it takes a few years, so get started.
by anthony glomski
research from the family firm institute shows that only three in 10 (30%) closely held family businesses survive into the second generation. just one in eight (12%) are still viable into the third generation, and a mere 3 percent operate into the fourth generation or beyond. those statistics are even more disturbing because the same research shows that the vast majority of business families are overly optimistic – they believe they will be in control of their companies five years hence.
more: is your client’s umbrella big enough? | estate plans: can you ask clients these eight questions? | when clients don’t listen | do you know your client’s total picture? | the role of the personal cfo
exclusively for pro members. log in here or 2022世界杯足球排名 today.
given this gloomy success record for family business transitions, it is no wonder that 60 to 70 percent of family wealth is lost by the second generation and that 90 percent is lost by the third generation. it does not have to be this way.
this area of advanced planning is typically where we see the biggest gap and the most lost opportunity. according to aes nation (accelerating entrepreneurial success), more than five out of six entrepreneurs (85 percent) fail to do sufficient tax planning prior to the sale of their businesses – and less than one in seven (15 percent) successful entrepreneurs have someone coordinating the efforts of all the specialists working on their business exit planning.
unless business exit planning is approached in a coordinated way, your client’s wealth can be eroded significantly by income tax, capital gain taxes, ird (income in respect of a decedent), gift taxes, estate taxes and other taxes. in many privately held successful businesses, the company will generate taxable cash flow to the owners that exceeds what is needed to fund the owner’s lifestyle. this extra cash flow can be taxed at 50 percent or higher (top marginal state and federal income tax rates). when the after-tax proceeds are invested, the growth is subject to capital gains rates of 30 percent or higher after taking into account state tax rates, the medicare surtax and the phase-out of deductions. ultimately, when the remaining assets are passed to family members or successor managers, there could be a 40 percent gift or estate tax applied.
to help solve this wealth-eroding problem, every entrepreneur should establish a clear vision for his or her transition and look for ways to minimize the taxes. tax-efficient planning strategies are needed to guide decisions about daily operations and business exit strategies. an astute advisor knows how to fund business succession agreements in ways that can generate current income tax deductions, while allowing the business to generate tax-free income for the business owner and/or successors.
there’s also the emotional side of selling a business. many conflicts can erode family and business relationships, especially when a founder (or founders) prepares to step away from day-to-day operations. if the founder’s children or siblings are highly involved in the company, succession is more often “assumed” than prepared for. the same goes for loyal early employees who have been working faithfully at your client’s company since day one. he or she may have risen patiently through the ranks and sacrificed a great deal of nights, weekends and salary to make your client’s company a success. but suppose your client doesn’t feel that person has the chops to be the next ceo or president. imagine the longtime employee’s resentment at being passed over for the corner office for an outsider or a non-family employee.
real world example
early in my career, i had a colleague we’ll call will. will’s father founded a greeting card business. after years of hard work, will’s dad had built a company that was generating several million in sales each year. sadly, will’s father passed away unexpectedly and never put a true succession plan in place for the business. it was more of a handoff to will and will’s three siblings – without clear direction about who was responsible for what.
because will was a savvy financial professional, he decided to shop the company for sale. he received an offer of $10 million, but was overruled from accepting the offer by a sibling who insisted the family should continue running the business. within 18 months, the once-successful greeting card enterprise failed and the $10 million offer made to the family two years prior had evaporated.
i have seen uncoordinated business succession plans and mishandled exits create havoc in personal relationships, tear family bonds apart and destroy business possibilities. messy exits can hurt a loving family and its thriving business. don’t let this happen to your client and to the company he or she has worked so hard to build.
one of the first steps to helping your clients plan a smooth exit from their business is to obtain a current (and accurate) valuation of their business. a simple appraisal is not enough. you will need a “quality of earnings” report. you need to go to investment bankers to get their input on the market. you may have them do a market test. this is how you determine the true value of a business. even if you have an abv credential, i recommend talking to some good investment bankers and m&a attorneys and bringing them into the process early on.
here are three important questions to ask our business owner clients, especially if they’re contemplating an exit in the near future:
- with respect to your business, where do you see yourself in the next three, five or 10 years?
- at the right price, or in the event of some other life circumstance, would you ever be inclined to have some form of exit or liquidity event?
- what is your exit plan?
all business owners will have an exit whether they like it or not. the exit tends to happen in one of four ways:
- they sell their entire interest.
- they sell part of their interest.
- they pass it on to the next generation.
- they die.
often a business owner will tell you emphatically: “i have no intention of ever selling!” your response should be: “well, all businesses exit. unless you’re immortal.”
let’s go back to the question i posed earlier in this post. ask your client this very simple, but powerful question:
“where do you see yourself in the next three, five and 10 years?”
the response (or lack thereof) should give you a very good indication of the exit planning you need to be doing together asap.
exit planning is not something an owner wakes up one day and decides to start doing a month before planning to sell. exit planning is a multiyear process. your client’s responses to the questions above should incent you to start implementing the next steps and to position either yourself or someone else as the quarterback of the planning side.
whether your client is exiting six months from now or 16 years from now, you can (and should) be spearheading their exit planning. as mentioned above, it’s all about determining what your client wants for themselves, their spouse and their family and tailoring it accordingly. in terms of looking at a potential sale in the not so distant future, you need to determine if you want to quarterback this process. if so, you’ll need to bring in investment bankers, business m&a attorneys, a specialized accounting firm to do a quality of earnings report, and other specialists. each situation is going to be unique. but the size of the proposed transaction will give you some direction about the types of professionals you’re going to need. suffice it to say, a $25 million-plus sale is going to look very different from a sale that is $10 million and below.
one thing that we’ve done for our client that’s been very helpful is to provide a financial therapist who can counsel successful entrepreneurs before, during and after an exit.