A transition strategy, sometimes also referred to as an exit strategy, is an opportunity for owners to make certain that their business transitions in ways that best realize their personal goals and priorities. There are many options available besides simply selling the business outright, but whatever strategy you may choose, it’s important to realize that the longer you wait to decide and implement, the fewer options you will likely have and the less likely you will be to receive full value.
Any particular strategy will operate in its own time frame but, generally speaking, there are three main tiers in the timing of transition strategies:
You will see that timing is extremely important and that there is an inverse relationship between how much time in advance you prepare for the transition of your business and how much value you are able to get out of it. The narrowing of options and diminishing of value produced by putting off decisions is what we call the Procrastination Funnel.
The “craigslist.com” Tier
The website craigslist is the most popular tool for individuals who want to sell their used cars. It may take some time, a few days to a few weeks, but there is a reward. According to the Kelley Blue Book, the average used car sells for $2000 more when sold to a private party instead of a car dealership. That’s a considerable amount of money, enough to make you wonder why anyone would choose to sell a car any other way.
The key is planning in advance, knowing the value of the asset and making sure one has the luxury of time to wait until its value is recognized by someone else. But unexpected events happen in life – more often than we might like – and they can create a lot of trouble, especially when unforeseen circumstances force us to make extremely important decisions at a moment’s notice.
This is why a well-thought-out transition strategy is so important. The more you plan in advance, the more options you will have and the more value you will realize once your strategy is implemented. For instance, there are some transition strategies that will necessarily take years to implement, like transferring ownership through ESOPs or passing the baton to your children.
An ESOP (Employee Stock Options Plan) is a transition strategy where you set up a fund with your employees – similar to, but not the same as, a 401k – to purchase your portion of the business. You effectively sell your company to your employees by harvesting a periodic percentage of their salaries. This is a complex and time-consuming transition strategy since it might take more than ten years for the accumulated savings of your team to completely buy you out. But you know the company is in good hands and the ESOP payments might represent an attractive annuity.
According to a study published by the professional services firm PricewaterhouseCoopers, 41% of all family-owned businesses intend to pass ownership and management to the next generation. But passing the baton can be a very difficult process. Mixing business and family requires much sensitivity and wisdom. These are some of the steps in the process:
These are just two examples of very time-consuming transition strategies, strategies impossible to implement in less than a year. But, like the car owner who knows what the car is worth and takes the time to field offers on craigslist.com, the business owner who sets priorities and invests the time up front will more likely realize the values (including the non-monetary ones) s/he seeks.
The “Car Dealership” Tier
The average waiting time to sell a $5,000-$12,000 car on craigslist is about 1-2 weeks. Walk into a dealership and you can walk out a few hours later with the cash (or another car). But remember that you’ve effectively paid an average of $2000 for the convenience of not waiting that week or so. The same concept applies to transition strategies. The less time you invest in planning the process, the more likely you are to surrender value because your options have narrowed.
If your situation requires a transition strategy that can be accomplished within a year, two possibilities are an MBO or a merger:
An MBO – Management Buy Out – is a transition strategy in which you sell your business to your management team. You trust them; they’re the people most likely to be capable of running your company with a minimum of difficulty in transition. However, your management team may not have the funds on hand to buy you out and might need extended time to raise the necessary resources. Also, sometimes a management team will need professional guidance in making the transition from their role as employees to their new role as business owners. The specialized website www.mboguide.com suggests that it usually takes at least six months to successfully complete an MBO.
Another possibility is a merger with another business, a process that requires not only wooing and winning a suitable match for your company, but also drafting a mutually satisfactory pre-nuptial agreement. A merger can take anything from six to nine months to consummate, assuming there are no complicating factors, like an applicable antitrust law.
Again, the more time-consuming options like an ESOP or passing the baton to the next generation are not available if you need to complete your transition strategy within a year.
The “Pawn Shop” Tier
In an episode of the History Channel’s Pawn Stars a lady arrives with a spider brooch for which she’s asking $2,000. She needs the money now. The manager examines the piece and offers her $15,000 – she has brought in an original Fabergé. The lady is thrilled to leave the shop with much more cash than she expected. Unfortunately for her, the actual market value of the brooch was closer to $80,000. The lady surrendered almost 80% of the retail value of the jewelry because she was in a bind to raise cash and hadn’t taken the time to find out what she had.
This is the danger you face if you have neglected to make plans and circumstances force you to unload your business in a hurry. You may even find yourself losing your business entirely and not receive a penny for it.
Think about your situation and how much your business depends on your presence to function well. Now imagine that something happens to you. An accident or a disease keeps you away from work for some months. Are your employees ready for your absence?
Most businesses are not ready for such an event. The company that depends so much on you cannot perform as well and you may end up with no alternative to putting it up for sale. Unfortunately, your business will have much less value if the key person – you – is not at the steering wheel. It might be worth no more than the value of your assets minus the debt you have on the books, way less than you may have had in mind, or what was the case while you were there running things.
You will have backed yourself into having to take your company to a pawn shop.
If you have to implement a transition strategy in a hurry you will have left yourself very few options. Most common is the sell-off of your company’s individual assets – liquidation. No one knows better than you that the business running smoothly is worth much more than the sum of its individual assets. You definitely never want to liquidate your business. You want to transition it.
The more you plan in advance, the more options you have. The more you plan in advance, the more control you will be able to exercise over the fate of your business. This transition will likely be once-in-a-lifetime. Since the majority of your wealth is tied to your business, you have little margin for error.
Do not get trapped in the Procrastination Funnel. Seize the reins of your company’s future. Begin planning right now how to transition your business so you reap the most value from it on your terms.
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