Business valuation is not an exact science and depends substantially on the type of business and assets you have. There are many expert business valuators who can help you nail down a value when you’re ready to pass over the reigns. However, having at least a sense of the value that you are building in your business is important.
You know that your business is worth at least the fair market value of the assets minus the payout value of the liabilities. If you have been working to systematize and grow your business, it will be worth substantially more. Undervaluing your business can have serious consequences on your retirement lifestyle, so it pays to do your homework and get professional help.
Getting ready for the sale
There are many things that you will have to do before putting any exit strategy in place, especially if you will be selling to outside buyers.
The first thing that you need to do is to assemble your team of experts. This will most likely include your accountant, lawyer, financial planner, and perhaps a business valuator and broker. Make sure that all parties know your goals for the buy out and that they are all working in tandem to meet those goals. Your accountant will help you to steer through all of your choices surrounding how to structure the sale and how to take payment. There will be practical decisions as well as taxation implications. Your lawyer will help you to structure the legal side of the sale and will help you interpret offers as they come in. Your financial planner will look at your post-business goals and will help you determine what income level you will need in order to maintain your desired lifestyle (margaritas can get expensive!).
Your accountant will most likely recommend that you prepare some financial information for the pending sale. Much like a real estate broker would suggest to you that you put a fresh coat of paint on your house and maybe plant some flowers outside before bringing buyers through, your accountant will recommend that you show potential buyers of your business what it might look like once they take over. You will have run your business in a way that suited you. You may have had the goal of minimizing tax or employing your family. These decisions might not be made the same way by the new owner. Your accountant will get you to normalize your financial statements; in other words, recast them without all of the discretionary activity. If your spouse is on the payroll, remove the expense related to that. If you pay yourself high dividends, restate the financials without them. Keep in mind, however, that you need to be up front with potential buyers about the changes you have made and how those statements differ from ones you have prepared for taxation purposes.
The mechanics of the sale
A sale can happen in one of two basic ways: either through the sale of assets or the sale of shares.
If your business is unincorporated, you will be selling the assets of the business. The buyer may choose to take on some or all of the business’s liabilities rather than coming up with a lot of cash up front. Your lawyer will ensure that your name is removed from those liabilities so that creditors cannot come after you later if the new owner stops paying them.
If you own a corporation, you can either sell the assets of the business or the shares of the corporation. Each has its own tax consequences and your accountant will help you weigh the pros and cons of each. If you are passing on your business to your children, there are many sophisticated ways to transfer shares and your accountant will advise you on the various methods. You may choose to structure the arrangement, for example, so that you are still a shareholder (albeit one who no longer works in the business) and will receive a monthly income for the rest of your life in the form of dividends.
Once you and a buyer agree on the nature of the sale, you must decide how you will receive the funds: either all up front or over time. Again, tax considerations come in to play here, but you must also consider the risk of financing part of the sale. If, for example, you agree to receive $50,000 up front and $5,000 a month for 12 months, you are betting the farm on the fact that the new owner will still be in business a year from now. What if he or she runs the business into the ground? Or declares bankruptcy? You will lose some or all of the sales proceeds and may find yourself having to start up another business rather than lying on the beach. Your lawyer can help mitigate some of that risk through the structuring of the agreement.
Once the business has been sold, financial planning becomes a key issue, especially if you plan to retire. You are now dealing with a fixed amount of funds (which can grow through prudent investing) and you and your financial planner will have to make sure those funds plus your other sources of savings will last you for the rest of your life and be able to provide you the retirement lifestyle of your dreams.