Will Your Goals Be Thwarted by These Excuses?

All business owners exit their business eventually.  Planning is critical if you want to ensure a successful transfer of your business - whether that transfer be internal (i.e. to another shareholder, a management group or the next generation) or external (i.e. to an independent third party).

According to a recent CFIB study, less than 10% of business owners have a formal written plan, 40% have an informal plan and over 50% have no plan whatsoever. [1]  Why have so many business owners avoided planning their exit?  

Does this include you and, if so, what is holding you back?  Here are the top 5 excuses that prevent business owners from beginning their exit planning:

Excuse #1: It’s too early for me to plan for succession

Fact: It is never too early.  Planning should begin at least 3 to 5 years prior to exit because there are many issues that require time to adequately address.  Identifying your exit option early (e.g. internal or external) is extremely important.  Identifying how much you will need financially when you exit is critical.  Allowing sufficient time to enhance the value of your business and ensure proper tax plans and structures are in place to minimize tax on the transfer before exit is also vital.  Beginning your planning early could mean the difference between success and failure.  

Excuse #2: I’m too busy 

Fact: You are never too busy to do that which is important - it’s a matter of prioritization.  If ensuring a successful transition to the next generation or maximizing your net proceeds on the sale to a third party is important to you then you will make time for the planning that is necessary to ensure these goals are achieved.  If you are truly serious about meeting your transition goals and understand the importance of planning then you will make it a priority.   

Excuse #3: It’s too complicated and I don’t know where to begin 

Fact: It can be complicated but that has not stopped others from starting their exit planning.  There are many helpful resources out there.  Reach out to experts to assist you through the process.  Do some research and speak with colleagues and/or other business owners that have been through the process successfully.  Surround yourself with positive and supportive people.  Look for a professional advisor with exit planning credentials and experience to guide you through the process and involve the specialists where and when needed. 

Excuse #4:  It’s too expensive

Fact: Exit planning is an investment that should form part of your “wealth management” budget.  You pay professionals to “manage” your portfolio of publicly traded securities.  According to The One Percent Solution, privately held business owners should invest 1% to 2% of the value of their business each year on exit planning initiatives (e.g. business valuation, value enhancement initiatives, life insurance, tax and estate planning, etc.) [2]  This investment will pay off in the form of a higher business value (or price received) and less taxes paid, resulting in more money in your pocket - not to mention the decrease in stress knowing that your affairs are in order.  

Excuse #5 – I don’t want to think about leaving my business

Fact: You may not want to think about leaving your business but you will leave your business one day.  The departure from your business will be voluntary at at time of your choosing or it will be involuntary as a result of your death, disability, disaster, divorce or disagreement.  Would you rather exit your business on your terms or have your family deal with your unexpected forced exit?  Who will run the business?  Will it be salable?  Will it be dissolved?  Will there be taxes to pay?  Start planning now so you can choose while you still have the control to make a choice.     

If you would like to sell your business within the next 5 years, you have a tremendous opportunity to sell for a significant premium - provided you conduct the proper planning!  Those business owners that ignore planning could end up selling for a significant discount or face liquidation altogether.

Are you part of the 50% of business owners that have no plan whatsoever?  If so, what is holding you back?  Join me next time when we address how to overcome what is holding you back.

1. Source: CFIB Research Report November 2012 “Passing on the Business to the Next Generation”

2. Source: The One Percent Solution, Z. Christopher Mercer, 2007.

6 Ways to Profit From Your Vacation

Summer may be the perfect time to increase the value of your company.  The most valuable businesses are the ones that can survive without their owner.  A buyer will pay a premium for a company that can operate effectively without the owner’s presence and likely require a steep discount for a business that is dependent on its owner. 

This summer, consider taking an extended break from your business to see how things will run when you are not around.  It is likely that some things will go wrong, but use those errors as feedback for making your business operate more independently of you, and therefore more valuable.  

Here is a six-step plan for profiting from your vacation time this summer:

Step 1: Schedule your vacation plus one day

Whatever day you plan to start working again after your holiday, tell your staff you’ll be back one day later.  That way, you’ll have a full day of uninterrupted time to dedicate to understanding what went wrong in your absence.

Step 2: Log the mistakes

When you return, make a summary of the things that went wrong and categorize them into one of three buckets:

• Mistakes: errors where there is a right and wrong answer;
• Bottlenecks: projects that had difficulties because you weren’t there to provide your feedback;
• Stalled projects: initiatives that went nowhere while you were gone because you’re the person leading them.

Step 3: Correct the mistakes

The first and easiest place to start is to simply correct the mistakes that were made.  Usually mistakes are due to a lack of training rather than outright negligence.  The right answer may be crystal clear in your head but not immediately obvious to your staff.  Write up some instructions for next time the employees face the same situation.  Make sure your instructions are clear, and share them with your team so everyone has them.

Step 4: Unblock your bottlenecks

If you are being asked for your personal input on projects, there’s probably going to be a bottleneck if you are not around.  Make sure your staff is clear on the projects where you need to have a say and the projects where you don’t.  Some employees may wrongly think that you need to approve all decisions.  Make it clear when you want them to act alone and when you still need to be involved.

Step 5:  Re-assign stalled projects

The hardest part of making your business less dependent on you is dealing with projects that get stalled when you are away.  Start by asking yourself if you are the right person to lead the project in the first place.  As the owner of your business, projects often fall in your lap by default, rather than because you are the best person to lead them.  Categorize your stalled projects into two groups: a) strategic projects that you need to lead; and b) non-strategic projects you are leading by default.  Hang on to the strategic projects, but delegate the non-strategic projects to someone on your team who is better suited to drive them forward. 

Step 6: Give your employees authorization

At Ritz Carlton Hotels, every employee has discretion to spend up to $2,000 on a guest, without approval from their general manager.  The $2,000 figure is a large enough number to make the message clear: front line employees should act first, make the customer happy, and ask questions later.  Many employees know how to make a customer happy but lack the confidence to act.  Giving employees some spending authority will speed up the resolution of customer issues and empower your team to do the right thing when you’re not there. 

The sunshine is beckoning, so go ahead and take a vacation – if you follow the six steps here, you may end up with a tan and a more valuable company. 

Estate Executors – How to Increase Your Protection and Minimize Your Risk

The executor 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 executor liability.

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:

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 business valuation will far outweigh the costs to the estate and the risk to the executor of not having one prepared.

Contact us at jason@vspltd.ca or www.vspltd.ca for an independent business valuation if you want to minimize your risk and increase your protection as an estate executor.

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

Business Valuations to Support Life Insurance Coverage

We were recently contacted by the Inspection Department of an independent service provider to the Canadian life and health insurance industry with respect to one of our clients.  They were gathering information to assist in the underwriting process and wanted independent evidence supporting the client’s claim as to the value of the business as part of their inspection process.  Our client asked us to provide a copy of the independent business valuation we had prepared for purposes of their estate planning and life insurance.  

We have been providing independent business valuations to help business owners determine an appropriate amount of coverage for many years.  This was the first time, however, that we were contacted by a representative of the insurance company.  It may be that independent business valuations are becoming a more formal part of the underwriting process.

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 what may be 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 and many business owners 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 that their families and their businesses are sufficiently protected.  

An independent business valuation is also helpful to the insurance advisor as it will help:

1. Manage and control the process in creating the application file - insurance companies and their risk advisors 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 should also be updated periodically as the adequacy of the life insurance coverage should be reviewed in light of any growth or other changes to the business over the prior years.  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.

Life insurance is an integral part of estate and contingency planning for business owners.  If you are in the process of obtaining life insurance or reviewing your current coverage, contact us at jason@vspltd.ca or www.vspltd.ca to assist with your business valuation needs.

Supporting Valuations in Tax and Estate Planning

30% to 40% of business owners are planning to transfer their business internally to another shareholder, management, employees or family member. [1]  One option for those planning to transfer the business to the next generation over time is through an estate freeze.

In an estate freeze the business owner’s common shares are exchanged for preferred shares of equal value to the common shares.  New common shares are then issued by the company to the next generation family members.  This allows the business owner to “freeze” his/her unrealized gain in the corporation on a tax-deferred basis, with any future growth in value of the company accruing to the children.  As a result, the business owner can estimate and plan for the future tax liability, perhaps with life insurance.

Under an estate freeze the fair market value of the common shares must be established.  According to the CRA, the fair market value must be determined “by a fair and reasonable method”. [2]  If not, CRA will likely challenge the validity of the transaction alleging that a benefit had been received by a shareholder who acquired property from a corporation at less than fair market value.

In the event of a potential dispute with the CRA, price adjustment clauses (PACs) are sometimes used to retroactively adjust the fair market value to avoid the “conferral of benefit” problem.  Unfortunately, a PAC may not help if a fair and reasonable valuation attempt was not initially conducted.  

In Guilder News Co. (1963) Ltd. et. al. v. M.N.R., 73 DTC 5048 (FCA), the Court rejected the PAC as a basis for adjusting the price and eliminating the benefit on the grounds that the parties had not reasonably attempted in good faith to transact at fair market value.  Other recent case law involving PACs include St. Michael Trust Corp. v. Canada (2010 FCA 309, affirming Garron, 2009 TCC 450) and Krauss v. Canada (2010 FCA 284, affirming 2009 TCC 597).  Potential implications of not having a fair and reasonable valuation to the business owner include additional taxes, interest and penalties.

An independent valuation prepared by a qualified business valuator can provide a fair and reasonable basis for the fair market value used in an estate freeze, essentially acting as insurance for potential disputes with the CRA.  Inadequate fair market value assessments can give rise to unfortunate tax consequences as well as costly and time-consuming litigation, not only with the CRA but also with the advisors. 

Other tax and estate planning mechanisms involving the transfer of assets or shares to a related party could include business incorporations, corporate restructuring, share reorganizations or family trusts.  In order to take advantage of tax deferrals, these transfers typically must occur at fair market value.  You will be well served and protected by involving and retaining an independent business valuator to assist you with the fair market value determinations.

If you are considering an internal transfer, contact us at jason@vspltd.ca or www.vspltd.ca to assist with your business valuation needs.

1.  Sources: 2007 RBC Study - Quantitative Study of the Business Succession Market in Canada and CICA/RBC Business Monitor (Q1 2010).

2.  Source: CRA’s Interpretation Bulletin IT-169.

Business Valuation Helps Facilitate an Internal Transfer of a Business

According to recent studies on the business succession market in Canada, between approximately 30% and 40% of business owners surveyed are expecting to transfer their business internally to other shareholders, management, employees or a family member.

If you are planning to one day sell your business to an internal party, an independent business valuation can be very beneficial for managing value expectations and ultimately facilitating the transfer of the business at a fair and reasonable price.

It is extremely important for all parties involved in an internal transfer to agree on the current fair market value of the business, to ensure a smooth ownership transfer.  The current fair market value can be used to set the price for the transaction in situations where the purchaser acquires the departing shareholder’s shares or situations involving share redemptions by the company.

In his best-selling book on protecting family wealth, “Every Family’s Business”, Tom Deans suggests that all business owners should arrange for an updated annual valuation of the business.  One of the 12 steps in Tom’s annual checklist for family businesses (referred to as the Wealth Protection Blueprint) states that business owners should:

“… arrange for an updated valuation of the business and calculate whether there is appropriate insurance in place to ensure that estate taxes will not impair the ability of the company to function in the event of the owner’s death.”

Tom then discusses the implications of not obtaining a valuation prior to an internal transfer.  There can be serious repercussions to the business and to family members if the company is transferred to the next generation for an amount that is less than or greater than the actual fair market value of the business, particularly when the transaction was financed with debt.

An independent business valuation will help set a reasonable price, one that is fair to all parties, to facilitate the transfer of all or a portion of the equity to other shareholders, management, employees or a family member.  Having an independent expert business valuator explain the valuation process, approach and assumptions will help ensure that all parties are satisfied that a fair and reasonable deal was struck.

The business valuation can also be used for contingency planning to help protect the business and the business owner’s family in the event of an unplanned involuntary transfer due to death, disability, divorce, distress or disagreement.

If you are considering an internal transfer, contact us at jason@vspltd.ca or www.vspltd.ca to assist with your business valuation needs.

1.  Sources: 2007 RBC Study - Quantitative Study of the Business Succession Market in Canada and CICA/RBC Business Monitor (Q1 2010).

6 Ways a Business Valuation Prepares You for an External Sale

According to studies on business succession in Canada, more than one third of those surveyed are expecting to sell their business externally to a third party. [1]

"We should remember that good fortune often happens when opportunity meets with preparation."

― Thomas A. Edison

Business owners looking to sell their business to an external third party should take note.  There is tremendous opportunity to sell for a significant premium because many business owners are not properly preparing.  The preparation for this begins with a business valuation and solid value enhancement plan.  The good fortune comes in the form of a sale of the business for the maximum possible price.

  

For many business owners the sale of their business is a once in a lifetime event and, without proper education, many will either grossly overestimate or underestimate the value of their business.  If you plan to sell your business to an external party one day, obtaining an independent business valuation is an investment that will pay for itself many times over.  Here are 6 reasons why:

1. An independent valuation helps to manage the business owner’s pricing expectations which increases the likelihood of getting a deal done;

2. A professional valuation helps to justify the asking price and provides support for negotiating the price with a potential purchaser;

3. An independent valuation prepares the business owner for any unsolicited offers received from competitors or other industry participants;

4. The valuation process can help identify potential purchasers or purchaser categories;

5. The valuation process educates the business owner regarding “stand-alone value” and “synergistic value” and the notion that strategic purchasers are often willing to pay more than “stand-alone value”; and

6. A valuation ultimately helps the business owner maximize the sale price, ensuring no money is left on the table.

Many business owners looking to sell their businesses will not take advantage of opportunities in the current marketplace through proper planning, including a professional business valuation.  On the other hand, those that are prepared with a professional valuation and keen sense of market timing will vastly increase their odds of good fortune.

If you are considering an external sale, contact us at jason@vspltd.ca or www.vspltd.ca to start your preparations with an independent business valuation.

1.  Sources: 2007 RBC Study - Quantitative Study of the Business Succession Market in Canada and CICA/RBC Business Monitor (Q1 2010).