November 21, 2022
We discussed in an earlier article how the biggest impediment to successfully selling a business is a lack of planning on the owner’s part. In some ways, it’s understandable: after all, most owners are much more concerned with running their businesses than with planning to get out of them. Yet as business advisors in Canada, one of our most important jobs is helping entrepreneurs understand the need to start developing a robust strategy for selling their business – and for what they are going to do afterwards.
For many business owners, this is unfamiliar territory, and it’s all too easy to let doubts and uncertainties get in the way. But we believe that knowledge is the great cure-all for fear. So, in that spirit, here are the answers to five of the most common questions we as business advisors hear from our clients about exit planning.
Q: What Is Exit Planning, Exactly?
A: It’s the process of creating a strategy to sell your ownership in a company to investors or to another company.
Of course, the exit you’re planning for does not have to be a full liquidation of your stake in the business – it can be simply a reduction in your holdings. But however much of the company you are hoping to sell, the primary goal is the same: sell at a substantial profit (or, in the case of a company that’s losing money, limit your losses). The sale of your holdings is, in essence, a liquidity event, where the value of your business is converted into cash, which can then be transferred to you, your family – and/or the taxman! A big part of effective exit planning (often overlooked by owners) is developing ways to minimize the tax impact of a business sale.
Q: So Why Is Planning Important?
A: In any business transaction, the party that is best prepared typically comes out on top.
The many benefits of a solid exit strategy boil down to one thing: readiness, both financially and personally. A good plan enables you to work toward realizing the full value of your business, to minimize tax consequences, and to make your business more appealing to potential buyers. It also makes you ready personally, because it will help reduce the headaches and the stress that a business exit can entail, as well as the psychological, emotional and financial impact of the change in your lifestyle that will occur after you sell.
And the costs of not being prepared can be high. For instance, we have encountered more than a few pharmacist-owners who, after putting up their pharmacy for sale and completing the transaction, end up disappointed in the process and the results. They are not alone: in one recent survey of business owners who sold their company, three-quarters said they didn’t achieve their personal and financial objectives. Comprehensive, informed exit planning can help you avoid that by putting you in control. It’s an insurance policy against ending your years of hard work in disappointment and regret.
Q: What Does an Exit Plan Look Like?
A: It depends.
You can search the web and find templates for exit plans, and no doubt some business owners will find them useful – writing down important things is never a bad idea! But it’s important to realize that exit planning is not a document, but a process. Most importantly, it involves changing your mindset. When you are selling, you should no longer be thinking as an owner/operator whose focus is on day-to-day operations or results, but rather as a value-builder/investor who is looking towards the long-term horizon.
Q: When Is the Best Time to Start Exit Planning?
A successful business sale takes more time than most owners anticipate. Doing it right should involve several years of pre-planning; in fact, for most sale transactions, a five-year horizon is ideal. That timeline allows an owner to work with their business advisors to define their personal and financial objectives – long before the actual process of selling begins. It will also allow time to make the structural and operational changes needed to address tax implications and to maximize the business’s market value.
The most common mistake we see as business advisors is the owner failing to get all those issues in order while they are under no pressure. As some wise man once said, failing to prepare is preparing to fail.
Q: What Else Should I Be Thinking About?
A: Hope for the best, plan for the worst.
In our experience, many business owners look at the sale of their company (and their lives after the sale) through rose-coloured glasses. They not only tend to overestimate the value of their business, but also to underestimate the personal and financial impacts of transforming from business owner to investor. They have a vague idea of sailing off into the proverbial sunset of retirement, and they don’t spend enough time thinking about what might turn that dream into a nightmare.
That’s why incorporating retirement planning into an exit strategy is vital. It’s also why a good exit plan considers all the things that might go wrong.
In our experience as business valuators in Canada, there are four major events that can derail the best-laid exit plans, usually by forcing the early sale of a business. The “big one” is Death – it happens to everybody, and we typically can’t control when or how it does. No. 2 is Disability: if you become disabled, you might be able to manage your business, but you might not be able to run it, or you might not have the energy or desire to stay involved. No. 3? Divorce – especially if the business is jointly owned by spouses. And the last of Four D’s is Dispute among shareholders, which, as with divorce, can force the sale of a business if no party has the capital to buy the other shareholder(s) out.
Any of these risks (and others) can happen at any time. So during the exit planning process, it makes sense to continually ask, “What if?” Incorporating worst-case scenarios into your exit plan can save a lot of time, money and stress for you and your family down the road. Contact EVCOR today for more information on business evaluation services.