Let’s say you’ve launched an extraordinary, successful business. You love the business, and you’ve worked hard to make it profitable. Whether you’re on the verge of retiring or you’ve just begun to grow your company, it’s important to think about what your exit strategy will be.
In the words of Entrepreneur Magazine writer Jeffrey Robbins, “Entrepreneurs live for the struggle of launching their businesses. But one thing they often forget is that decisions made on day one can have huge implications down the road. You see, it’s not enough to build a business worth a fortune; you have to make sure you have an exit strategy, a way to get the money back out.”
Robbins is right: Beginning to think about your business exit strategy just when you actually want to exit is tantamount to beginning to save for retirement the week before you retire. If this sounds like you, you’re not alone. The U.S. Small Business Administration says that many small business owners don’t have an exit strategy for retirement, or for the event of disability or death. Business exit strategies are simply part of planning for the next stage in your business, and being prepared for the unexpected.
Here are a few ways to plan in advance for how you’ll exit your business one day. Working actively now to ensure the success of one of these strategies will be the most lucrative choice you can make for the future of your business, both financially and personally.
A Merger and/or Acquisition: This is one of the most common exit strategies. Find a business that wants to buy yours, and sell it to them. Sounds pretty simple, right? There are certainly pros and cons to this.
For example, if you have value to an acquirer who’s interested for strategic purposes, Robbins explains that they could pay more than you’d be worth to anyone else. This way, you can take the money and run, relinquishing control of the business completely. However, if your company merges with another, there can be a bad fit between acquirer and aquiree, which is painful for both parties.
It’s also important to read the fine print when it comes to acquisitions, making sure that any non-competes or other clauses don’t prevent you from doing what you want to do. It’s also a good idea to make sure you have the most accurate information possible in your sales agreement, something required to sell your business officially. Working with an attorney and/or a personal financial advisor is helpful (if not required) here.
Employee Stock Ownership Plan: Do you plan on transitioning to an employee stock ownership plan, or ESOP? There are some tax benefits to this strategy, since an ESOP can pretax future corporate earnings to buy shares from an owner, and sellers can potentially defer taxation on the gains, depending on the type of corporation.
The business also receives numerous tax benefits, again depending on the type of corporation. The way it usually works is that business owners sell all or some of their shares to an ESOP trust, which owns those shares on behalf of the employees. This way, jobs are protected (not a given in an acquisition) and the seller ensures that their business won’t be dismantled. Read more about how ESOPs work in this handy flowchart here.
Make a Gift to the Next Generation: Let’s say you want to give your business to someone, maybe a child or a family member. This is a wonderful gift, but it’s important inform the IRS as to who is currently running the business, as well as understand that this sort of gratuitous transfer is taxable to the donor by either estate or gift tax.
The gift tax applies if the gift is made while the donor is alive, and the estate tax is if the transfer happens after the donor’s death. The implications of this, and the reason why planning ahead is important, is because it’s often a good idea to transition the business over time to minimize your expenses and tax burden. Read more about the tax consequences of gifting a business here.
This isn’t an exhaustive list, but these are a few of the common options for “exiting” your business. The strategy will depend on your retirement needs, the value and type of your business, and your hopes for the company’s future. Choose wisely and plan early for optimal results.
Questions? Comments? Want to learn more about choosing an exit strategy for your business? Call us or set up an appointment with a member of our team—we’d be happy to help.
Leonard has been assisting family-owned and closely held businesses and their owners for more than 30 years. He specializes in providing tax, business and exit planning services.
Leonard is managing partner/shareholder in Hancock & Dana P.C.
Tags: business exit strategy, ESOP, exit strategy, M&A, succession planning