By Maurie Cashman
Transferring your company to insiders was a topic we began last week and will complete with this discussion. Last week, we began a discussion about issues that owners should consider before deciding to move forward on a transfer of their companies to insiders:
- Learn About the Transfer to Insiders
- Test Your Assumption
- Make No More Promises
- Consider Age of KEG Members
â€œDon’t be afraid of the space between your dreams and reality. If you can dream it, you can make it so.”
–Belva Davis, American journalist and feminist
Letâ€™s look at additional issues that you should consider.
Examine Your Risk Tolerance
Do you want to reduce your exposure to risk as you transition ownership? Many owners decide that the KEGâ€™s privilege of purchasing the companyâ€™s stock at a bargain price, should be balanced by increasing the risk that the KEG bears. You might transfer risk to your buyers by having the KEG use its money for down payment for an initial stock purchase. You could also structure the transition so that personal collateral is pledged as security for any installment note. Finally, you might transfer significant risk if the KEG can obtain a bank loan for the entire initial purchase.
Examine Your Successorâ€™s Risk Tolerance
Many owners I work with are concerned with how much risk they want their successor to assume. They are interested in assuring that their company survives and that their successor remain as the owner.
But consider these points: Are you willing to look exclusively to the future cash flow of the purchased stock for payment, rather than to your successorsâ€™ other assets? Most owners want their successors to bear some of the risk of business performance. They may believe that employee owners only become true owners when they are exposed to risk.
Understand the Need for Low Value
Do you understand the need for a low business value when transferring to insiders? While many have trouble with this method of transfer, it is precisely the tool owners can use to maximize the money they receive while minimizing the risk of non-payment. If you are planning a transfer to an insider, developing a projection or model of future cash flow as the buyout begins and after your departure is far more important than the actual valuation. To be paid, you need to reap future business cash flow. Developing the lowest defensible value on your company helps you to avoid excess taxation and maximizes the cash you receive from the transfer. It also acts as a powerful motivator for employees to grow the value of the business.
Think About Your Timeframe
If one of your objectives is to leave your company immediately, a transfer to employees or children has considerable risk. If you can wait to be completely cashed out, a well-designed exit plan can make that happen over a period of years. Using a longer timeframe not only reduces your risk of not being paid, it allows you time to continually evaluate each new owner to determine which employees are suitable for ownership before you transfer control. You may also want to structure the buyout so that you can sell to a third party should someone show up with a wheelbarrow of cash in the right denominations before you have transferred controlling interest. You may also want to preserve the option of keeping a piece of ownership as a â€œkickerâ€ if you think the company is going to continue to perform well.
Talk about these issues with your business advisors to determine whether a sale to insiders is the best ownership transition path for you. If you have questions about any of the issues raised, give us a call and we can discuss it.