Nestled amid the excitement and long hours involved with launching a new company are decisions that could have huge tax consequences at the back end.
It’s never too early to start thinking about succession planning. In fact, some aspects of succession tax planning should begin a full decade before your planned exit, while some decisions, like what type of entity to use, must be made upon the initial formation of the business.
“If you’re operating as a C corporation and are interested in exiting your business, it may be beneficial to first convert your firm to an S corporation,” says Bruce Coblentz, partner, Armanino McKenna LLP in San Ramon. “The catch is that you probably should do this at least 10 years prior to the sale of the business.”
Smart Business spoke with Coblentz about the tax implications of exit strategies.
What is the most important aspect of a business sale?
One of the most important aspects is the current entity status of your company. Namely, whether it is a C corporation or a ‘pass-through entity,' such as a partnership, limited liability company or S corporation.
Many businesses operate as C corporations for a number of reasons. In the past, the array of choices available today did not exist. Also, some businesses are required to operate as C corporations. There exists the possibility of double taxation while operating as a C corporation. Taxes are first paid at the corporation level and again at the shareholder level when dividends or liquidation proceeds are received from the company.
Taxable income of pass-through entities, on the other hand, is generally taxed only on the individual owner’s share of income from the business and not at the entity level.
Will some companies benefit at exit by changing their type of corporation?
For C corporations, a similar double-tax issue potentially arises upon the sale of the business. The C corporation pays tax on the gain on the sale of the assets, then the shareholders pay additional tax when they receive cash upon the liquidation of the corporation.
In contrast, pass-through entities typically only have a single level of tax at the owner level upon the sale of the business. This is obviously more desirable, so you’ll have to consider converting your firm or company to an S corp. Be aware that the IRS has already thought of this, and there are significant potential tax consequences in doing so within a 10-year window, called the recognition period for the Built-In-Gains (BIG) tax.
Alternatively, a stock sale by the C corporation shareholders will avoid these negative tax consequences, and the gain on sale will be taxed at preferential capital gains tax rates. Unfortunately, most buyers are unwilling to purchase the stock of a company because of the potential liabilities involved. There are also typically greater tax benefits to the buyer in an asset purchase.
What tax rates will be encountered at the time of sale?
C corporations do not enjoy the preferential 15 percent capital gains rate, but are taxed on all income at the regular corporation tax rates. With the C corporation, you may have substantial retained earnings represented by the assets of the business, such as cash, accounts receivable, inventory, property, plant and equipment. Once those retained earnings have been converted to cash by selling the assets and paying the corporate-level tax, the owners need to get the after-tax cash out to the owners to enjoy the benefits of the sale. Such a liquidity event will qualify the owners for capital gains tax rates. Alternatively, the corporation could pay out dividends to owners.
Until 2010, the tax rate on dividends is the same as the capital gains tax rate. Pass-through entities and individual owners, however, typically do enjoy the 15 percent preferential rate. In an asset sale, if your pass-through entity has tangible assets, such as equipment, vehicles, office equipment and/or furniture, the gain on sale of these assets is taxed at higher ordinary rates (maximum 35 percent federal tax rate for individuals).
Intangible assets, which include goodwill (the value of a company in excess of its tangible net worth), customer lists, trademarks and intellectual property, and stock in subsidiaries, are generally taxed at the lower capital gains rates of 15 percent. Real property sales may be taxed partially at the lower capital gains rates of 15 and 25 percent, and for much older real estate, partially at ordinary income rates.
With tax implications in mind, what financing options are available for buyers?
In a cash sale, the buyer secures third-party financing upfront to pay the purchase price in full. For an installment sale, the buyer puts some cash into the deal and finances the balance with a loan from the seller. In a stock-for-stock swap, the seller receives stock of the buyer in exchange for the stock of the company being sold.
No matter what type of entity is in place, a well-drafted buy-sell agreement, LLC operating agreement or partnership agreement is strongly recommended.
BRUCE COBLENTZ, CPA, is a partner, Tax Department, at San Ramon-headquartered Armanino McKenna LLP, the largest California-based accounting and consulting firm. Reach him at (925) 790-2600 or firstname.lastname@example.org.
Communicate your vision. We’re really rigorous about communicating with our employees; we have an intranet, we have newsletters, we just can’t communicate enough. We try to be clear with employees and tell them this is where we’re headed and these are the most important things we have to do today and why. We publish throughout the company what our priorities are for the year, and within one year, those don’t change too much, so there’s consistency doing it that way so people can really understand those priorities.
Let employees know you’re winning. A key piece is the really constant drumbeat of saying, ‘This is what we’re trying to accomplish, this is what it means to you, this is how we need you involved,’ and then giving feedback to that.
Letting them know we’re winning, we’re successful. Every year, we put together a list of our top 10 initiatives. We have five things that we want to accomplish over the next four or five years and then the things that we want to accomplish to do that.
So, for example, we want to be nationally accredited in three years, well that’s down the line, so we have goals set for all the groundwork we want to do for that each year leading into it. Then we can communicate that to people, by letting them see that this is what we’re supposed to be doing this year and it’s part of this three-year plan.
Every year, I write a summary of how we did on our initiatives and do a little video that we send out letting everyone know how we did on a comprehensive scale. That really sets the framework for the goals that flow down to each individual because everyone will end up feeding into those with what they do.
As you get successful, you communicate and you start to break down the skepticism. You can say, ‘Look, we’re winning,’ then you start to get more people on board, and you get some of those that were originally on the sidelines. We outline what we’re going to do, and tell people. But you can’t just tell people what you’re going to do, you have to start doing it, then publicize that. Then you start to get momentum and traction, it’s not just the words, you can’t just tell people that you’re going in this direction, you have to celebrate it as you go down that long haul and you finally get some traction and you celebrate that.
Set standards for taking risks. We have to ask two things. First, is this something I really want to do? Is this something that I think we can get passionate about?
Second, what’s the payback period? Some people are focused more on ROI, but I’m interested in knowing, if I have to spend $2 million on this project, how long will it take to get my money back?
I need to have both factors; the answer to both has to be yes. I have to want to do it, and the payback period has to be reasonable. The key is that we have a pretty clear sense strategically at what we’re good at, and we try not to step too far outside of those domains.
Hire people with a core interest in your business. You have to hire the right people and you can teach skills, but you can’t teach attitude. I’m not going to try to recreate someone and make them care about what we do. We, as a company, have a professional passion for helping people recover, and there’s really a sense in doing work that’s different and helping people.
If they don’t care about mental illness and disability, if they don’t have that, then there’s no place for them to come here. That kind of needs to be an appreciation that people have that kind of core disposition for the work that we’re doing.
Give people the chance to adapt. I really don’t think you do anyone a favor by letting them stay in a role that’s outgrown them, so I’ve tried to be very clear with people over time about what my expectations are, and if my expectations aren’t being met, I try to find a new role for them that will fit so that they can still be part of our future, but not a role that they can’t handle.
If they can’t take their role being changed, then that’s their decision, but at least you know you’ve done the right thing by trying to keep them on the team instead of just firing them because the role has outgrown them.
If people are flexible and adaptable, then you can create something for them to stay on and then you don’t have so much turnover in higher positions because there is so much institutional memory and knowledge throughout the company. Sometimes one of the biggest mistakes people make is having such a hard time trying to communicate expectations and frustrations.
Most people don’t want to be in a position where they don’t feel like they’re helping the company, so if people are adaptive, then you can make it work.
HOW TO REACH: Telecare Corp., www.telecarecorp.com or (510) 337-7950
Is tax provision work an exact science? “A tax provision is an estimate of tax and not an exact science, but it seems to be moving more toward an exact science in an area that’s almost impossible to fully predict,” says David Sordello, CPA, tax partner, Armanino McKenna LLP. “Meanwhile, companies are struggling with these provisions in a tax world that continues to grow more complex as business becomes more global.”
Smart Business spoke with Sordello about how the new complexities of tax provision work are placing a burden on companies and prompting big changes in their tax departments.
How can the new tax environment ensnare companies?
Two big areas are causing problems. First, as companies grow into more tax jurisdictions, they’re forced to deal with doing annual projections and estimates to accrue taxes for federal, state and many international jurisdictions. This requires the right detail information and knowledge of many jurisdictions’ tax rules and laws. Additionally, they must have proper third-party arrangements with their subsidiaries to properly pay tax in foreign jurisdictions when the company does business internationally.
Second, companies historically relied on their accounting firm’s advice to help them book items and find the right answers. Today, accounting firms that perform corporate audits are essentially handcuffed by the rules around Sarbanes-Oxley and the Auditor Independence Act. It’s now up to management to have all the processes and resources in place to properly account for taxes.
Companies are being forced to reallocate their limited resources from tax return preparation and planning into the tax provision area. It seems more and more that the role of a tax professional is no longer a matter of minimizing taxes; it’s now a matter of properly accounting for taxes for financial statement purposes.
How are companies working through these issues?
Companies have been hiring additional resources for the skills to make these accruals, and to make sure that management has the tools in place to calculate these estimates and fulfill the requirements that the auditors will address.
Many companies simply do not have the bandwidth to accomplish the necessary tax provision work and want a third party to review what they’ve done internally from a compliance and SOX perspective to make sure it’s right. They need to make sure they’ve gone through enough internal processes to be able to represent that they have done all the steps, and that they have enough intellect and knowledge to properly represent to the auditors that they’ve done their job in making this accrual. I spend about 90 percent of my time helping companies think through all of the issues and to put all of the documentation in place, while working with the audit firms to get the client through this quarterly process.
How are 123R and FIN 48 impacting the tax provision process?
It seems like every year there has been a new wrinkle on how the Financial Accounting Standards Board (FASB) or IRS is making the provision process more complicated. Two years ago, it was the adoption of 123R that significantly complicated stock option accounting, and the tax benefits of the related option deductions.
This year brought us FIN 48, the new rules for accounting for uncertainty in income taxes, which was formerly addressed by FAS 5 (accounting for contingencies). The accounting firms themselves are dealing with this for the first time, making the process even harder for companies that need advice.
Why should companies hire internally or seek outside resources?
CFOs should be aware of FIN 48 and its implications to their companies. Are they meeting all of the disclosure rules? What are the ramifications that are going to impact their effective tax rate and earnings per share? Do they understand these issues and can they articulate that to their Board, their auditors and analysts? The path to that understanding is through hiring the internal resources, outsourcing the function or a combination of both.
DAVID SORDELLO, CPA, is a tax partner with Armanino McKenna LLP in San Jose. Reach him at DavidS@amllp.com or (925) 790-6403.
Give employees flexibility. I go around the company all the time and see what makes people feel excited to come to work, and a lot of people use the word freedom. What they mean by freedom is, ‘I am free to go workout whenever I want during the day. You trust me. I am free to go do my charity hours on a day that might be in the middle of the week when there’s a bunch of meetings going on because it’s part of the bottom line for our company.’
They live the life that they want to live, and that gives you so much more energy and you feel like you have more of a purpose. That’s part of the reason our turnover is so low. It’s not like people are here searching for the next thing; they can fulfill their life goals here.
Live your philosophies. We make ourselves a different kind of company. We use the word ‘sustainability’ to talk about our business, brand, community, people and planet, and we promote that this sustainability is our bottom line. Those are the five bottom lines, and we measure those, and people’s bonuses are based on those.
Part of it in the real big picture is that people here feel real connected to what we’re doing in terms of our sustainability, and we promote that. People are so immersed in their work, they’re so excited about it, and they feel a sense of ownership to it. And that’s catchy; it’s contagious.
We get together every Thursday in a company meeting and let the employees actually run the meeting and people get up and talk about the things they’re doing here and what they’re excited about. That energy is easy to catch and it resonates around the company.
Help employees with their passion. It’s important to support the community, and we do things like have employees participate in our volunteer program on company time and let people contribute to causes in the community that they’re passionate about. They choose which programs to participate in, and our employees own that program.
It’s very cool, and people are very proud of it. And people come to work every day to be connected to that. What we do in the community helps people to feel more connected to our brand, but it also fits in when we talk about sustaining our people.
One of the things we really focus on is the question of what really helps people to feel energized when they come to work. That’s where you get the energy; people are doing it because they’re passionate about it. It’s more than just a job, and you can start to feel that energy throughout the company.
Verbalize your culture, and find the right people. We hired 51 new people this year, and we were real nervous about it because we wondered if the culture was going to change and we were going to lose what we had.
It actually got better, and the energy level got higher, and that starts with the company’s aspirations acting like some kind a filter, because people are attracted to this company because they are attracted to our aspirations.
There was a time when we weren’t as articulate in what we believed in; it was more in our gut than vocalized, and the result of that was we weren’t necessarily making the right choices with bringing people on. But that was a great learning experience because it gave us a chance to realize we have to better articulate who we are and that’s important to send out a magnet to the right people.
By spending time with people, having a dialogue and figuring out what points connect them to our company and what points don’t, it’s helped me to better verbalize things in a way people understand. Now we’re to that point where we can verbalize our company dream and our vision.
Humanize management. As a company with a lot of dialogue, it’s important to be very clear on how a decision is going to be made.
We try to be clear on who is going to make the decision and what role the input is going to play in that. We want people to see that their input is heard and they’re a part of that.
We may decide, for example, to not introduce a product someone has been working very hard on. It’s so important for that person to understand why that decision is made. With a lot of companies, there’s a black hole that things sometimes fall into.
Having grown up as a smaller company, we want to keep that human connection alive because it’s so crucial for people to feel important. People need to understand. So we work on being transparent and letting people know what our decisions are and why they are that way.
And that also means telling them what decisions they can just absolutely take and run with in their job. People will bring their passion and energy if they are excited about what you’re doing. If people don’t understand that passion, then they’re not going to be excited about their job.
HOW TO REACH: Clif Bar Inc., www.clifbar.com or (800) 254-3227
M/A preparation may seem like a monumental and consuming project, but many of the core concepts involved are essentially best practices that all companies should have in place to maximize profit potential.
“Many of the ways that an inquirer will analyze a prospective target’s business aren’t that different from what the target should be doing all along,” says Tom Gard, partner in charge, Armanino McKenna LLP. “Maximizing your profit potential on an ongoing basis will increase the sale price of any future M/A deal.”
Smart Business spoke with Gard about how focusing on optimal business performance can help to put your business on track for a beneficial M/A outcome.
What are three preparation guidelines for a successful M/A?
First, you’ll need to attract a buyer. Your information has to be presented to convey a story.
Second, this story has to be supportable by facts. You might tell a story that sales are going to grow by 20 percent, but if it’s not a plausible story, the buyer won’t listen. Prepare the facts about where the company is right now based on current operating results.
Third, you should be critically evaluating your operation by product line and making the changes necessary to improve overall profitability whether there’s an M/A deal or not.
How do accounting practices come into play?
Economics will always drive whether or not the proposed merger or acquisition is a good strategic buy. However, accounting practices come into play when the purchaser starts analyzing the numbers. If things are not accounted for correctly or are not presented in a concise manner, the prospect may start to lose faith or question the numbers. If the numbers are straightforward and the reports are meaningful with no indications of any unusual accounting treatments, the buyer is more likely to be attracted.
When should a company seek assistance from outside resources?
Planning for an M/A deal should begin at least two to three years in advance. Companies can certainly benefit by drafting an experienced accounting firm early in the process that is familiar with how M/A deals are structured. Most CPAs can perform a critical evaluation of the historical numbers and help ensure that the company is correctly positioned prior to going into the market.
What categories can skew an M/A proposal, and how can they be recast?
Private companies often maintain substantial discretionary expenses. For example, a company may employ certain family members, offer extra-rich medical benefits plans or provide a large number of company vehicles. The prospective purchaser may choose to streamline these operations if they typically are not the industry norm.
This doesn’t mean that a company should immediately eliminate these discretionary categories, but I advise my clients that these items need to be isolated and backed out of the numbers so the core profitability will look that much stronger.
How are accounting results best organized for critical analysis?
The buyer likely will request to see results of operation by distinct product lines or distinct divisions. For example, a truck dealership could present the numbers for truck sales, parts sales, service sales and other product lines. The buyer will want to understand what lines are actually driving the business, and which lines might be a drag on future profitability.
Additionally, prospective buyers will want to know how the company arrived at its current form. You’ll need to prepare and provide many documents, including basics like articles of incorporation, minutes, capitalization tables and other statistics. Management should make sure it can run reports like these easily, even if not preparing for an M/A. Compliance documents, including four to five years of audited financial statements, tax returns and letters of recommendation from auditors or internal financials if not audited should also be prepared and organized for analysis.
How can negative results be mitigated before approaching a potential buyer?
It’s rare when you find an organization that is running on all cylinders, and any legitimate buyer will drill down to the problem areas. This is where the critical analysis of your product lines comes into play. Once an area of concern is identified, a plan of action can be designed that illustrates how this lagging area can be turned to the benefit of the purchaser. You have to tell the story to the buyer about how this problem can be overcome and capitalized upon.
TOM GARD is partner in charge of Armanino McKenna LLP’s Audit Department in San Ramon. Reach him at (925) 790-2600 or email@example.com.
One concept that is gaining popularity among CEOs is outsourcing some of the human resources functions. By removing purely administrative functions, the remaining staff can spend more time on human capital strategies and hopefully support a greater number of company employees without adding to their own staff.
“There are many reasons behind the outsourcing movement,” says Christoph Jenkinson, senior solutions specialist for the Employee Service Delivery Practice at Watson Wyatt Worldwide. “The globalization of many companies along with the need to comply with increasing regulations is bogging down many HR departments. Outsourcing is a solution to the challenge.”
Smart Business spoke with Jenkinson about the solutions created through HR outsourcing and how CEOs can lead the change.
Why are more CEOs outsourcing human resources functions?
They understand that the transactional portions of the human resources functions bring little strategic value to the organization. As the global war for talent heats up, CEOs want more creative energy and accountability for human capital plans to emanate from HR. CEOs want HR to develop and oversee policies, develop strategies, and be drivers of employee satisfaction. Payroll processing, for example, requires little creativity, so it often makes sense to outsource it. Within human resources, many of the sub-units have operated in silos, and that has created process redundancies and duplicate costs.
Also, outsourcing as a business concept has matured and so has executive management’s confidence in it. Originally, the concept was applied to noncore, noncritical functions. Now, business leaders have seen that success can be achieved by outsourcing noncore but critical functions such as payroll and time-card processing.
What HR functions are being outsourced?
I mention payroll because there have always been numerous providers of outsourced payroll processing, and they work efficiently and cost effectively. One of the barriers to outsourcing this company-wide has been the increased globalization of companies and their work forces. We are now starting to see an emergence of universal pay plans, and the world seems to be adopting a general payroll standard with slight variations for each country. Following that trend, we are starting to see payroll processing suppliers go global.
In the past, there was also a mindset that global payroll processing was complicated, so many managers were ‘hands-off’ and left payroll processing to each country leader. With Sarbanes-Oxley compliance requirements, it is important to know what is going on everywhere with payroll and take accountability.
Can employee benefits be outsourced successfully?
The outsourcing of employee benefits is gaining popularity among CEOs. The increased regulations imposed under the Consolidated Omnibus Budget Reconciliation Act (COBRA) and the Health Information Privacy Act (HIPAA), for example, mean that human resources must constantly stay up with the changing laws and keep the company in compliance.
Small or medium-size firms can often reduce their costs when insurance coverage is purchased through a third party, such as a staff leasing firm, by leveraging their buying power. Even in the cases where outsourcing is cost-neutral, there are other advantages to outsourcing the administration of benefit programs and the burdensome legal compliance activities.
What should CEOs do to lead outsourcing change?
Senior executives must be involved in the decision to outsource and be on board with the change. CEOs should be involved in taking the steps that generally comprise an outsourcing decision roadmap, like defining business and functional requirements, defining decision criteria, preparing an RFP, developing a vendor evaluation tool and conducting due diligence.
It is important to know what adds value to your organization and to have a vision of where you want to see HR spend its time and energies. While payroll and benefits are the most commonly outsourced functions, the outsourcing of many other HR functions such as full recruitment outsourcing and technology outsourcing is starting to emerge. Through greater scalability and by affording the time for HR to focus on becoming a strategic partner to business unit leaders, the outsourcing of human resources functions is gaining traction among CEOs.
CHRISTOPH JENKINSON is senior solutions specialist for the Employee Service Delivery Consulting Practice at Watson Wyatt‘s San Francisco office. Reach him at (415) 733-4144 or firstname.lastname@example.org.
These seasoned investors with an eye for the next home run often are the initial source of funding for neophyte businesses seeking to take a novel idea and morph it into a marketplace behemoth. As savvy pros in the high-stakes seed-financing arena, the investors also hold back subsequent rounds of funding until they see progress on a business plan.
Often, the business owner needs additional funds to tide him over during the period between one round of funding and another. This is where a commercial bank can assist with venture debt financing.
Smart Business spoke with Phil Koblis, first vice president of the Technology and Life Sciences Division at Comerica Bank, about how venture debt financing helps provide the “additional runway” to firms waiting to tap the next round of capital from their major investors.
What is venture debt?
It basically is a cheaper cost of capital. Less expensive than raising money from a venture capitalist, venture debt helps businesses continue to hit their major milestones as money from an earlier round of financing is depleted. Venture debt loans are loans made against a company’s assets and typically provide the runway between a first and a second round of financing.
Most start-ups need to do business with a commercial bank at some point, even if they have venture capital backing, because they usually are in an infancy stage and have very little cash flow. They depend on their venture capitalist for nearly all their operating needs. Our loans help supplement their burn rate for one to two years until the VC steps in with additional dollars.
How do you assess the creditworthiness of a start-up company?
We usually come in only after a business has secured the commitment of a major institutional venture capitalist. The factors we evaluate include who is providing the venture capital; the individuals who form the management team at the company, their track record and their history of business success; and finally, the business idea itself.
The original equity investor already has done a lot of due diligence before committing his money. And we hold their decisions very highly because they typically make good investments. But we also meet with a company’s management several times to discuss their business plan, ensure that they are on track in hitting their milestones and we review all their financial statements.
One of the keys in providing these loans is understanding the quality of the VC firm. We need to know that the VC has a certain amount already allocated to the business for its next round of financing. We know which of these firms will go through thick and thin for a company by following through on initial investments.
There is a bit of a process of educating both the business owner and the bank about the expectations one has for the other. How will a venture debt loan help push the business plan along and how confident is the owner that he can raise additional funds from the VC? Ultimately, we believe that the strength of our business lies in our ability to actively partner with both the business owner and the venture capitalist to help ensure that their expectations of the business can realistically be met.
How long does the process take to secure a venture loan and how is it secured?
It might take between three and eight weeks on average to close a loan. During this time, we ensure that the business is plugging along in the right direction, that the VC is still interested in the business and that we have sufficient security in the firm if we need to claim its assets.
Our loans on average range from $1 million to $5 million. For biotech firms, the amount is about $5 million to $10 million. On average, a loan is amortized over three to five years. Once a business finishes drawing down its loan, it has about 36 to 48 months to repay the loan amount.
From our perspective, we should have the confidence that the VC will come in with its financing once our amortization schedule kicks in. We also take a little bit of stake in the company through warrants to buy shares at a future date, and this can help the firm in getting a better price on the loan.
At the end of the day, we take a risk in providing a loan. We are not gaining equity in a firm and expecting to make money once a business is sold.
Why has it become such an attractive option for companies lately?
A couple things make it so popular. First, the availability of venture debt has grown as new providers and more dollars have entered the market. Second, the cost of this form of capital is still very low as compared to equity. At the end of the day, if the companies and venture investors involved in those companies use the venture debt in the proper way, they should be able better maximize their investment returns upon a liquidity event.
PHIL KOBLIS is first vice president, Technology and Life Sciences Division, at Comerica Bank. Reach him at (415) 477-32622 or a email@example.com.
Education: Bachelor of science, mathematics and computer science, Ben-Gurion University, Israel
Greatest challenge: Taking EFI from a company that solely relied on OEMs to making the company independent, growing again and successful
Best business lesson learned: Never give up. If something looks bad, keep thinking of how you can improve things.
First job: When I was 13, I decided to sell Legos door-to-door because I thought the distributor in my hometown was bad and not selling it well. I started to talk to the country distributor, so I bought stuff and I sold it. It was a pretty good business. I didn’t have any overhead. I did really small margin over what I bought it from the distributor. People liked the fact that a kid came and was selling toys, so people bought from me. I had a great sales pitch, so it was a good lesson because if I tried stuff, it would work. My parents didn’t like it because I was making good money and I was less interested in school, and they thought the age of 13 was a little too early.
On competition: I used to play bridge when I was a teenager. I was on the Israel Open Team and we won second place in Europe and fifth place in the world. I retired from that in 1991, but I learned a lot in tournaments from being down and coming back, and managed to win at the end despite the big deficit at the beginning of the game. It taught me a lot about die-hard, and you can win against everybody. At the end of the day, if you focus on stuff and are motivated, you can be successful. I like the competition part of it. I’m a competitor by nature.
Have integrity. The only thing that really matters in life is human relationships. It’s how you interact with people that matters in this world.
Be the boss you always wanted. Be the peer you always wanted. Be the employee you always wanted. If you use that as a guidepost in how you should act and care about people, then it sets the right tone.
At the end of the day, it’s those relationships and that reputation. I don’t think there’s room for gray. If it’s gray, then consider it black, and step away. Always do the right thing by the company, by your team and by your individual.
Treat people fairly. That doesn’t always mean give them what they want. Have consistency and fairness, but communicate.
I was a preschool teacher in a former life, and it’s not just tell them no but tell them no [and] why. We’re all adults. You give them information. You treat them like adults, and you share and communicate in good times and in bad times. That’s key.
Focus on the best people. A lot of organizations move to the average. They focus their energies, policies and compensation around the average performer.
I have a philosophy in focusing on the top 25 percent of the organization because you spend too much energy on the bottom 10 percent, and you never raise the bar. We don’t (hand out) our compensation or bonuses or stock options to everyone.
Set your expectations. Now you know what you work on and you have task identity, and you have a fair barometer to judge that. We sit down and say what went well, what didn’t, how do we improve that, but it’s focused on the top performers, and that means raising the overall bar for the organization.
If you focus on the top 25 percent, they become talent magnets, and they know other people who share a similar set of values, behaviors, expertise and experience. A strong reference from an ‘A’ player is the best indicator of another ‘A’ player.
Develop your people. If you care, you give honest feedback. It’s too easy to not give feedback to an employee, but if you care about his or her personal development, you give open, honest, direct feedback. ‘You know what, I thought that was a great presentation, but here are a couple things I thought you could do better.’
It’s too easy not to say those things, but if you really care, you take the time to develop your people.
Get everyone rowing together. It starts with a shared mindset and a desire to do that, and that overall culture of, ‘Hey, we’re a team.’ Reward team orientation, and when there’s cowboys, you make sure that’s not tolerated, so it’s a cultural norm.
Then it’s about building those relationships, so it starts with me getting to know my direct reports and then the next level down and informal, both work and outside of work. Then it’s making sure your compensation and reward and recognition system is tied to those goals.
Follow through. Ideas are important, but execution is really more important and understanding what you’re good at versus what you’re not.
Some people believe that there are five or 10 things that I should be good at, and I’m going to work on improving my weaknesses. There are a couple of things like integrity and communication that you have to have a certain level of, but at this point in your career, accentuate your positives and be excellent at that, and then surround yourself with a team of people who are excellent at the things you’re not.
If you’re a really good second baseman, be second basemen don’t try to play left field and third base, as well.
Be decisive. Understand that, at the end of the day, the decisions fall on your shoulders, and most people want to be led they don’t want to lead.
That sounds awkward, but what I mean is get all the input, delegate as much as possible, empower, but at the end of the day, be comfortable in the fact that you have to make some hard decisions, and when you make them, do it with conviction and leadership.
Seek counsel. Don’t be afraid to ask for help from your board or your advisers or the team or your network of colleagues or mentors. Don’t try to solve it all yourself.
Be willing to admit your mistakes, where you have weaknesses or where you need help because if you do that and embrace people, people have a natural inclination to want to help.
Fix bad personnel fits immediately. I believe in the right person, in the right job, at the right time, with the right attitude. You may be the best director of finance for a 10-person company, but you’re not [the best] for 1,000.
You may be the best, but you leave collateral damage, and no one likes working with you.
A mistake I made early on I became COO of a start-up. One of my executives, it was clear that, after lots of coaching and mentoring, he was the wrong guy. He was not great from a culture standpoint, and I took way too long to make the decision to let him go.
It had a negative impact on the business, on the culture, on people’s belief in my conviction and that philosophy. I learned even though it’s hard to let people go that you’ve got to.
The second biggest mistake you can make is hiring the wrong person. The biggest is once you figure that out, not moving swiftly to fix the situation.
HOW TO REACH: Shutterfly Inc., (650) 610-5200 or www.shutterfly.com
In today’s global economy, American companies are afforded tremendous opportunities to diversify business risks and capture additional market share. However, there are corresponding risks to the rewards that are associated with conducting business internationally.
Highly volatile, any given currency fluctuates 1 percent during a 24-hour period, points out Gary Loe, vice president at Comerica Bank. This volatility translates into the need to manage the risk of rising or falling foreign exchange rates.
“Identify your exposure and establish a floor or worst-rate scenario,” advises Loe. “Protect that rate by using one of your foreign exchange hedging vehicles.”
Smart Business spoke with Loe about the basic principles of foreign currency hedging, what the current environment looks like and how to best strike a balance between risk and return.
How does foreign currency hedging work?
A foreign currency exposure is typically created when a company imports, exports or establishes an offshore physical presence. Due to potential valuation change from one currency to another, the result is currency risk. This risk will require active management or risk transfer. Whichever occurs, a currency hedge program should be investigated. Different companies will have a different hedging profile. Hedging is the tool to address currency risk.
What are the different types of foreign currency hedging vehicles?
There are three basic vehicles, although there are variations upon these three.
The first type is a spot transaction, which is the immediate buying or selling of one currency for another. Using the market price today, settlement usually takes place within two business days. A company that only transacts using spot trades is typically accepting the most risk.
The second vehicle is a forward contract. The price is locked in immediately, but settles on a date in the future. Monies do not change hand until that stipulated future date. Theoretically, the forward price can be the same as the spot price; however, the forward price, based on interest rate differentials, is usually either higher (premium) or lower (discount) than the spot price.
Finally, there are option contracts that provide the company the right, but not the obligation, to purchase or sell a specific amount of foreign currency for a specific date in the future. For this right, the purchaser of the option pays a premium which is payable immediately. This cost is determined by many factors including the option strike price, current spot price, forward adjustment (interest rates), market volatility and forward date.
When creating a hedging plan, what strategies should be considered?
First, it is important to note that there is no one best way to create a hedging plan. Each company may determine to use different tools that apply to its individual situation.
However, one consideration that should be taken into account is how much exposure you have. Are you conducting business in U.S. dollar terms or foreign currency terms? Even if conducting in U.S. dollar terms, your company can still be exposed to exchange rate movements if your foreign party is or feels forced to change those terms due to exchange rate movement. Developing a budget or other financial analysis can help identify foreign exchange exposure. Typically, a company will establish a budget or forecast, then choose the vehicles to use and subsequently validate them against the company’s appetite for risk.
What does the current environment for foreign currency hedging look like?
Most industrialized countries have freely open markets in foreign exchange such as the U.S. dollar, Euro, British pound, Japanese yen and Canadian dollar among many others. The foreign exchange market is the largest market in the world with more than $1.5 trillion (U.S.) traded daily. This is bigger than all the stock and bond markets in the world put together. Therefore, the market is very liquid.
There are, however, countries where it is very difficult to impossible to physically deliver currency. China is one such place that curbs its money flows. This is due to Chinese central bank restrictions. Regulations in some countries can change constantly so it can be important to stay in touch with your bank’s foreign currency adviser.
How can a business best strike a balance between risk and return when hedging in foreign currencies?
Probably the term with more weight is risk. Your company is probably not in the game of foreign exchange speculating. It is most likely buying or producing a product for sale or providing a service for sale. Therefore, it should concentrate on what it does best.
Most companies would be better served by eliminating as much foreign currency risk as possible. However, some business situations cannot completely eliminate risk. In this situation you can try to set a downside floor with the use of such vehicles as options. Setting a floor with an option or leaving an order to buy or sell on a stop-loss basis can also leave potential upside returns on a hedging strategy.
GARY LOE is vice president at Comerica Bank. Reach him at (800) 318-9062 or firstname.lastname@example.org.