As a wealth advisor you likely understand that every business has a life cycle. For most privately held businesses, that cycle is tied to the life of the owner. At some point for one reason or another, every business owner must face the fact that their business, as they know it, will cease to exist.
In parts one and two of this four-part series I laid out the challenges facing business-builder clients that advisors who take the initiative to add value to a client’s company can help them increase profits, lifestyle and their level of happiness almost immediately, and offered some tips on how to get the exit planning ball rolling. In this installment, we’ll discuss dealing with one of the most common impediments to a successful transition: your client.
Advisors have reported that when they begin their planning process it’s common for even the most seemingly economically successful client’s current plan to fall short of their anticipated GPS coordinates.
One prevailing view is that the reason current planning doesn’t match with reality is that many business owners want to transition to the next generation—especially if they themselves are a second or third-generation owner. In this light, business continuity is akin to adding railroad cars to a train. The challenge is that to maintain the railroad, the train must be kept in good operating condition, the tracks cleared and certain critical events must happen, at times sequentially and with precision. Otherwise, the train can go off the track.
One advisor we interviewed spoke of a client with a $200 million business that was seeking to transition to the next generation. Years earlier, when the first intergenerational transition took place, the company was only worth $18 million. Currently, the family members who lead the company are fixated on repeating their parents’ steps for inter-generational transfer. Before they began exit planning, they hadn’t realized that the transition between their father’s generation and themselves was no longer replicable.
All too often, an exit planner needs to find effective ways to help clients understand that the dynamics at play today are fundamentally different than those of the past. To that end, another advisor recounted a recent meeting with the elderly founder of a business who viewed things very differently than the younger generation.
Often, the lifestyles of the owners are dependent on the continuation of a high level of cash flow. Business builders acknowledge that they often need to increase capital reserves, but if the second-generation transfers ownership to their children, there often isn’t enough cash flow to pay everybody an amount that they are accustomed to receiving. Equally challenging is that when profits are heavily allocated to the generation that is transferring their interests, the business is restricted in its ability to diversify and grow. All of which limits the business value and can significantly reduce the ultimate sales value for a subsequent generation.
Even after 35 years of advising clients, arriving at a point where a $60 million business can’t transition to the next generation without severely impeding its value can be a painful conversation for an advisor to have with a client. But in my experience, it may be the most important conversation to have.
Family Matters
Many years ago, I had a breakthrough. I discovered that it is often necessary to help high-net-worth families understand that what they have built is more than just a business; that they have created a certain lifestyle for themselves that encompasses shared wealth and a shared vision. Understanding that it’s a client’s family that remains at the fulcrum of activity is essential to a shared belief system that what you have created is more than an individual business. In a real sense, a multi-generational business becomes a self-sustaining enterprise.
One way for you to empower a client’s family is to help them develop the vision and mission that want to accomplish. It should be motivating for each subsequent generation to understand that even if the founder of the business has long since passed, they remain part of an enterprising family. That they have capabilities, such seeding capital to form new businesses or to buy other businesses. In speaking with dozens of exit planners, my experience is that most successful family businesses have never even had that conversation.
As one would envision, the sale of a business will often trigger a cascade of emotions for family members. Expert advisors recognize that there are a variety of conversations that need to take place with their clients. There’s a cadence that occurs in undergoing such conversations.
The knowledge which is developed during the exit planning process is not static—it will evolve. It is not mathematically formulaic, such as a set of dominoes whose pattern of events depends materially, functionally and logically on the past.
Leading advisors uniformly suggest that best practices incorporate a routinized, systematic process to identify a litany of key areas to be explored and understood. You as a business owner should recognize that each component of the process is uniquely important.
Seeking Truth
Sean Hutchinson is a partner at RFN Global with a CEPA and CMAA background. He posits that what is most essential for business builders who are looking to transition is “clarity.” He believes that many successful business owners are overwhelmed by a wide spectrum of data. To mitigate the overload, Sean suggests that business owners narrow their transition focus to the things that matter the most to them.
Clients may contemplate business sales for years, with nary a thought about what matters most to successfully achieve their goals. A powerful role for a client’s exit planning advisor is to help them see through the noise to gain clarity on the strategic business assets they have and, on those that are missing, including resources, information, and conversations that need to be had.
As Sean and his teammates work with a multi-generational family business, they often discover that what gets in the way of clarity is a series of what he calls “missing conversations.” These conversations can be uncomfortable to hold. It’s not uncommon for business owners to do what many of us do during our own lives—they push the difficult conversation off, and in doing so, the problem gets worse and the issue remains dormant until it later erupts, causing potentially irrevocable damage.
A thoughtful advisor needs to develop finely-honed skills that enable them to identify those missing conversations and then help the owner, their families and their management teams have those conversations. As he states, “it’s only through those conversations that legitimate, durable clarity emerges for the owner and the other stakeholders in their business and personal lives.”
In retrospect, it’s not uncommon for business owners and management teams to talk about what exit planners call “the easy stuff.” These are discussions that center on revenue and earnings, or getting the books in order, instead of discussing big strategy questions like how a cohesive leadership team shows up in the business. Sean says “leaders ‘bring the weather’ and increases in enterprise value are directly linked to the strength of the executive management team.”
It’s also possible that as a client’s business grows, it outgrows its current leadership team—which may include the client! Without change, enterprise value can decrease—it is a crucial issue to address, and clients should work with an experienced exit planner/value growth advisor who is skilled enough to encourage thoughtful and incremental change that ultimately benefits them. To get to the next level client may need to replace themselves with a more experienced CEO or COO. As their trusted advisor need be able to address this road block with your client if it arises. The intersection of these challenging issues and a willingness to put ego aside and seek truth in a way that empowers your client can be one of the most challenging—yet defining moments in their life as a business builder.
As we’ve seen, exit planning may be better described as “transition planning,” not simply because of what happens after the sale, but in part because the planning per se demands that your client and their leadership team transition from a pre-sale mindset to new ways of thinking, and often includes undertaking new activities.
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