If you are the typical private company business owner, then 80-90 percent of your wealth is locked up in the value of your business. Harvesting that illiquid wealth may be one of the most complex transactions an owner will face. Understanding the options available is a critical step in achieving your financial goals.
A study of business owners by the Exit Planning Institute indicates that although 75 percent of business owners intend to transition over the next ten years (with 50 percent expected in the next five years), almost two-thirds are not familiar with all of their transition options.
There are two general categories for a private ownership transition: 1) an inside transition; or 2) an outside exit.
An inside transition comprises the following types:
- Intergenerational transfer where there is a transfer of the stock of the business to heirs, usually the children
- Management buyout where the owner sells all or a part of the company to the management team
- Sale to existing partners, which is closely linked to existence and quality of a buy-sell agreement
- Sale to employees, often accomplished through an ESOP
Conversely, an outside exit comprises:
- Sale to a third party, which may include a strategic buyer, financial buyer, or private equity group
- Recapitalization or refinance whereby a lender or equity investor acts as an investor in the business
- Initial public offering, which is not likely in the current economic environment except for certain elite companies
- Orderly liquidation in which the business is shut down through a simple, quick process.
There are significant advantages and disadvantages to each option, and exit is not a bad four letter word. Unfortunately, many business owners wind up leaving money on the table because they are focused on income generation, rather than enterprise value. Regardless of the ultimate transition plan, income doesn’t automatically translate to value. Since half of all exits are not voluntary, the key to a successful transition is planning for the event and developing and executing a strategic business, financial, and personal plan to build, harvest, and preserve family wealth for generations to come.
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