Small Business Succession Planning The CHRISTMAN Group LLC

Small Business

Succession Planning

The CHRISTMAN Group LLC

[Your Firm’s Name Here]

Our Goals:Make this a fun and informative day for you.

Teach you how to begin to include exit planning in your practice.

As a result:

Questions are encouraged!


Small Business Exit Plans: What Are They,

Who Needs Them, and Why


What Is An Exit Plan?

• An exit plan is a comprehensive road map to successfully exit a privately held business.

• It asks and answers all of the – business, – personal, – financial, – legal and – tax questions involved in selling a privately owned

business.


InvestmentBanking

Estate Financial

Tax

Legal

Exit Plan

What Is An Exit Plan?


Why is This Important?

Huge Need = Huge Opportunity

Huge Opportunity = Huge Responsibility


Why is This Important?

• Demographics – The Age Wave• Baby boomer generation - more

entrepreneurial than any other generation in history

• 7,700,000 business owners will need exit planning services in the next 15 yrs.

• These businesses represent $10 trillion in market value


Let’s look at some of

The Risks of Not Having an Exit Plan


Owners are Reactive, not Proactive

• Most business owners exit their companies as a result of pressure from outside factors, not as a result of their own desires


Owners HavePoor Timing

• The exit their companies on a timetable that’s forced on them instead of one that meets their needs


OwnersLeave Money on the Table

• They undervalue their companies and leave hard-earned wealth on the table


Owners Pay Uncle Sam

• They pay too much in taxes because they don’t know the have options


Owners Lose Control

• They lose control over the process by being reactive and limiting their exit options


Owners Fail to Achieve Goals

• They fail to realize all of their business and personal goals


Owners CreateUnnecessary Stress

• They suffer unnecessary psychological stress


Owners Put Business at Risk

• Owner’s are the primary reason that confidentiality is breached during the sale or exit process


Owners Put Legacy at Risk

• They risk watching a lifetime of work disintegrate as a result of poor business continuity planning


The Benefits to Business Owners of Exit Planning

• Achieve business and personal goals

• Empowerment and control • Business preservation• Preserve family harmony• Reduce employee and family

uncertainty• Increase proceeds in owner’s pocket


The Sad Reality

• Fewer than 25% of business owners have anything close to an exit plan

• 70% of business owners report that they did not accomplish their goals in exiting their business

• Very few advisors are asking the right questions


Exit Planning Advisorsa multi-disciplinary approach

• Attorney

• Financial advisor

• CPA/tax specialist

• Insurance professional, and

• Investment banker

InvestmentBanking

Estate Financial

Tax

Legal

Exit Plan


Attorneys• Raise the exit planning question• Meet with owner regarding exit

planning objectives• Help form advisory team• Help prepare formal exit plan• Conduct pre-transaction due diligence• Prepare client’s estate plan• Prepare tax minimization strategy with

accountants• Handle M&A legal work


Accountants

• Provide owner and other advisors with information regarding historical and projected financial performance

• Prepare audited financial statements for client if warranted

• Analyze owner's business goals and assumptions

• Develop a tax minimization strategy with attorneys


Financial / Insurance Advisors

• Help business owners understand the importance of financial planning prior to selling

• Perform a financial needs analysis • Develop recommendations

regarding investment strategy that is aligned with the owner’s exit plan

• Implement strategic wealth management plan after the sale.


Investment Bankers

• Value business• Make value enhancement

recommendations• Provide quantitative financial analysis for

decision making • Prepare offering materials• Conduct marketing program to attract

buyers• Negotiate letter of intent• Coordinate due diligence and

documentation process


Identifying Clients in Need of Exit Plans

• Owns a middle market business • Is age 40 or older


Section II: Setting Goals and Identifying Risks


Setting Goals

• Personal• Family• Financial• Business• Legacy• Community/Philanthropic


Evaluating Goals

• Specific• Realistic• Measurable• Lifestyle-based • Consistent • Honest• Compatible• Agreed to


Understanding Risk and Risk Tolerance

• Leaving the business on their timetable

• Creating financially security for themselves and their family

• Who should get the business? • Loss of confidentiality


Common Objections

• Not sure how to start • Difficulty discussing personal

matters and goals• No time to focus on long-term

planning• Believe the time is not right to start• Intimidated by the process• Afraid of life without the business• Concerned about confidentiality


Conflicting Value Systems

Family Value System

Ownership Value System

Management Value System

This is where exit planning needs to take place.

Classic Interference Patterns Affect Exit Planning


Understanding Transition Satisfaction

1. Personal Identity2. Marital Status 3. Financial Resources 4. Involuntary vs. Voluntary

Transition5. Contact with Others 6. Having a Plan


Timing is EverythingStep Min. Period

1. Transition process 1 year or more

2. Investment banking/sales process

1 year

3. Implement value enhancement and tax planning

1 year or more

4. Prepare exit plan 6 months – 1 year

Total Time 3.6 years or more


The Exit Planning ProcessFive Steps

1. Personal Financial Plan 2. Business Valuation3. Maximizing or Protecting

Value4. Maximizing Proceeds5. Investment Banking Process


The Personal Financial Plan

1. Current Spending 2. Future Lifestyle3. Major Future Capital

Expenditures4. Current Asset Base5. Required Asset Base6. Wealth Management

Strategy


Business Valuation

1. When is a Valuation Needed?

2. What Type of Valuation is Necessary?

3. Definition of Value– Fair Market Value– Investment Value – Liquidation Value


Purpose and Its Impact on Value

Exit Channel

Exit Option

Valuation Authority

Value Standard

Resulting Value

Family Gifts/GRAT

IRS Fair Market Value with discounts

$6,500,000

Co-owners

Buy-Sell Agreement

Co-owners

Investment Value or Fair Market Value

$9,000,000

Third-Party Buyer

Controlled Auction

Buyer, Seller and their advisors

Investment Value or Market Value

$10,250,000


Section IV - Building, Maintaining or

Minimizing the Value of the Business


Three Keys to Maximizing Value

1. Fundamental Value Drivers

2. Protecting Existing Value

3. Investment Banking

Process

Investment BankingProcess

Focus on Value Drivers

Protect Existing Value


Fundamental Value Drivers

• Good management team• Solid operating systems• Operating profit margins above

industry average• Solid, diversified customer base• Realistic growth strategy• Effective financial controls• Good and improving cash flow


Value Enhancement Plans

• Importance of Goals

• Balance Impact vs. Relevance

• Resource Commitment

• Accountability


Maximizing ValueThe Importance of Goals

• Action plans must be structured to deliver the most “bang for the buck” within the relevant time period.

• This requires prioritizing goals and making difficult trade offs.


Maximizing ValueBalance Impact vs.

Relevance

High

Value

Low

High Value, Low Relevance

High Value, High Relevance

Low Value, Low Relevance

Low Value, High Relevance

Low Relevance High


Maximizing Value:Resource Commitment

• Handle In-house or Outsource?• Personnel?• Funding?• Appropriate expertise?• Bandwidth?• Accountability?


Maximizing Value:Accountability

• Launch meeting• Assign specific tasks to specific

people• Set mileposts• Set deadlines• Monitor regularly• Assign one “coach or

quarterback”


Protecting Existing Value

• Retaining Key Employees• Protecting Trade Secrets• Pre-Transaction Due Diligence


Protecting Existing Value:

Retaining Key Employees

• Sales and profits• Potential exposure of trade secrets

and loss of employees to competitors

• Plans for expansion• Operations• Morale/loyalty of other employees• Mentoring of successor managers• Customer relations


Retention Programs for Key Employees

Employee Compensation

Employee Taxable Income

Employer Tax Deduction

Salaries & Bonuses Yes Current

Nonqualified Deferred Deferred Deferred

Qualified Deferred Deferred Current

Qualified Fringe Benefits

No Current

Dividends Yes No

Stock Bonuses Yes Current


More Sophisticated Retention Programs

• Restricted Stock

• Phantom Stock

• Incentive-Based Compensation


Protecting Trade Secrets - Employment Agreements

• Necessary• Protect confidential trade secrets• Prohibit solicitation of

– Clients/customers– Employees

• Non-compete– Right to Work– In Terrorem


Protecting Existing Value:

Pre-Transaction Due Diligence

Review and address:• corporate housekeeping• title to assets• approvals and consents• major contracts• environmental issues• employment policies• litigation


Section VI - Ethical Issues


Fees

• Fees should be reasonable taking into account– Time and effort required– Custom vs. “off-the-shelf” solution– Results– Time limitations– Experience required– Whether fixed or contingent


Confidentiality

• No disclosure of client information, unless needed to– Prevent client from committing a

crime– Establish a claim or defense against

the client


Conflicts of Interest

• No conflict with other clients• Transactions with client

prohibited, unless– Terms are fair and reasonable– Fully disclosed in writing– Client has ability to consult

independent counsel– Client consents in writing


Section VII – The Costs/Benefits of Exit Planning: Case Study


Case Study: The ROI of Exit Planning

• Introducing exit planning into your practice requires an understanding of the value you could deliver to your clients.


Roger Before

• Roger owned a successful medical equipment rental business.

• Status: tried unsuccessfully to sell his company for 12 months

• Goals: maximize the value of this company

• Estimated value: $6 million• No personal financial plan• No estate plan (other than a will)• No tax minimization strategy


Roger After

• Roger needed to net $5.3 million from the sale after taxes in order to accomplish his goals

• Roger’s company was worth $7 million, not $6 million

• Even $7 million was too low to accomplish his goals

• Value enhancement required• Tax minimization was a must, not an

option


Keeping Score

• The business was sold for $7.2 million

• A controlled auction process was used

• He netted $5,600,000 after taxes and transaction costs


The Client’s Investment

• $25,000 in exit planning fees• $25,000 in legal and accounting fees• The exit plan showed Roger how to

received $1.9 million more in after-tax proceeds than Roger had expected based on his prior efforts

• Roger received a 38 to 1 return on his investment in less than three months


The Return

• When the transaction closed we received a success fee of approximately $300,000 or 4.2% of the total transaction price.

• In total, the combined cost of the exit planning and the investment banking process was $350,000.

• Even including the investment banking fee, Roger received a 5.5 to 1 return on his money in less than 18 months.


The Peace of Mind

• According to Roger, the best return on his investment was knowing that he had done everything possible to ensure his family’s financial security and that he and his family would now be able to retire with out financial worries.


Questions & Answers

Documents

Small Business Succession Planning The CHRISTMAN Group LLC