About a quarter of the U.S. population will retire in the next 15 years. The transition is already affecting small businesses. One survey found that 40 percent of CEOs of family businesses are retiring between 2004 and 2008. According to another study, the number of owners who want to sell their businesses is predicted to increase 500 percent from 2004 to 2009.
After careers spent competing to win business, many entrepreneurs will face a new type of competition; to sell the business. The skills and strategies that help build a successful business over time are not necessarily the same ones needed to manage the transition and protect the revenue from the sale, according to Jeffrey T. Dunn of SunTrust Bank.
“My advice is to start thinking about the business the way a buyer would think about it,” Dunn says. “One of the most common mistakes is not employing advisers early in the process.”
Smart Business spoke to Dunn about the pitfalls of selling a business or transferring it to the next generation of the family, managing the transfer of wealth, what to expect from the sale process and how to maximize the gain.
What should business owners expect from the sale process?
It really takes one to two years of focused activity to sell a business. The first step is gathering a lot of information about the business and about what the owner will do after the sale. For example, answering questions like: What exactly do we have? Is there a succession plan? Is there a will and an estate plan? How detailed are the business’s financial statements? If the finances are regularly audited, the business is much closer to being ready to go through the sale process than if things aren’t recorded consistently or audited.
The next step is planning, both strategic for the business and financial/estate planning for the individual. These plans may take a year to develop.
Is all this necessary for passing a family business to the next generation?
A study of more than 3,000 wealthy families found that 70 percent of the wealth did not pass to the third generation. Family businesses typically have too much wealth concentrated in a single asset the business. Entrepreneurs themselves tend to be risk-takers, and that’s often why their businesses were successful. But retirement is not the time to be taking risks. You’ve taken the risk and created the wealth. Retirement is the time to protect it.
How do you assess the value of the business?
There is a lot to consider, but it really comes down to cash flow. A banker, a valuation firm or the buyer look at the cash flow and apply some multiple to determine what they think the business value is. Asset value doesn’t tell you what the business is worth. The buyer is really buying cash flow. Specifically, they’re buying the expected future cash flow.
Companies with capital-intensive business need to be careful about decreasing asset investments too much to try and make the cash flow look better. It’s dangerous for the company, and a sharp buyer will see it.
Companies also need to understand that illiquid assets take longer to sell. This is especially true with real estate. Most people really don’t appreciate the illiquidity of the real estate market. If a stock dips significantly and falls to $1 a share, you can still sell it tomorrow, albeit at a loss. That’s not so with an illiquid asset.
What will be the impact of so many business owners nearing retirement age at the same time?
There’s a bigger issue than what’s happening with small business owners, it is the true transition of wealth that’s going to occur. It is going to be unprecedented. There will be 77 million people retiring in the next 15 years, and retirement isn’t going to be the same. Retiring workers aren’t going to leave their money in company pension plans. They’re going to cash out and invest the money.
That’s why preparation to sell a small business has to include estate planning and retirement planning.
There are three phases of wealth management: accumulation of wealth, which we do in our working years; protection of wealth; and transition of wealth. Each phase is different, and business owners shouldn’t manage the transition and protection the same way they managed their business to accumulate wealth.
Information provided in this article is intended to be general in nature. SunTrust Bank and its affiliates, directors, employees and agents do not provide legal advice. Securities, insurance and other investment products and services are offered by or through SunTrust Investment Services, Inc., an SEC-registered investment adviser and broker/dealer, and a member of the NASD and SIPC.
JEFFREY T. DUNN is the executive vice-president of private wealth and investment management at SunTrust Bank in Tampa Bay. He is a registered representative of SunTrust Investment Services, Inc., and responsible for more than $3 billion in assets under management. Reach him at email@example.com.