Exit Planning – The 6 Step Process

According to Gary Ford and Connie Bird, authors of "Life is Sales", three common attributes of successful people are initiative, persistence and assertiveness.  It is these qualities that drive entrepreneurs to build successful organizations and it is these qualities that empower business owners to prepare for a voluntary or involuntary sale of their businesses through an exit plan.

To develop an effective exit plan the following 6 step process must be undertaken:

	Step	Brief Description
1.	Goals Assessment 	Identify business, personal and family goals Provides a frame of reference for the entire plan
2.	Financial Needs Assessment	Quantify how much is needed (from the sale of the business) to achieve the goals Considerations include annual spending, expected rates of return, inflation, life expectancy, etc.
3.	Business Valuation	Obtain a current business valuation – at least 3 to 5 years prior to exit Identify and implement measures to increase business value before exit
4.	Exit Option Analysis	Assess the advantages and disadvantages of each exit option  Identify which exit option(s) will best accomplish the goals
5.	Net Proceeds Analysis	Calculate net proceeds to be received under each exit option based on various value/sale price assumptions
6.	Action Plan	Identify and prioritize specific tasks to be undertaken  Assign responsibility to individuals and identify timing of each task Schedule regular meetings (e.g. quarterly) with those accountable to ensure progress

The exit planning process is a comprehensive process that addresses the business, personal, financial, legal and tax issues that are involved in exiting from a privately owned business.  When it comes to exit planning, business owners ultimately have three choices: (a) do nothing; (b) prepare the plan themselves; or (c) seek professional assistance.

To ensure an efficient process, business owners should give serious thought to the above noted steps before seeking professional assistance.  A team of professional advisors can provide real value throughout the exit planning process.  According to "RBC Business Succession Planning: Your Essential Road Map", assistance from many of the following professionals may be required at some point in the process:

• Family business advisor
• Chartered accountant
• Lawyer (corporate, tax, estate)
• Business valuator
• Insurance / financial advisor
• Commercial banker
• Business broker
• Investment advisor / wealth manager

Knowing when to call upon experienced professionals to ensure that the plan is technically sound and will meet the identified goals is critical.

Over the next 6 weeks, I will discuss in greater detail each of the above noted 6 steps to developing an effective exit plan, highlighting how and when specific professional advisors can assist.

Developing an Exit Plan – The Benefits

All privately held business owners will one day exit their business.  The exit will be voluntary (at a time of the business owner’s choosing) or it will be involuntary (due to burnout, illness, disability, marital problems or death).  An exit strategy is needed to ensure a voluntary exit.  A contingency plan is needed to be prepared for an involuntary exit.  Either way - a plan is needed!

The largest transfer of private wealth in history will occur over the coming decade.  Some estimates have this transfer at $10 trillion in the U.S. and $1.3 trillion in Canada.  The increasing supply of businesses for sale will create a buyer’s market, in which buyers will only pay top dollar for the most attractive businesses.

In a Newport Partners survey of more than 100 Canadian business sellers, 62% recommended methodically pre-planning the sale of a business two to three years in advance.  Business owners that come to market unprepared will likely sell for a discount, potentially significant, to those that have invested the time and effort to prepare for sale.

Developing an exit plan provides a tremendous return on investment.  Some of the major benefits of having an exit strategy include: 

1. Maximize business value, saleability and price;
2. Minimize taxes paid on sale of business;
3. Regain control over how and when the exit occurs;
4. Ensure business and personal goals are achieved;
5. Minimize stress and conflict among the business owner, employees and family; and
6. Ensure continuity of the business.

Despite these benefits, many business owners avoid the topic of retirement, succession or exit planning.  Recent studies have indicated that less than 25% of Canadian business sellers actually took the time to pre-plan the sale of their business.  Why is this the case? According to the CIBC/RBC Business Monitor (Q1 2010), the biggest succession planning challenges for business owners included:

1. Getting the appropriate value for the business;
2. Not ready to give up control or management;
3. Finding the right successor and successor financing;
4. Too complex and too many issues to deal with;
5. Not enough time; and
6. The family’s role in the succession;

It’s no surprise that there are many challenges and obstacles to developing and implementing an effective exit plan.  However, the benefits far outweigh the costs and there are resources for business owners to turn to for assistance.

In the coming weeks I will continue to share valuable information on the topic of exit planning, including the 6 steps to an effective exit plan and the professional resources that are available to assist business owners in this process.

Business Plans Are Not Just For Start-Ups

This week I want to discuss something vital to businesses at every stage of their life cycle – Business Plans.

Most people recognize the importance of business plans for start-up companies.  However, business plans are equally important for established businesses operating in high growth, mature or declining industries.  Studies show that business plans increase the odds of business growth and raising capital.  Without a business plan the chances of success are greatly diminished and the likelihood of a catastrophic failure is increased.

Here are 6 reasons why all companies should have a business plan:

1. Raising capital - dealing with the concerns of lenders and outside investors (e.g. how much money is required, how it will be used, how it will help achieve the company’s goals, how much risk is associated with investing in or lending to this business, etc.)
2. Increasing the likelihood of success – studies show that failure rates for start-ups is between 30% and 50% within the first few years - a major reason why start-ups (and established companies) fail is lack of adequate planning
3. Measuring success – the business plan defines what success means to an organization by setting out the company’s goals and objectives (financial and non-financial) – actual performance can be compared to the plan and achievements can be celebrated
4. Providing direction for management – a successful business requires a cohesive management team where each member knows his/her role and responsibilities, understands how that fits in with the overall goals of the organization and is accountable to each other for achieving those goals
5. Decision making – better quality information leads to better business decisions. A thoroughly written and well researched business plan will arm the owners and management with the knowledge to make better decisions
6. Documenting forecast achievement – proving to future lenders, investors and potential purchasers that management has the skill and ability to plan, implement and achieve a growth plan – this lowers a company’s risk profile and increases its value  

The business plan is a comprehensive and dynamic document that should be revisited annually and include the following sections:

1. Executive summary
2. Business overview (including vision, objectives, ownership structure)
3. SWOT analysis (strengths, weaknesses, opportunities and threats)
4. Products and/or services (including any proprietary technology)
5. Economic and industry review (including market research)
6. Operational plan (including management team and human resources)
7. Marketing strategy
8. Financial plan (start-up costs, capital needs, financial projections)
9. Exit strategy

Revisiting and revising the business plan annually is necessary for dealing with changes in the company’s direction, strategy, market and ownership.  An exit strategy for the existing shareholders should be incorporated into the business plan, particularly for established businesses.

Join me next week as I begin a series of entries dedicated to the various issues surrounding the development of an effective exit strategy for business owners.

BV Benefit #10 - Executor / Trustee Protection

Executors of an estate with business interests should obtain an independent professional business valuation as support for the values used in the estate administration tax ("EAT") filing, particularly in light of recent changes to EAT legislation and the potential for personal liability facing executors.

At the time of probating the will, EAT (previously known as "probate fees") of 0.5% must be paid on the first $50,000 of estate assets and 1.5% on the value of the remaining assets. [1]  The estate representative (i.e. executor or trustee) has many responsibilities, including but not limited to:

1. Filing an affidavit as to the estimated value of the estate;


2. Remitting the EAT on the estimated value; and


3. Providing an undertaking to file, within six months, a sworn statement of the total value of the estate, and to pay the balance of any additional tax owing (if any).

In 2011, the Ontario government amended the legislation to enhance the EAT compliance regime.  Beginning January 1, 2013, the Ontario Minister of Revenue will be afforded significant audit and verification functions, including the right to conduct a review of the estate inventory and valuation provided by the executor.  If a greater estate value is determined, additional taxes can be assessed.  As a result, there will be much more pressure to verify the value of the assets disclosed in the EAT filing.

Penalties have been added to encourage compliance.  It will be an offence for an estate trustee to fail to make the required filing with the Minister of Revenue.  It will also be an offence for any person who makes, or assists in making, a false or misleading statement in connection with the estate trustee’s filing.  Offences are punishable by fine, by imprisonment or both.  The minimum fine will be $1,000.  The maximum fine will be twice the EAT payable.

An estate representative may be exposed to personal liability if the estate assets have been distributed before the Minister of Revenue issues a notice of assessment.  There is no ability to obtain a "clearance certificate" to protect the estate representative from personal liability.

In light of the responsibilities of the estate representative, the new audit measures, and the potential for personal liability, it will be critical for executors to be diligent in obtaining and documenting proper and accurate valuations of the deceased’s property for purposes of calculating the EAT.  Where the estate holds shares in privately held businesses, the benefits of obtaining an independent and professional business valuation will far outweigh the costs to the estate and the risk to the executor of not having one prepared.

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[1] source: www.attorneygeneral.jus.gov.on.ca

BV Benefit #9 - Matrimonial Separation

According to Statistics Canada, over 40% of marriages will end in divorce before the 50th year of marriage. [1]   Where there is a family business or where one spouse has an ownership interest in a privately held company, there may be a need for an independent business valuation in a matrimonial separation.

The division of property is a major issue in a divorce.  According to the Ontario Ministry of the Attorney General: [2]

"When a marriage ends, the equal contribution of each person to the marriage is recognized.  The law provides that the value of any kind of property that was acquired by a spouse during the marriage and still exists at separation must be divided equally between the spouses. Also, any increase in the value of property owned by a spouse at the date of marriage must be shared.  The payment that may be owed to one of the spouses in order to effect this sharing is called an equalization payment, or an equalization of net family property."

As such, upon separation, a net family property (NFP) statement is prepared setting out the value of the total assets and liabilities of each spouse as at the date of marriage and the separation date.  In order to assist in this regard, family law lawyers will often turn to financial professionals for assistance.  Privately held business interests (i.e. shares, stock options, restricted stock, etc.) constitute property, the value of which must be included in the NFP statement. The assistance of a Chartered Business Valuator will likely be needed where there are business interests and the parties cannot mutually agree on the value of the those interests as at the marriage date or the separation date.

Depending on many factors, including the chosen separation process (i.e. collaborative, mediation, litigation, etc.), the parties may agree to jointly retain one independent business valuator to value the business interests.  One party, however, may opt to individually retain an independent business valuator.  The other party will then retain a separate independent business valuator to review, critique and respond to the other expert’s report.  This, however, can be a costly process.

Where an established business exists at the time of marriage, the parties may elect to jointly obtain an independent business valuation at that time.  Full disclosure and agreement on value up front will eliminate the need for a retroactive marriage date valuation in the event of a future breakdown.

In matrimonial disputes there is often an immediate need for a business valuation. However, shareholders may find that obtaining annual valuation updates for purposes of the shareholder agreement can also be very useful in the event of a marital breakdown.

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[1]  Source: www5.statcan.gc.ca, CANSIM Table 101-6511
[2]  Source: www.attorneygeneral.jus.gov.on.ca

BV Benefit #8 - Shareholder Disputes

Business owners typically do not require an independent business valuation every year.  Or do they?

In shareholder disputes there is often an immediate need for a business valuation.  However, being proactive and obtaining an annual valuation can help to avoid a potential shareholder dispute.

Business ownership can be complicated, particularly when there are a number of shareholders.  The odds of disagreement, conflict and dispute in these situations can be very high.  When shareholder relationships break down there should be a mechanism in place for dealing with the dispute or for enabling one or more of the shareholders to exit the business in a pre-determined manner.

Shareholder disputes are often grueling and devastating.  They can be costly and very time consuming.  The shareholders become distracted and ultimately exhausted from preparing for and attending discoveries, meetings with lawyers and experts, settlement negotiations and arbitration or court proceedings.  Relationships are destroyed and ultimately the business suffers because the shareholders are no longer devoting sufficient time and attention to managing the company’s operations.

The importance of a unanimous shareholder agreement ("USA") to privately held businesses cannot be over emphasized. An effective USA should address the following areas: i) compensation; ii) decision making; iii) entrance; iv) exit; and v) return on investment.

Having a business valuation is critical for new shareholders to buy-in and for existing shareholders to measure their return on investment or to exit the business.  Privately held company shares are illiquid assets.  The USA should provide a shareholder, under certain situations or triggering events, with the means to liquidate an otherwise illiquid asset.  For example, a buy-sell provision (or "shotgun" clause) allows for one shareholder to offer to buy the shares of another shareholder subject to the right of the other shareholder either: i) accepting that offer; or ii) buying the shares of the offering shareholder at the same price offered by that shareholder.

With respect to valuation, the USA should provide the definition of value (e.g. fair market value or fair value) and set out the process and timing for obtaining a valuation.  Many USAs stipulate that an annual or biennial valuation of the business should be prepared by an independent Chartered Business Valuator.

Committing to this process allows the shareholders to discuss and agree to the current value of the business before any potential disagreements arise.  In the event of a dispute, the valuation issue will have already been dealt with.  The return on investment of an independent and annual valuation can be tremendous if it means avoiding a costly, time-consuming and perhaps devastating shareholder dispute down the road.

BV Benefit #7 - Life Insurance Coverage

Many business owners utilize life insurance as an integral part of their exit and contingency planning.  Without life insurance the overall family wealth management plan may be incomplete.

Life insurance is often used for income replacement or to alleviate the burden of estate and probate taxes upon death.  However, when business owners use life insurance to fund a buyout or redemption of the shares of a deceased shareholder it is important to ensure that the death benefit will be adequate to:

1. Fund the buyout or redemption of the deceased shareholder’s shares (Buy/Sell Insurance); and


2. Ensure the continued survival of the business upon the loss of a key person in the business (Key Person Insurance).

As a result, the life insurance coverage should at least cover the current value of the business.  Privately held business owners spend significant time managing and building their businesses.  When asked, however, many grossly overestimate or underestimate the value of their business.

An independent business valuation provides business owners with third party evidence for ensuring adequate life insurance coverage.  This in turn provides the shareholders with peace of mind and comfort that they and their businesses are sufficiently protected.

Not only is an independent business valuation useful to the insured, it can also be beneficial to the insurance advisor.  An independent valuation will help the advisor:

1. Manage and control the process in creating the application file - insurance companies are increasingly requiring support for the amount of coverage requested; and
 
2. Solidify trust and cultivate the relationship with the client - providing the insured with third party evidence regarding the value of their business eliminates any pre-conceived notions the client may have with respect to being over sold or under estimated as far as coverage. 

The business valuation can be updated annually or semi-annually and can also be used as a benchmark for a value enhancement initiative, among many other possible uses and benefits.   The adequacy of the life insurance coverage should be reviewed annually in light of any growth or other changes to the business over the prior year.  Ideally, this process should be agreed to and formalized in the company’s shareholders agreement, which for many business owners, may not exist or may not have been updated for many years.

The importance of a shareholders agreement can not be overemphasized.   Next week we turn our attention to the need for an independent business valuation in shareholder disputes.