This article was originally published in the Union Leader and can be found here.
NH Legal Perspective: Get Started on Succession and Exit Planning Early
By: Janet Fierman
February 8, 2020
Business owners usually say they are too busy to think about retirement and/or their business still needs them. However, exit and succession planning is essential not only for the owner’s successful retirement, but also for protection of the business.
Business owners generally should allow five to eight years for the process from the initial decision to explore his or her exit to finalizing the transition, so starting early makes sense.
There are multiple ways for business owners to leave their business. The most common ones are:
Internal succession by family members or employees;
Merger with another similar or complementary business;
Sale to third parties or acquisition by another business; or
Orderly wind down and dissolution of the business.
Internal succession provides continuity for the business and employment for people the owner knows and cares about. However, owners need to view potential internal successors with a dispassionate eye: Examine carefully how they would finance such a transfer, and how to manage other employees who might feel “excluded” from control and leave the business. Employee stock ownership plans (ESOPs), where appropriate, can provide both financing for the business owner’s exit, broad employee ownership and tax benefits for the business.
Outside succession by merger with or acquisition of another business is a good option particularly if there is a target business with a good candidate for successor leadership and a strong line of business. However, this process takes time and requires a backup plan if the right target cannot be found. Here too, internal issues can undermine the success of the plan so the owner should analyze the compatibility of the entities’ business cultures.
Sale of a business may be accomplished as a sale of the ownership of the business (stock sale) or sale of the business’s assets (including the name and attributes of an ongoing business). There generally is a due diligence process to enable the potential buyer to evaluate the business being sold. Before looking to sell the business, its owner(s) should get the business in shape for due diligence examination that supports the asking price for the business — and this can take significant time.
In addition, buyers generally require that the former owner stay on as an employee for a period of time, which many former owners find difficult, and that the owner(s) sign a non-competition agreement, which means that they must leave their industry — at least for a period of time. Structuring and implementing a business sale requires significant tax, accounting, legal and human resource advice and assistance.
Many business owners simply close their business when they are ready to retire — for lack of appropriate successors or buyers or because liquidation of assets will yield higher net proceeds than sale of the ongoing business. They sell off the assets, pay off the liabilities, collect the receivables and distribute the net proceeds to the owners, filing final tax returns and articles of dissolution (which allows the corporation and its owners obtain closure on liabilities after a period of time). Before distributing net proceeds, though, the business owner must make provision for existing and reasonably foreseeable debts, liabilities and obligations or face the possibility of personal liability for claims the business no longer can pay.
In considering their options, business owners should begin identifying and prioritizing their financial and personal goals in connection with their exit strategy as early as possible. How much do they want or need in terms of net proceeds? How important is business continuity after their exit?
An owner considering exit strategies should also begin analyzing their business’ balance sheet in an effort to recognize and address potentially problematic areas such as debt (both owing and owed), liabilities (such as leases), pending litigation and disputes, and contingent liabilities. A realistic assessment of how ongoing businesses in the relevant industry sector are valued will help evaluate the likely sale price for the business and ways to improve that value.
It is wise to analyze the assets’ liquidation value (including accounts receivable that really can be collected) for comparison to the potential value achievable in sale of the ongoing business (with the “goodwill” in the business name and reputation). Obtaining a clear understanding of tax, legal and business issues associated with the business transition is critical.
It is difficult to hand off control of a business to others. Ultimately, though, it will occur, and planning for it is in the best interests of the business, its stakeholders and the owners themselves.