’s desire not to overpay for value that has not yet been realized at the time of the sale. However, sellers should be mindful that earnouts are only successful for the seller when very careful attention is paid to the structuring of the earnout when negotiating the deal.

The due diligence process is another contributor to deal failure. Major problems result when a seller fails to disclose important information about the company, and this information is later ferreted out by the buyer or its attorneys in their due diligence review. This can result in a purchase price reduction midstream, or even the suspension of negotiations. At the very least, because the “trust factor” has been impaired, the buyer will now feel the need to dig deeper and spend more time on due diligence than they otherwise would have.

Entrepreneurs can help smooth the way by doing their own due diligence on their company before the negotiations even begin. This will provide an opportunity to fix problems in advance, and even if this is not possible, at least it allows the seller to frame the issue for the buyer with the appropriate context, while retaining the buyer’s trust.

Many things outside the entrepreneur’s control can kill a deal midstream, and reducing the time-span of the due diligence period minimizes the likelihood of these events occurring. Priorities at the acquiring company may change during the process, making the acquisition seem less compelling. In addition, market conditions can change at any time, and a drawn-out process is the seller’s enemy.

Lastly, the acquisition period is an intense and distracting time for the entrepreneur and the company’s senior management team. Since a significant amount of time and effort is typically required to negotiate the deal documents and coordinate the due diligence review, many of the seller’s key people may not be able to focus as tightly on their day-to-day responsibilities. If this impairs the business’s performance leading up to the closing, the buyer will get nervous and the acquisition itself may be jeopardized. Management should be sure to keep its eye on the ball and continue to focus on running the company despite the distractions of the deal.

Deals fall through for a number of reasons. Anticipating the types of things that can go wrong, and working to address them with creative solutions, will contribute to ultimate deal success.

Sarah C. Richmond is a partner at Gesmer Updegrove LLP, a Boston law firm focused on entrepreneurial companies and their investors. She can be reached at sarah.richmond@gesmer.com.