We sometimes encounter business owners who believe that any sale of a business surely results because of some type of failure. They imagine that questions like “Why did you sell?” “Was everything OK?” “What are you going to do now?” might surface immediately. The American entrepreneur is fundamentally a ‘never give-up – never surrender’ persona and for that reason some feel that they should only ever consider sale, when they have no other choice. These situations, where sale becomes required, might include urgent financial needs, or the lack of an ‘heir’ to take over the business when retirement is desired or worse, mandated.
It is my opinion that this is a dangerous and even harmful mindset. Business ownership should not be a lifestyle choice as much as a savvy investment strategy. A company should be managed solely to maximize wealth and asset value. Financial focus should not be limited to the minimization of tax liabilities, which a prudent CPA will structure, but instead should also focus on long-term profitability and asset value.
A homeowner, for example, who spends years failing to invest in his home through attentiveness to curb appeal, décor, updates, and general preventative maintenance will find a house that even a real estate agent won’t be excited to list – let alone a family eager to buy. Although the homeowner may plan to live in that house for many more years, and may even hope to give it to his children someday, it still makes sense to focus on the upkeep of the home so if something should ever change, he can still realize a solid gain for his asset. Also, along the way, as an added benefit, he will enjoy the pride of a beautiful and valuable home.
Business owners should harbor the same mindset with their companies. Efforts should always be on maximizing asset value so if the business owner decides to sell his investment, at anytime and for any reason whatsoever, he will realize a maximum gain for his asset. Meanwhile, along the way, as an added benefit, he will reap far greater reward for a business operated as a strong and valuable asset. A healthy business simply cannot function as the family ATM machine.
Which of these Four Reasons Will Cause You To Sell Your Business?
1. Liquidation Needs.
In this worst case scenario many very successful business owners, who did not want to sell when their business was thriving, find themselves at a later point in a financial crunch where they turn to sale in order to meet urgent financial needs. With proper planning, sale would have occurred when the timing was at its best – not its worst – and the sale of a business would be a financial victory, not a personal disappointment.
Even the business owner who never plans to sell his company can find himself, maybe even years after “retirement”, back in the family business working to keep it afloat when family members who ‘took over’ operations run into trouble - or decide to move on to new endeavors. I’ll agree, there are successful family operational transitions, which make it into second and third generation. Unfortunately, these are the exception. Statistics show that family members who inherit the family business struggle to keep it stable, growing, and profitable. It happened with my grandfather’s business. It happened with my husband’s grandfather’s business. We see it over and over again in our clients’ businesses.
Businesses built to ‘leave a legacy’ rarely make it there. Why? Theories include a lack of innate and necessary entrepreneurial personalities in the next generation. (Just because dad was driven to succeed doesn’t mean Junior has the same get-go.) Additionally, a focus on the ‘family ATM machine’ instead of long-term profitability and maximum asset value, all too often drive operational decisions – slowly derailing the company and its ability to survive. If you haven’t already, I strongly recommend you read Thomas Deans’ book, “Every Family’s Business”. It tells this story perfectly. In short, Deans advises to sell your business and heir your family the cash. That’s really what everyone wants anyway and in the end the family is also more likely to remain friendly.
2. Health Issues
Failing health seems a more rational and justifiable reason to sell your business and it doesn’t carry that mental burden of operational failure. However, a business sale at the time of a health crisis is almost never timed to the company’s peak opportunity to command a top sale price. Health issues come on suddenly and unexpectedly. They derail everything else and throw a proverbial wrench into everything. Revenues may just happen to be up but it’s more likely they are down as the owner has been suffering from reduced energy, drive, and attention to detail as his health has been declining right under his nose. When health issues stimulate the need to sell, time is usually of the essence. Again, not the strongest scenario for building buyer demand and a competitive environment -both critical components to generating a financial ‘home run’ sale.
3. Burn Out
Many business owners find themselves one-day right smack in the middle of the “What the heck was I thinking?” mode. They never dreamed they’d end up there. Months, and often years later, they decide to sell so they can move on. They resign to let someone else take the reigns, but in the interim it’s at the expense of diminished enthusiasm, energy, and resilience – all critical factors to a business that is thriving and maximizing asset value.
If the owner has done an excellent job structuring a successful business over the years building up to the burnout, it’s likely a sale could generate a wonderful and well-deserved financial reward. However, had this same entrepreneur planned for sale from the inception of his efforts, he likely would have paced himself differently, built a stronger support team, kept his energies in tact longer, and would have triggered the shift to sell at the time when his company would command the best sale price.
4. Business Transition
More strategic in nature, business transitions are structured plans to hand off the reins to the next generation of operational managers. This may be to family members, second-tier management teams, or an outside buyer. An indefinite number of transitional variations exist but in the end, the business owner transitions out and another leader takes the ball and runs.
Unless the business owner has received full financial compensation for handing over the reins, however, he is still in the game – emotionally and financially! As we discussed in our first reason for sale (liquidation needs), if he’s still on the hook for personal liabilities or dependent upon a future cash-payoff, he will not be free from the business and his risk continues. It is imperative that the transitioning owner continues to stay involved if he wishes to not be blind-sided with a sudden financial liquidation scenario (reroute back to reason number one).
Several solid reasons exist for a business to transition from one ownership team to another. The strongest, however, might be access to needed business-growth resources such as additional capital, expanded expertise, and fresh energy. Growth and transition criteria can be defined and developed in the planning process. Consistent benchmarks can be targeted, with, resources in place to support the effort, and the enthusiastic strategies that will energize everyone involved – seller, management, and buyer! Such focused planning is the ideal for setting the stage for top asset value – and delivering a financial victory to the seller.
If business owners as a whole considered the sale of their business a zenith moment rather than a psychological loss I believe more wealth would be captured by our hard-working, well deserving entrepreneurs, who make up the backbone of our economic system.
Rather than waiting until external factors stimulate a sale, business owners create more wealth for themselves and their heirs, when they time sale to maximize buyer pricing. Additionally, three factors, besides buyer pricing, affect the optimal timing of a business sale: availability of capital, market interest/demand, and current capital gains tax rates. We'll talk to those next time.
Danette Kohrs
Founding Partner / Principal Advisor
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