Oftentimes, the owner of a privately-held company invests years – if not decades – in building a successful business. Quite naturally, then, when it comes time to transition ownership of the company, most business owners want to take steps to ensure that, regardless of the method of ownership transition that is implemented, the business is set on a path toward continued success.
In order to reach this goal, it is important to understand that transition takes time. If the process is started early, the business owner will have more options available and will increase the likelihood of a successful transition. On the other hand, if the owner waits to plan – or plans too late – the business owner may end up settling for a solution that is less than ideal. As the ol’ saying goes, “If you fail to plan, you are planning to fail.”
In our experience, two of the most important components of the ownership transition planning process are proper development of the company’s management team and building a strong company culture. The strength of the management team and the degree to which employees are engaged and motivated to help the company succeed can affect the overall business value and the outcome of your ownership transition.
Companies who embrace the concept of teaching employees to think and act like owners enable their current owner to delegate responsibilities, thus beginning the ownership transition process. Imagine the possibilities if everyone in your organization was fully engaged and had a vested interest in its success—if each person was as excited and energized as you are to have the company reach its fullest potential.
With proper planning, there are several ownership transition alternatives available to consider:
- Transition of ownership to a family member
- Sale of the business to a third party (strategic buyers, financial buyers, whole or partial sale)
- Management buyout (“MBO”)
- Sale to employees through an Employee Stock Ownership Plan (“ESOP”)
- Leveraged recapitalization
- Combination of two or more of the above options
All of these alternatives impact the ownership of the company in very different ways. Additionally, each has its own possibilities and limitations. The alternative that is right for your company can only be determined after careful analysis of factors such as management depth and the company’s culture, as well as the following:
- Financing – What sources of financing are available? Does a planned successor have the cash to purchase the company?
- Third-party Salability – Does the nature of your business lend itself to an acquisition or third-party sale?
- Level of Uniqueness – How unique is your business and/or industry? Does its success depend on the talents of your managers or employees?
- Value Expectations – What do you think your company is worth? What is it really worth? Do you need immediate or long-term liquidity?
- Risk – What is your risk comfort level? Do you expect the value of your company to increase or decrease over time?
A successful exit strategy will take all of these factors – and more – into consideration. The right choice can only be made after carefully weighing the pros and cons of each alternative as well as addressing your company’s overall structure to determine which is best. It is also important to remember that a combination of alternatives may be used to accomplish the objectives of the owner and the company. For example, a business owner might opt to sell a portion of his or her business to key members of management and a portion to an ESOP. Such a transition may occur in stages to ensure family control during the initial years.
Also, an exit strategy isn’t set in stone – it can develop and change over time. For example, you can sell your business to an ESOP, but that doesn’t stop you from selling to a third-party at a later date if you receive an offer that simply can’t be refused.
By planning well in advance, you’ll not only have more options available to you and your company, but you’ll also have the flexibility to modify your exit strategy as needed – and as a result, peace of mind in knowing that the future of your business is well taken care of.
Also, no matter which path you choose, if you have built a company with management depth and empowered employees who have a culture of supporting the business they helped create, you can expect the path to ownership transition to be a success.
Employee Ownership Resources
Shaun McGehee is a Director at Prairie Capital Advisors, Inc. He can be contacted at 630.413.5579 or by email: firstname.lastname@example.org.