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So You Want To Sell Your Business

As the baby boomer generation approaches 60 more and more business owners will begin to look at the option of selling their business as a way to finance their retirement plans.  One critical aspect of this process is the valuation of the business from a market perspective versus the business owner who has a tendency to place a higher value on their business than the market will.  This in turn makes the closing process unduly tense and as often as not will lead to a non event when it is time to sign on the dotted line.  So what can be done to set the table for a completed transaction?

One must start with an understanding of how value is created in the business arena.  In many respects it is the same as buying a stock, which is investing in a public company.  An investor buying your business is investing in your company.  You start by looking at earnings, - is the company profitable and how are its key metrics in relation to the industry overall?  Is it better than its competitors, the same, or worse?  You then move to cash flow- specifically what is called Free Cash Flow.  Free Cash Flow is defined as net income plus depreciation & amortization minus working capital and minus capital investment needed to sustain the revenue stream.  Ultimately a business is valued as a multiple of income and or Free Cash Flow.

After the earnings and cash flow are determined, a risk factor is added that measures the sustainability of this cash flow.  The riskier the investment, the lower the price.  There are a number of things that go into the risk profile of the business.  Is there a strong management team in place that can function without the owner being present?  Is the market the business operates in a growing market or is it declining?  Are there new products in the pipeline?  What is the level of customer satisfaction with the business?  What is the quality of the products or service?  How strong is the corporate culture?  Is the compensation structure appropriate to the business and industry?

Each of these sections could have its own white paper written on it.  But in addition to the top level review of the business, looking under the hood must be clean as well.  Surprises will raise risk and lower the value of the business.  Are the financial statements accurate? Are there potential claims brewing that have not surfaced?  Is the business OSHA compliant?  Is the software, especially mission critical software, properly licensed or owned?  A buyer will ask to look at everything pertinent to understanding the business.  You, as the owner, need to be confident that everything is communicated accurately upfront.  At the end of the day, would you purchase this business for this price at this point in time, knowing what you know?

As a partner with B2B CFO® I am prepared to help you put your best foot forward when looking to sell your business.

Captive Insurance for the Middle Market

By Philip E. Elworth

Every business self insures risk even though they have broad insurance policies in place.  All insurance policies have a list of exclusions from coverage.  If the exclusions are not covered under a separate insurance policy then you are at risk.  In addition, there are many risks in your business that would be very expensive to purchase insurance for even if you could.  These include credit risk, the inability to collect on your accounts receivable or the creditworthiness of your key customers or suppliers.  Certain product liability items are often not covered as well as product or equipment obsolescence or changing market conditions.  Are any of these risks potentially less catastrophic if they occur, than say a fire?

There is a vehicle available that can help business owners cover these risks tax free as well as provide a mechanism for potential estate tax planning, key man retention as well as the safety of having cash assets beyond the reach of creditors.  This vehicle, in its many forms, is called a captive insurance program.  This product has been around for over 100 years but has not been readily available to the middle market until the past decade.  Basically, a captive insurance plan is your own private insurance company but the only company that can file a claim against it is your own.  Premiums accumulate over time and if there are no claims then the cash is yours with more favorable tax treatment then the original premium cost would have allowed for.  You have the ability to transfer up to $1.2 million in premium cost into the captive each year.  This premium is a deduction on the insured’s books and is not taxable income under the captive. 

In order to qualify for a captive, the business should have at least two of the following; taxable income greater than $1.5 million; uninsured risks of $250,000 or more; 100 employees or more; or actual premium costs of $500,000 or greater.  The reason for the requirements is the captive insurance program will cost $40-80,000 to set up and $18-40,000 per year to maintain.  All of this should be more than covered by the tax savings in the first year to make it worthwhile.  Since this cash will leave the business, the premium dollars must not be necessary for ongoing operations for the program to be effective.

Captive insurance plans are complex and should not be entered into lightly, but can be a very effective means of managing risk and ultimately potential vehicles for estate planning, wealth transfer or business exit strategies.

The funny thing about planning- it is often most useful when it is performed before you need it.  If you were going to sell your home, wouldn’t you plan out a number of critical elements first?  When is the best time to sell?  What do I need to fix to maximize the value?  Who will I list it for sale with?    This same logic is true with a business but is much more complicated, time consuming, will take far longer than selling a home and there are many more options to choose from.  With the help of Pinnacle Equity Solutions I am going to detail a number of questions every business owner needs to consider now-- in order to have a successful exit-- whenever that may be.

1.  What do you wish to accomplish from the exit strategy from your business?  You went into business in the first place to accomplish certain goals for your life.  You need to think about an exit in the same way.  Goals are the foundation of any successful strategy and they are no different with an exit.
2. Do you know the range of values for your business?  Unlike a house which normally sells within a range of the listing price.  A business can and does have a number of wide ranging values based upon the method of transfer of ownership.  An outright sale to a synergistic buyer will provide the highest value, whereas a gift to family will provide the lowest. 
3. Do you understand all the options available to you with an exit strategy?  Owners of privately held business normally have 5 options available to them.  They include; a sale; a gift; a recapitalization; an ESOP or a sale to management.
4. Have you calculated the risk factors of your business?  It is important for you as the owner, who has lived with your business for many years to understand how a third party would view the risk of owning your business.  Ultimately any investment is priced based upon the perceived risk to the buyer. 
5. Have you developed an income replacement strategy to satisfy your lifestyle after the business exit?  Do you have a personal financial plan?
6. Have you considered the taxes and fees due at closing, and beyond?  If you approach the exit of your business with the idea that you will know the right deal when you see it and do not properly plan the type of deal you wish and understand the cost of each option, you will end up chasing deals that are liable not to close.  If you clearly know the dollars necessary to satisfy your post exit lifestyle, you will be in a better position to know the right deal when you see it.
7. Do you know that deal structuring can have a serious impact on the net, after tax amount that you receive for your shares?  With any exit there are many variations that may occur.  Are you selling shares or assets?  Is it cash up front or structured over time? 
8. Are you aware of the estate tax consequences to your business and other assets?  In the absence of proper planning, estate taxes can cut deeply into the pie.  Should you not plan for the exit of your business and the business needs to be sold at a fire sale price you can lose twice, once with estate taxes and secondly with a reduced sale value of your largest asset.
9. Have you identified the legal agreements you will need to sign to complete the transaction?  Agreements can include a sale or asset transfers, non-complete, escrow and loan agreements along with potential consulting arrangements.   The more you understand the deal you are entering the better prepared to close you will be.
10. Have you chosen a service provider to manage the transaction? This is probably the largest single transaction you will execute.  Do you know the advisory team you wish to employ?  Do you need a local business broker or a larger M&A firm?  The right real estate agent will help you maximize the sale price of your house; the same is true for an exit strategy.

Your business is probably the largest single asset you own.  Isn’t it worth spending the time necessary to properly think out your own goals and develop an appropriate exit strategy?  As a partner with B2B CFO® in partnership with Pinnacle Equity Solutions I am well prepared to help you develop these goals and plan for their successful achievement.

Business Risk

By Philip Elworth

Business risk has many facets and can come at a business owner from any directions.  So what is business risk?  Many owners would probably agree with WiseGeek.com which defines Business Risk as being, “The risk that a company will not have adequate cash flow to meet its operating expenses”.  Unfortunately this definition only scratches the surface of the risks that can cause such a shortfall.  Many of my clients scratch their heads and become frustrated with the various types of risk they face every day without even know it.  The reality is that any company can get caught in a risk situation that becomes intolerable if someone in the organization is not paying particular attention to the details.

Every business is faced with risk factors that may be the result of both external and internal elements often times beyond their control.  External factors can encompass such things as a change in the demand for their goods and services.  Therefore you may find yourself either under capacity or over capacity.  One results in lost sales and profits while the other is a drain on cash.  External factors can be the result of government regulation, where a company operating in multiple states does not realize they have a nexus situation in a particular state and finds itself with heavy fines and penalties a drain on both time and resources.  How secure is your bank?  Will they have the capital to loan you the funds you need at the appropriate time?

Internal risks can be the result of processes, internal controls, and lack of attention to financial data, key metrics or lack of a cash flow projection, all of which are necessary to properly manage a business.  Other factors come into play as well.  How is the financial health of your largest customer or supplier?  Are you overly dependent upon one customer or supplier?  What is your plan to diversify?  Is your employee manual current with all the latest employment laws?  If you are selling on the internet and taking possession of customer credit card information, are you properly controlling this sensitive data?  Do you have the appropriate legal language on your website?  Are you properly insured for all the types of coverage you are eligible for?

If there were a catastrophe in your primary place of business do you have a plan to get back into operation as quickly as possible?  Are you properly covered with business interruption insurance?  Is your intellectual property adequately protected?  Is your technology platform appropriately secured?  Do you have backup copies offsite of both your data files as well as your key software?  How often is your system down, thus causing your business to be inefficient?  Lost time and inefficiency of operations is as large a risk as having a faulty product.

The purpose of risk assessment is to understand the risks that apply to your business and having a plan to either mitigate the risk, accept the risk or offload the risk to a third party.  This list is not all inclusive by any means and any plan needs to be tailored to your business.  As a partner with B2BCFO® I am prepared to help you understand your risks, then implement a solution that fits the needs of your business.

The Three Things in Life You Can Count On

By Philip Elworth

The old saying goes there is nothing in life you can count on except death and taxes.  I would like to add to this statement something that is closely related.  If you are a business owner you can also count on the fact that you will exit your business.  How you exit your business is a choice and one you will need to plan for if you want to maximize its value.

To begin this planning process, let me ask you, as a business owner, how you view your business?  Is your business a job or is it an investment?  How you answer this question will help determine how you plan for an exit. If it is an investment then you will want to protect it and maximize it.  If your business is just a job, I would ask you to reconsider why you started or bought the business in the first place and what you would like your legacy to be.

Exiting a business has many variations.  The exit could be an outright sale to a third party.  It could be in the form of a recapitalization, where you sell the majority of the company, stay active in growing the business with an infusion of capital by the new majority owner with the intent to sell it for even more down the road.  You could sell the business to your key managers, or all the employees through an ESOP.    Your business may be large enough to do an IPO and take it public.  You may want to gift or sell it to your children or gift it to a charity.

The method you choose starts with a needs analysis and a financial plan for you, the exiting owner.  Working with a certified financial planner to understand your long term needs, as well as how you will reinvest the proceeds from a sale goes a long way to helping you understand how to maximize the value of the business.  The further out you begin this planning process the better positioned you can be to fulfill your goals.  The need to sell in the next six months is a very different strategy than one where you have years to execute.

Once you have a general plan, you can begin to clean up and run the business with this plan in mind.  When I meet with new clients one of the first questions I ask is for them to describe their exit or long term strategy.  The recommendations I make are dependent upon the direction the owner wishes to go.  It usually takes a period of time to position a business for sale.  This time frame is further affected by the economy at the time of the sale.  The opportunities to maximize value of a business transition follow a cycle not unlike the housing cycle.  Understanding the environment today, versus the needs to be accomplished to ready a business for sale will help determine the time line.

Planning your exit should start today.  As a partner at B2BCFO© I am available to assist you with the planning and executing of your exit strategy.

How to Change the Change Process

By Philip Elworth

Three things need to happen at the same time if you want change to occur.  You need to change the situation and you need to influence both the heart and mind of those who need to change.

Kotter and Cohen say in their book The Heart of Change that real change happens in the following order, SEE-FEEL-CHANGE.  Emotion needs to be involved not logic.  We all know when we need to change something but knowing does not make it happen.  The authors site an example in this book where a manager of a large manufacturing organization knew the firm was wasting large sums on inefficient purchases.  But how to effect the change was the question.

To prove his point this manager sent out an intern to investigate the purchasing process of one single, low priced item, work gloves.  The intern discovered that the various factories were purchasing 424 different types of work gloves.  He collected a sample of each one and labeled them with the price paid.  They were all using different suppliers and negotiating their own prices.  Gloves of similar type had prices ranging from $3.22 to $10.55.  The manager made an exhibit of his finding by placing them in a pile in the board room table in front of senior management.  They were stunned at the visual display of inefficiently in a simple low cost item.  When they saw the display their response was silence, but it could have been “this is crazy, we are crazy, we’ve got to make this stop happening”. 

What do you think would have happened had this employee put a spreadsheet together showing the inefficiency?  This manager could have preached this topic forever and not had the same effect.  Until the powers that be could see the situation and feel it, then they would not be motivated to change.  The logic of the inefficiency would not have swayed them.

Chip and Dan Heath unpack this topic in detail in their new book entitled Switch.  They state that the core matter of change is about changing behavior.  See-feel-change, not analyze-think-change.  So how do you go about changing behavior?

 One way is to shrink the change.  If you could begin to invest in getting in shape by exercising 1 minute a day would you do it?  I would advocate that if you invested this one minute a day for a period of time, it would change your mindset and allow you to slowly move up to the 20-30 minutes necessary for fitness.  But a commitment to one minute is doable, shrink the change.  Where else could you apply this concept?

A second means to change is to instill a growth mindset.  Plan to fail.  If you start a diet and blow it one night are you done with dieting?  If you consider the possibility that you will fail and plan for it, it will be easier to pick up the pieces and move on.  The mind is like a mussel, practice and attempts to learn or change create new pathways for change to happen.  No skill learned over time was ever completed without some level of failure.  So plan for it and it will not devastate you.

A third way to instill change is to find the bright spots and celebrate them. Whether raising kids, training employees or changing you.  Find what is working, celebrate it and do more of it.  Encouragement and praise will always take you further than negativity.  So start by celebrating your success no matter how small it may be.

Change can be hard but when properly undertaken success can be achieved.

True North

What do you think of when you hear the term true north?  The technical definition refers to the line up the earth that takes you directly to the North Pole.  A compass on the other hand points you to magnetic north.  So which is correct?  How do you know where you are going?  I would like you to consider another definition of True North, one that applies to how you live your life.  Diving a little deeper, to use this definition to define your leadership.

True North, as it applies to your life, incorporates the values, passions and motivations that are most important to you and help you find satisfaction and fulfillment in your life.  I submit further, that these same values translate into how you can lead authentically.  Brenda Barnes, CEO of Sara Lee says “The most important thing about leadership is your character and the values that guide your life.”  So I ask you, are you guided by an internal compass that represents your true values?  Do you live out these values in every decision you make?

Bill George in his book entitled True North explores this topic in great depth.  Bill tells us all to discover our authentic leadership in order to lead in our passion, but to do so while remaining true to our innermost values.  Every one of us has an arena where we can lead. But it is up to us to discover for ourselves what our authentic leadership is and then to put it to work.

What are the traits of an authentic leader?  According to Bill George there are 5 of them:

·         Pursue purpose with a passion

·         Practice solid values

·         Lead with your heart

·         Establish enduring relationships

·         Demonstrate self discipline

Without a real purpose, leaders are at the mercy of their egos and are vulnerable to the purpose of others.  Do you think the leaders of Enron started out to break the law?  I submit that somewhere along the line they forgot their real purpose.

Values are personal and must be established by each one of us, but one value is necessary for every leader to be successful.  That value is INTEGRITY.  As a leader do you allow integrity to be a part of every decision?  More importantly do your actions follow what you say?  Do they and you, hold up under pressure?

Authentic leaders will lead both with the head as well as the heart.  Do you have passion both for your work, as well as the people you serve?  How about empathy for the people who work for you?  Do you have the courage to make the tough decisions?

All good leaders develop enduring relationships.  Many people today will only follow a leader where can have a personal relationship.  Are you available for your employees?  Your customers?  Your family?

Self Discipline, without it an authentic leader will never produce the results of which they are capable.  Self discipline means among other things, the ability to admit your mistakes and take immediate corrective actions.

So how does one become an effective leader?  Like everything else in this world you start with the hardest person in your life to lead…YOU.  You must take responsibility for your own growth and development.  Begin your journey by devoting yourself to a lifetime of development and learning.  Talent will get you only so far, like every great athlete or musician, they and you, still need to practice and grow every day. 

Whether you are planning a personal strategy, a business plan or a production process, I have found that strategic planning follows the same steps.   The first step in this process is to decide what is important.  What is your mission, your vision, your values?  What are the guiding principles you will use to filter every decision you make?  At B2BCFO® our values are honesty, integrity and objectivity.  Once this is understood it is then easy as a firm, as well as for an individual partner, to align any decision against this value statement and make the right decision.

The second step in the process is to have well thought out goals.  If you are going to be constructing a building, you start with a clear idea and visual of what the building looks like. You have the engineering drawings, blueprints, elevations, site plan, all of which are necessary to build the building that was envisioned by the customer.  This same concept applies to a personal plan. Do you want to retire? When would that be?  How much in assets would you like to have to maintain what lifestyle?  All of these questions and many more, help develop your plan. 

The third factor in the plan is to align the various systems necessary to achieve the goal.  By systems we mean such things are your HR policies, how you hire, train, motivate and compensate your employees.  Do you have the tools, processes, technology in place to facilitate the goal attainment?  Do your overall company policies align with the values you wish to follow and help you achieve your goals?  I was recently in a retail office supply store attempting to return a defective product, a charger for a laptop computer, which broke within two weeks of buying it.  When we spoke to the service people they told us that unless we had the originally packaging for this $99 item they could not refund or replace the item.  The reason for this was that they could not in turn get compensated from the supplier.  Therefore if they could not get their $99 back then I could not get mine.  I am not sure what their mission, vision, values and goals are as an organization, but I do know that customer service is not one of them and for $99 they lost a customer for life.  On the flip side, one of my clients is a manufacturing operation.  One of their value propositions is that no defect will knowingly leave their shop and should there be a problem in the field their value statement is to fix the problem within 24 hours.  They operate in all 50 states, but hey take pride in telling story after story about how they solve these problems. But not just that; they learn from the story telling so that the same situation will not be repeated.  Their systems are correctly aligned to their value statements.

I believe the next step is the most critical and the one where many organizations fail.  This step is the execution of the plan.  You may have the best plan, systems and policies, but if those responsible for executing the plan are ill-prepared and do not take the initiative, are inefficient or do not follow up, then the plan can go awry.  In a normal business process there are millstones that need to be met for the process to flow on time.  Going back to my building example, there is site work to be performed, followed by the foundation, then structure, interior building systems, then on to finish work.  Each and every one of these separate tasks needs to be mapped out, contracts need to be negotiated, and timelines need to be established and process to be managed.  If any one falls behind, the entire project is at risk.  The same is true for the overall business plan or a personal development plan.  Each step needs to be understood, laid out and executed, all being mapped against the timeline of the goal.  If this does not happen then the entire plan is at risk.

The fifth and final step in the process is to step back and take a realistic look at the business, the project or the personal plan.  This should occur on a reasonable and ongoing basis.  I recommend to each of my clients to look at their business process and evaluate at the end of any project how they did.  Did the work come in on time and on budget?  What take-a-ways can we learn from what just happened?  This is true for the business or personal plan as well.  Great organizations continually review and apply these learning’s to the process.  To borrow from Jim Collins; make sure you have the right people on the bus and make sure they are in the right seats.  When looking at the business overall it is important to not just look at internal processes but what is happening in the industry or the economy overall and what effects will it have on your business.  Then rework the plan and start the cycle all over again.  Based upon the work of Gary Harpst this is how excellence is created and maintained.

If you’re Company Was A Soccer Team….

Steven Covey in his book The 8^th Habit, which I highly recommend, quoted the results of a Harris Poll of 23,000 U.S. residents employed full time within key industries and in key functional areas as follows:

·         Only 37 percent of those polled, said they have a clear understanding of what their organization is trying to achieve and why.

·         Only 1 in 5 was enthusiastic about their team’s and organization’s goals.

·         Only 1 in 5 workers said they have a clear”line of sight” between their tasks and their team’s and organizational goals.

·         Only half were satisfied with the work they have accomplished at the end of the week.

·         Only 15 percent felt that their organization fully enables them to execute key goals.

·         Only 15 percent felt they worked in a high-trust environment.

·         Only 17 percent felt their organization fosters open communication and better ideas

·         Only 10 percent felt that their organization holds people accountable for results.

·         Only 20 percent fully trusted the organization they work for.

·         Only 13 percent have high-trust, highly cooperative working relationships with other groups or departments.

Covey goes on to equate these results to a soccer team by describing the team as having only four of the eleven players on the field knowing which goal was theirs.  Only two of the eleven would care.  Only two of the eleven would know what position they play and know exactly what they are suppose to do.  And all but two players would, in some way, be competing against their own team rather than the opponent.

The analogy is an interesting one and to some degree tracks against my own experience.  You can say it is farfetched but think about it.  If you do not know what the real mission of the organization is, then how do you know what game you are playing, not to mention which way down the field will help you score?  If your company’s employees are operating in silos then how are they not competing against each other?  If you are not all pulling the same direction then how can you help it but not care?

It is easy to put your head in the sand and say this is not true in my organization.  I challenge every business owner and manager to evaluate their team.  Do you have a fully engaged workforce that is productive?  Do your employees really know why they are at work each day?  Do they have the skills and resources to accomplish what is expected of them?  To use an old analogy, if you stopped and asked one of your employees what they were doing, would they say they are pilling bricks one on top of the other?  Would they say they are building a wall?  Or would they say they are building a cathedral?  If your goal is to build the cathedral then you want to make sure your employees know just what the cathedral is to look like.

The One Goal

Have you ever witnessed an organization operating at its peak performance?  When this happened did you notice that all parts of the organization were pulling together for one stated goal?  What causes an organization to operate like this?  Why doesn’t it happen all the time?  In my opinion, if you were to dig deeper, you would find that this focus was often created by a crisis.  A crisis that pulled the organization together, to fight the threat or deal with the disaster.

I had the opportunity to witness, just such an event first hand.  In the spring of 1992 a tunnel system that runs under the Chicago River, and throughout much of the downtown area, was punctured, filling the tunnel with water.  This tunnel system was connected to many downtown office buildings dating back many decades to when coal was delivered underground to these same buildings.  Many of these buildings had open access to the tunnel, and few, if any had water tight doors protecting it from the river many blocks away.  I worked for a real estate firm that owned two buildings that were tied to this tunnel system in some way, totaling over a million square feet of prime office space.  Within 24 hours one of the buildings was out of commission with over 11 feet of water in the lower basement level.  This level housed all the heating, ventilation and electrical systems of the building.  We were faced with a catastrophe that was costing us revenue, each day the building was closed.

Within hours of the magnitude of the problem being understood our team was ready to roll.  With strong leadership at the helm we put all our employees, our long term vendor relationships and every chip we could play to the task of solving the one problem we had, getting the building back on line ASAP.  There were no power plays.  There were no excuses.  No one said “not my job”.  Everyone understood there was only one goal and it was lead, follow or get out of the way and we accomplished our task in record time.

Now the larger question is why do we need a crisis to work like this?   Patrick Lencioni, author of the book “The Five Dysfunctions of a Team”, calls this type of goal a thematic goal.  Patrick further defined a thematic goal as a single, temporary and a qualitative rallying cry that is shared by all member of the team.

Every company needs to create a thematic goal.  John P. Kotter in his book “A Sense of Urgency” defines this process as creating urgency.  An urgent goal is a thematic goal and is something that everyone needs to work, every day, every meeting to solve.  If nothing else in the organization were to be accomplished but this one goal, then the organization would be successful.  Once achieved, a new thematic goal takes its place.  This is not just the process of creating a false sense of urgency but real needs that allow an organization to be successful.

The function of leadership is tasked with the need to create this urgent goal.  Once defined, the urgent goal becomes the rallying cry of the organization over the next three to twelve months.  Everyone should know the goal.  Everyone should have a part in the goal.  Every meeting should start with a status report on the achievement of the goal.  When the goal is achieved, you celebrate and get on with the next thematic goal.  If this were to happen in every organization you would see continual improvement in execution, quality and success.