The upcoming wave of baby boomer retirements introduces many challenges, especially for those who own businesses. There are estimates that anywhere from $10-$14 trillion dollars of business value will transfer over the next ten years! The challenge is whether the business owner can realize the full value of their business in order to have enough financial resources that will last through retirement. Unfortunately, many businesses end with no significant value realized, due to poor planning.

This leads to the concept of business succession and exit planning. Good exit planning is simply good business planning. A business owner must always be ready to transition their business, because not every owner has the benefit of choosing the timing of their exits. There are five disruptors to the normal glidepath of a small business that can lead to an early exit: death, disability, divorce, disagreement or distress. Therefore, a business owner needs to be thinking about their own exit plan immediately and working on the different ways they can protect their family legacy.

Build Your Business Value by Starting With Your Personal Values

Being ready to sell or transition the business to the next owner involves an alignment of personal, financial and business goals. Many business owners have a clear mission statement and values, but many of those owners do not intentionally consider how these business goals align with their family and legacy goals. The owner needs to bring in key stakeholders such as their spouse, children, and key management executives to make sure that everyone knows how to define a successful business transition. A pivotal part of this process is for the business owner to truly map out what their life looks like after transitioning their business. Many business owners are personally defined by the business, so understanding all the non-financial aspects of day-to-day life post-transaction is a significant step.

The business owner also needs to understand how their business aligns with their other personal financial assets and future goals. They should engage with a qualified wealth advisor to determine the value they need from the business to make their retirement successful. This is referred to as the wealth gap. This exercise can be eye-opening to many owners because the gap may be higher or lower than expected based on their unique set of circumstances.

The value of the business itself is driven by many factors, but a typical valuation metric is a sale multiple of earnings (EBITDA – Earnings before interest, taxes, depreciation and amortization). An example would be a business with $1M of EBITDA times a 5 multiple would be worth $5M. Many business owners are solely focused on the earnings of the business, and they neglect the other side of the equation: the sales multiple. A sales multiple is driven by many factors—some in the owner’s control and others not. An example of a few factors that are out of their control are the market conditions, their particular industry and current tax policy. However, there are many factors that are in an owner’s control that can place a business in a higher range of the multiples of businesses in their industry.   

One key factor that can drive up the value of a business (read: the multiple) is having a clear management succession plan that displays to the potential buyer that the business can continue to thrive without the current owner. Most business owners are extremely involved not only in the management of the company, but also get their hands dirty in the day-to-day responsibilities. It is crucial for the business owner to identify, elevate and nurture management-level talent within the company, as this is a significant factor in the buyer’s expectations for the business’s future growth.

Keeping Your Finances in Check

Another major driver in increasing the value of the business is having very clean financial records and statements. It is important to make sure that owners have identified and rectified any potential issues that could come to light in the due diligence process. Some examples of this would be to make sure that personal expenses are identified, all financial statements are presented in a consistent manner (such as GAAP accounting), and the technological backbone behind the financial statements is sound.

One final factor to increase value would be to look closely at customer and vendor concentration of the business. This refers to identifying the percentage of sales that comes from each customer as well as what percentage of input costs come from each vendor. The lower the concentration, the higher the business value, as it does not rely on a small handful of companies to ‘feed the business.’

Final Takeaways

As the business owner engages in planning for an eventual exit, it is very important that they have the right team in place. A typical team will consist of a wealth advisor, CPA, Mergers & Acquisitions attorney, and a business broker or investment banker. Having the right team that has experience doing business transactions can have a very large impact on the ultimate value that a business owner receives for their business. Each member of the team is addressing a different piece of the puzzle, whether that be the wealth gap, tax savings, deal terms or creating a competitive market for the business. 

Overall, the best thing a business owner can do to prepare for a sale is to engage the right team now to guide them along the path. This team will start with their overall goals, identify the issues and gaps in their business, identify the ways to close those gaps and finally put together an exit plan for the business that is aligned with their personal, financial and business goals.

DISCLOSURE
This material provided by Bartlett Wealth Management (“Bartlett”) is for informational purposes only and is not intended to serve as a substitute for personalized investment advice or as a recommendation or solicitation of any particular security, strategy or investment product. Nothing in these materials is intended to serve as personalized tax and/or investment advice since the availability and effectiveness of any strategy is dependent upon your individual facts and circumstances. Opinions expressed by Bartlett are based on economic or market conditions at the time this material was written; actual economic or market events may turn out differently than anticipated. Facts presented have been obtained from sources believed to be reliable. Bartlett, however, cannot guarantee the accuracy or completeness of such information, and certain information presented here may have been condensed or summarized from its original source.