Selling a Family Business: What Are Your Options?
Are you think about selling a family business? If you’re a Baby Boomer, you might be!
Baby Boomers – those born between 1946 and 1964 – are rapidly approaching the end of their working careers. Many of these boomers – and there is a bunch of them – started businesses or took over businesses stated by an earlier generation of the family. Inevitably, these owners are faced with the question of how they transition out of the business and whether or not they can do so while keeping the business in the family.
Many of these owners would like to pass their business on to the next generation, especially if some of that next generation have been active in the business. Some of these owners, though having that same desire, realize that they have not properly trained the kids to take over the business and in many cases the kids are working there simply so they claim to be gainfully employed; they add little, if any, value to the business. In quite a few cases, we’ve found that most of the next generation would rather pass on taking over the family business and want to do their own thing – such as become a professional surfer in Bora Bora, an attorney in the Finnish Ministry of Justice or simply practice navel-gazing in a US state that has legalized cannibis.
So, if you are an owner of a family business and you realize that the time has come to prepare to exit that business and get on to some REAL fun, you have three different options and each option requires a different approach. As the current owner and protector of a legacy, you need to identify what situation you’re facing for a transition and then choose the correct path to transition out so as to make the transition as painless as possible.
Your three options are: 1) transition out by transferring the business to the next generation; 2) transition out by bringing in outside management to operate the business and; 3) transition out by selling the business to a new, non-family owner. Your exit strategy will depend on which of these three options are most open to you and which can be pursued most efficiently. Let look at each a little more closely.
The Next Generation
This is arguably the most challenging transition to plan and implement, especially if there are multiple members of the next generation or if there are multiple “next” generations. It is also likely to take the most time and require significant outside talent. Some issues to be considered include:
- Assuming that one or more members of the following generation(s) is interested in taking the business over and further assuming that they are capable of running the business, how is each member of the following generation(s) allotted his or her share of the asset value? If the business is the main family asset the value of which will be part of an inheritance plan, will those that have worked in the business and helped increase its value be entitled to more than those that have chosen to work outside the business? If so, how will the final allocation be determined?
- How will the allocation of this asset be determined if some of the next gen wants to work in the business but others do not?
- What if some of the next gen that do not plan to work in the business want cash for their portion rather than equity? How will the business’ value be determined? How will a buy-out be structured to assure the business’ well-being?
- What will the timing be? Some members of the next gen – especially the more profligate ones – may want their portion in cash right away. How will the owners handle that?
Ideally, the family will draft a business plan long before dinner discussions get heated and get the buy-in of the multiple generations around a common goal. This should be done well before the transition takes place to provide time for both getting everyone on board with the plan and to implement the transition without undue pressure brought about by some random crisis such as the death or disability of one of the current generation owners. A business and exit plan will provide a road map for how the business should be operated and a series of goals, both short and long term, that will provide focus to the operation of the business and the family’s management of it.
All too often, members of the next generation, having been blessed with the fruits of the business all their lives, have not been fully inculcated with what effort and discipline is required to generate such fruits. In many cases, this results in demands a couple of years down the road that the business continue providing such fruits regardless of its ability to do so. Involving younger generations in the drafting of a business plan can create buy-in at an early age, a condition that will go a long way toward forestalling such mentality.
Outside, Non-Family Management
Transitioning to non-family management is fraught with different potential flash points than would be encountered when transitioning to the next generation. It would still be advisable to draft a business plan the main reasons for which are to get all family members to buy in to the transition and to establish how the transition decisions are to be made. Some issues to consider on this path include:
- Depending on how large the family is, establishing a written process to find, vet and choose the new manager(s) will likely be critically important in your efforts to stave off acrimony. For example, if the transition involves second generation owners retiring and the next gen is made up of a dozen or more members, efficiency demands that a small group – two or three people – be appointed to find, vet and nominate (if not choose) the new manager(s). The vetted choices could be put to a vote with a certain percentage of “yeas” required to carry the day. Needless to say, in order to avoid disputes later on, such a plan must be put in place (in writing) and have received everyone’s buy-in (with signatures) long before the process starts
- Even with outside management and even if that management is incentivized with equity, the equity in the business must be considered as it passes from one generation to the next. Similar to a next-gen transition, issues of equity positions for various next-gen members must be considered. Again using the example of a next generation with a dozen or more members, should the assets be proportioned equally or are some members entitled to a greater share by dint of their involvement in the business over the years?
- How much leeway will the new manager(s) have and, assuming that the manger(s) will receive some of their compensation based on performance, will that leeway be increased if the business grows and, if so, have benchmarks been established to measure that growth – and value it – so as to adjust compensation?
A significant challenge when bringing in outside management is the choice is finding one or more people that the family can trust to carry on and grow the business. Ideally, knowledgeable and qualified family members will make up the majority of the board but processes and procedures must be in place before the task is begun to reduce, if not eliminate, arguments among family members. This gets more challenging as the family expands over subsequent generations and talented advisors must be part of this process.
The family must remember that outside managers, though hired employees, must have the family’s trust to operate the business but at the same time, though thoroughly vetted, they will come to the business with their own style. This is a tricky situation to balance and is another reason that the family must have not only a plan for the future of the business but a small committee to oversee the family’s interest, make minor decisions and make recommendations on major ones.
Selling to Unrelated Buyers
Selling a family-owned business is not only a major business and financial decision but a complex and oftentimes wrenching emotional one, as well. Depending on how ownership and control of the business have been established within the family, realizing the rewards of a multi-generational effort through a sale will likely require the approval of multiple family members. Any number of factors may play a role in a family’s decision to sell its business — a new generation may be unavailable or unwilling to take over; the family may want to pursue a new or different venture; an unsolicited offer may be too good to pass up.
Whatever the motivating factor, selling a business, especially a family-owned business, is almost always a once-in-a-lifetime experience. What may have taken several generations to build can easily be squandered if an exit strategy is not in place or the sales process is not assiduously followed. For this reason, families should engage competent advisors early on.
Timing: It’s Critical
Sellers almost always underestimate the time and resources that will be required to successfully complete a transaction and to overestimate the value of their business. Throughout this generally tedious process, the family members that are managing the business must work to maintain the business’ value, while negotiating and executing a hand-off to the new owner. If management takes its eye off the ball – and there are multiple balls in the air at any given point in this situation – a deal that was very attractive could collapse very quickly. And the more time that elapses between the letter of intent and the closing, the greater the chance of the deal going south.
This should drive home the need for experienced advisors. Business attorneys can advise on the various legal aspects of the deal. Qualified accountants can advise on the tax and financing consequences. A professional business brokers and mergers and acquisitions specialist can ride herd on every one involved and oversee the overall process while the business owners tend to the business – and keep it from losing value.
If you’re the owner of a family business and are considering your exit, I’ve put together a further discussion of these points and a check list of issues to consider. You can download it for free by putting your email address in the box below.
If you have any questions, comments or feedback, I want to hear from you. Put them in the Comments box below. I’ll get back to you with answers or my own comments. If I get enough on one topic, I’ll address them in a future post or podcast.
I’ll be back with you again next Monday. In the meantime, I hope you have a profitable week!