At some point in their careers, successful business owners start asking questions about the future. “Should I sell the business? Should I give it to my kids? If I got run over by a truck tomorrow, who would run the store?” Whether they know it or not, these owners have begun the process of succession (or transition) planning.
Relatively few owners do transition planning well. As author Andrew J. Sherman noted, “As few as 20% of all small and closely-held businesses in the U.S. have a formal succession or transition plan currently in place.” Not surprisingly, only 35% of family businesses survive past the first generation of ownership, and only 20% survive to the 3rd generation. A company with a good transition plan is much more likely to survive and prosper than one without.
Financial advisors enjoy numerous benefits by helping business owners develop transition plans. Legendary bank robber Willie Sutton once said when asked why he robbed banks, “Because that is where the money is.” Advisors should master transition planning because it leads to money in motion.
This article makes two main points. First, since the successful owners most valuable asset is usually the business, it is pointless to plan without knowing what the owners business is worth. Second, providing an appraisal not only insures an accurate plan, it often places the advisor in charge of “money in motion” and can lead to insurance, investment, and other product sales.
Business Owners Need Business Valuations
Before business owners can do transition planning, they must know the value of the businesses they have built. As Andrew Sherman noted, “It is nearly impossible to develop an effective transition plan if you do not know the true value of the business.”
Yet most often transition plans for business owners are based on the owners own (many times inaccurate) notion of their business value. From my experience, I can say that while owners think they have a pretty good idea what their companies are worth, the fact is most overstate or understate value by at least 25%. Furthermore, 15% of the time, owners will be off by over 100%!
Once the owner knows the value of the business, transition planning becomes much easier. For example, if a business is judged to be worth $100,000, then it probably would be unwise to spend $20,000 on legal, accounting, insurance, and other professional fees in the course of building the transition plan.
On the other hand if a business is worth $5 million, a comprehensive transition planning approach is both appropriate and suitable.
Most transition planners are not experienced business appraisers, so they should partner with a reputable business appraiser, whether it is a local accounting firm or a national appraisal specialist.
Choose your partner wisely because youll enjoy more success if your partner is experienced, credible, and sells attractively priced products. Get an idea on how many companies your partner has valued, and which ones. Be wary of firms whose valuations aren’t used by the IRS.