A Solid Plan

A Solid Plan

Call in the experts to prepare for transferring company ownership.

by Jerry Davich

Grant DeNormandie never dreamed of transferring ownership of his beloved business after investing more than a half-century of love, sweat and tears into it. At age 72, he is just now undergoing the arduous process of a business succession plan as owner of DeNormandie Towel & Linen Supply Co., as well as Dustcatchers Inc.

The four-generation, family-owned business rents and launders entrance and logo mats to businesses in Northwest Indiana and the Chicago area. His biggest concern as a small business owner with 15 employees is contending against large national corporations in this highly competitive market. To counter this disadvantage, he's transferring ownership to his wife, Kathy, who's been involved in the business for seven years.

“We hope to certify the business as female-owned after the succession, to make it more competitive,” says DeNormandie, who lives near Lakes of the Four Seasons. “We have some large customers who can give us substantially more business if she qualifies.”

Kathy made it possible for her husband to retire by learning the business and serving as its CEO for the past three years. “I never imagined passing ownership on to her until recently,” DeNormandie says.

Though this husband-wife situation may be uncommon, it's all too common for business owners to put off a succession plan, and for many reasons. Finding the right successor, getting finances in order, assessing the firm's market value and arranging the best team of advisors to pull it off, among other concerns. “One of the hardest things to do for any business owner or entrepreneur is give up control,” says Larry Mackowiak from Crowe Horwath LLP, a public accounting and consulting firm in South Bend. “It's often their name on the shingle and they want to leave a legacy.” Not to mention the hard-wired human nature component to avoid thinking–and therefore planning–for life after employment.

“The older the business owner, the more they start caring about this issue and planning accordingly,” says Terry McMahon, owner of McMahon & Associates, a CPA firm in Munster. “After so many years of running a company, it can be very hard for some owners to wake up the next Monday morning and not have any office to go to.”

Business succession planning goes hand in hand with estate planning, including wills and trusts that too often get ignored until the last minute. “Many of these people are first-generation owners who have a very strong entrepreneurial streak. They think they're never going to leave their company,” says George W. Carberry, managing partner at Burke Costanza & Carberry LLP, attorneys at law, in Valparaiso. “They also feel a genuine responsibility for their employees, some who've been with them for decades.”

With that said, there are proven strategies to pull off a profitable and enduring business succession plan, these experts agree. First, prioritize what's most important in your situation, Carberry advises. Is it providing for your family? Maintaining your company's profitability? Providing for your retirement? Ensuring your firm's reputation or your personal integrity? “Take a personal examination of your situation and then go from there,” he says.

Mackowiak, who has 32 years of experience in the business, suggests choosing a “quarterback” to huddle together the right team of attorneys, accountants, investment advisors and life insurance experts. Then make a playbook to work from, starting with finances.

“Keep in mind that no succession plan in the world will work if you don't make money with your business,” Mackowiak points out. Locating a buyer can be an initial challenge, in addition to later negotiating the best price and terms from the transaction. “Consider the pool of potential buyers,” says Gregory R. Ward, a CPA with Swartz, Retson & Co. in Merrillville.

“An internal sale to an employee may help ensure that your business continues to operate in the future,” he says. “You might be able to transition the business by selling small ownership interests to an employee over time. This is the best situation if you plan to keep control of the company until you plan to retire.” An internal sale also takes the most planning and time investment, as it could take several years to identify and transition the business to that employee, Ward notes.

“However, selling to a competitor, vendor or customer may get you a better price than an internal sale since this type of buyer may be willing to pay more for the synergies your business would create when incorporating it with their operations,” he says. McMahon, with 40 years of experience under his money belt, says too many business owners set their succession plan as a low priority, and end up paying for it later. Attorneys, advisors and CPA firms make their most money from business owners who don't plan ahead, he says.

“For the small or medium-sized business, it's a real challenge to be successful these days, and finding the right person to transfer this success can also be a challenge,” he says. “The dollar amounts can be different, with lesser tax implications, but most owners have the same feelings about their company's future.”

Carberry routinely focuses his clients on what's best for their family and employees, many who have become extended family members.” Still, the business of life often stalls the entire process,” he says. Preparation in advance is key, even years ahead of time.

“Start looking into succession planning a minimum of five years before you hope to retire,” Ward suggests. “Think about your desired price and terms you would require as part of a sales transaction.”

Also, think about your company's financial statements from a buyer's perspective.

“Would you want to buy a company that has a trend of declining revenue and profit?” he asks. “Make the business attractive to a potential buyer by creating value for your company. The main value driver of an operating business is its earnings.”

Follow these tips: Improve your earnings by eliminating unnecessary costs; diversify your business by reducing dependence on a few large customers; don't micromanage every part of your business; and consider building up a management team which will make it easier to transition the company when you retire, Ward says.

Mackowiak recommends adding to this checklist your “vision of ownership,” such as the percentage of future control, if any. And look for any red flags during the process, such as any key personnel who may be jumping ship.

“Don't forget what we call the big red truck theory,” warns Mackowiak, whose clients' assets range from $1 million to $1 billion.

What if the owner gets struck and killed by a big red truck? Will the company survive? Will the transition process continue? Are any contingency plans available?

There are two sides involved in this laborious planning process. The soft side, meaning personal emotions, family ties and a “psychological inventory,” as Carberry calls it. And the “technical side,” meaning dollars and cents, tax rules and government regulations.

Speaking of which, it's important to hire an independent valuation advisor, and ask if you should consider “gifting” assets to family members before the transfer takes place.

One of Carberry's clients is a woman who owns a mom-and-pop business with hopes of passing it down to her son. “Fortunately, their child has the right skills and talents to keep the business going long after his parents retire or expire,” Carberry says.

Transferring ownership to an employee group is more common than ever, but it's also more complicated, meaning additional homework needs to be done, he says. A forensic audit is not needed as long as a reputable accounting firm is hired.

Some owners first hire a CPA firm to get the ball rolling, while others hire an attorney firm. Regardless, their mutual expertise is needed for insights into the latest state and federal regulations, as well as ever-changing tax rules.

Beforehand, improving the quality of financial statements is crucial, experts agree. “Consider having them reviewed or audited by a CPA firm,” Ward says. “This may reduce risk from the buyer's perspective.”

Hidden speed bumps and potholes along the route to a successful transition include pension plan options, unfunded liabilities and tax ramifications. Look into the fine-print details behind each one, and explore their multiple options.

“For businesses with multiple owners, make sure there is a buy-sell agreement in place,” Ward says. “If the company has a buy-sell agreement, review it to ensure the information is current, it addresses key issues and is not vaguely written. A buy-sell agreement that relies on a formula to set the price of the business may value it significantly different from its market value.” For example, Ward is working with a business owner who has been approached by a supplier to purchase his company.

“The owner is nearing retirement, but would like to work and retain control of his company for a few more years,” he says. The value of the business represents a significant part of the owner's retirement wealth, and the purchaser will likely have the owner work in the business after the sale to assist in the transition of the owner's knowledge and relationships. This is a common aspect of most succession plans.

“Although the owner had originally planned to retain control of the company and work for a few more years, this may be his best opportunity to realize the value of his company and fund his retirement,” Ward says.

Many exiting owners view their business as another child in their family, one who has been given daily care and nurturing for decades. “Despite all the business aspects to this issue, it's a very personal decision,” McMahon says.