It’s a fact of life that fewer than 30 percent of family-owned small businesses make it into the second generation, according to the Family Business Institute. Some are merged with competitors, but many simply stop operating once the founder has moved on from the scene.
In some cases, like a sole proprietorship, this may be unavoidable. In many more cases, however, a little advanced planning may make it possible for a business to be sold or transferred successfully to the next generation of owners.
For an entrepreneur in mid-career or just starting out, planning for the next generation of ownership is likely to be pretty far down the list of things to do. But starting early makes the chance of success that much higher.
While a sale is only one option within a succession plan, it is a popular one, and in recent years many retirement-aged baby boomers have chosen this route as the most viable way to ensure that their business endures. In 2014, the number of small businesses for sale hit an eight-year, post-financial crisis high, according to a report by BizBuySell, the largest online small businesses for sale marketplace, with 7,494 businesses sold.
While volume leveled out in 2015, pricing for sellers improved with the median asking price up from $200,000 in 2014 to $225,000 last year. The median sale price climbed 7.6 percent year-over-year, again according to BizBuySell. As the economy improves, baby boomers age, and sellers gain leverage, the online marketplace sponsor expects to see another active year in 2016.
With all this in mind, it may be a good time to stop and put together a list of things to think about when planning for, or entering into, the sale of your business. The checklist below, while by no means exhaustive, can provide a place to get started:
- Valuation. What’s your company worth now? How much do you expect it to be worth in the future? Aside from doing the math internally, also look to competitors and other similarly sized companies. Are they being acquired, and if so, how are they being valued? This will go far in determining probably the most important aspect of a sale: the price.
- Financial readiness. Selling a company is usually a once-in-a-lifetime liquidity event, so you’ll want to make the most of it. Do you have an investment plan in place? Have you considered the tax ramifications? Even smaller enterprises can benefit from professional wealth, tax, and legal advice during a sale.For example, is it better to take a lump sum payment or to be bought out over time? Will your sale be treated as ordinary income, or a capital gain? What are the costs and risks associated with different buy-out schedules?
- Estate planning. For many, the business will be their primary asset apart from their house. A sale for cash or some future consideration may have a significant impact on how an estate is structured. Liquid assets may provide further flexibility to shield wealth for beneficiaries through the use of trusts and other vehicles.
- Prepare your business for the sale. You want to present the most accurate picture possible of the performance and prospects for your business. This could mean cutting back on unnecessary expenses to make the business as lean as possible.
- Define success. What would a successful transaction look like to you? This will depend in large part on your expectations, the terms established up front, and the nature of the buyer.Is the sale to a third party, or to a family member? Will the new owner be able to maintain the relationships critical to the business? Does he or she (or the acquiring company) have the financial resources to invest and grow?
You should have a full understanding of your goals — and the risks going in – to avoid any unpleasant surprises.
Building a business over a lifetime is hard work. Selling or transferring ownership of that business at the end of a long career can be an emotional experience. Preparing early in your career for the possibility of a sale — and enlisting qualified professionals to help you manage through the sales or business succession process — is the best way to make sure you maximize value and minimize the potential for regret.
Rodney Hare is wealth management adviser, The Private Client Reserve of U.S. Bank, St. Louis, Missouri. Contact him at [email protected]