by Intuitive Digital | Jul 11, 2013 | Advice
We’ve seen the problems that arise when business owners die unexpectedly. Today we’ll spare the owner a premature demise and see what happens when he or she acquires a severe disability instead.
The third vignette of Business Killers opens with a group of employees sitting around a conference table in a troubling discussion. The owner and founder of the company has had a disability for some time, and no one knows when or if he is coming back to work. Sales are down because the owner is the primary rainmaker and client relationship manager, thus the company is struggling with reduced cash flow. No one knows who is supposed to take the reins and key employees are beginning to look for other options in case the business fails.
Failure to plan for absence of owner can result in asset loss
Human capital is often the greatest asset of a business and the impact of losing high performing employees cannot be overstated. In small- to mid-sized companies, the owner typically provides the greatest leadership, vision, and in many cases, sales for the company. Failure to plan for a temporary – or permanent – absence of an owner or other key player can compromise valuable business relationships and may be the death knell for a business lacking resources to ride out the storm.
Avoid loss of business and employees with these two Plans:
1) Disability insurance to provide needed funds to avoid drawing down cash reserves
2) A written emergency succession plan to address short term or unplanned absences of the owner or other major contributors to the business
According to Mark Baker, another Business Killers team member, disability insurance can help replace after-tax income and may also provide benefits to pay ongoing overhead costs of the business. It also can be used to provide funding to pay for an interim CEO or other temporary staffing so that the company can continue operations.
Lump-Sum Payout Option
Some policies also have a lump-sum payout option similar to a death benefit on a life insurance policy which may be used to buy out an owner’s interest if the disability is permanent and he or she can’t return to the company. Emergency or short term contingency planning – which usually requires cross-training or cash reserves to hire replacement employees – is essential to make sure that the company can survive a temporary loss of key personnel.
by Intuitive Digital | Jul 9, 2013 | Advice
Ben Franklin famously said that the only certain things in life are death and taxes. As we continue exploring the perils depicted in the Business Killers educational program, we’ll see what happens when a business owner doesn’t spend enough time planning for the second part of Franklin’s maxim before the first one occurs.
A widow meets with a lawyer and her two adult children shortly after her husband’s funeral. The news is grim. The children get half of the family business, but due to a lack of estate planning, they now owe $5 million in estate taxes based on the value of the company. Due to the loss of the company founder, the value of the business has dropped, so it may be much more difficult for the family to get a loan to pay the taxes. Although there is some life insurance, it isn’t enough to cover the tax liability. Regardless, the benefits are payable only to the widow, who now owns the other half of the company. Worse, there is no written succession plan for the business, and the two children are already jostling for control of the business.
In this case, taxes are a big part of the problem. Although a spouse gets their portion of an inheritance tax-free, children, friends, or business partners do not. The so-called “death tax” comes in two forms: federal and state. The federal estate tax applies to estates valued at more than $5,250,000. But many states are not so generous. Oregon’s estate tax applies to estates valued at more than $1,000,000. And while many people might think that sounds like a lot of money, consider that your estate includes not just the value of your business, but your home, retirement accounts, investments, and life insurance proceeds, as well as your other personal property.
In this case, the larger issue actually involves the lack of succession planning. By not designating someone to take control of the business, the deceased owner has created a leadership vacuum and a looming power struggle as family members and remaining employees argue about the fate of the embattled company.
Running a successful business is time-consuming, and as Lisa Brumm, a member of the Business Killers team of professionals often says, estate and business succession planning when you’re young and healthy has all the appeal of cleaning out the garage on the first sunny weekend of the year. But failure to plan is planning to fail, and it is incumbent on the founder of a company to take necessary steps not only to preserve the value of the company but to spell out intentions for ownership, control, and leadership for the next generation in a written succession plan.
by Intuitive Digital | Jul 4, 2013 | Advice
As promised, the next six posts will focus on Business Killers, an innovative educational program designed to help business owners avoid key mistakes that even successful business owners make.
In the first Business Killers scenario, a recently widowed mother of three young children meets with her deceased husband’s surviving business partner. After a few pleasantries, she gets down to business. She’s got a mortgage and kids to deal with, but her husband didn’t leave her much money because most of his wealth was tied up in the business. Worse, the buy-sell agreement – a contract between business owners that sets the rules for valuing the business and often provides for life insurance to fund a buyout after the death of an owner – in place at the time of his death was undervalued. Thus, the widow is getting less insurance money than the current market value of her late husband’s share of the business. The business partner is sympathetic but says that he can’t give her anything more without selling the business, and admits that the company hadn’t updated the buy-sell agreement for the past 10 years. The widow shrugs and says she’s hiring a lawyer because she knows the business is worth more than what she’s getting.
Like all of the Business Killers scenarios, failure to know the value of your company results from failure to plan and its close friend procrastination. When a business owner dies, there are several issues to analyze, each with potentially disastrous results for the business and the surviving owner.
First, we need to know if a buy-sell agreement was ever prepared. If not, there will be a claim by the deceased owner’s estate against the business for the fair market value of the deceased owner’s share of the business. That means lawyers (hopefully no guns) and money. And even if the remaining owner and the estate avoid litigation by agreeing on the value of the business there is the problem of paying for the decedent’s share when the company has just lost an owner and the corresponding value that he or she brought to the business.
If a buy-sell agreement was signed, we still need to analyze whether it is valid. Was it properly signed? Do the valuation provisions make sense? Are there ambiguous terms that result in different outcomes depending on their interpretation? Again, the legal team and potentially costly lawsuits await.
Even if a valid buy-sell agreement exists, we need to know if it was properly funded. That’s the problem depicted in the scenario above where the two partners never updated the value of the business (and therefore the amount of life insurance proceeds that would be available if one of them died).
Most companies choose life insurance as a cost-effective funding mechanism for a buy-sell agreement, but owners can also set aside money in a reserve fund. Either way, it’s critical to know the true market value of the company to ensure that enough funds are available to buy out an owner’s share of the company, especially if the buyout comes at an unexpected or inconvenient time.
by Intuitive Digital | Jul 2, 2013 | Advice
Author Simon Sinek encourages businesses to “Start with Why” – meaning that a business must understand the reason for a particular product or service – to better focus its marketing and sales efforts. The same thinking applies to blogs. Except that I managed to skip that step, as my friend Steve Bergman recently pointed out in his typically incisive style.
Steve asked: why publish a blog solely on selling a business when business sales are a relatively small part of my law practice? It’s a fair question. Here’s my best answer.
For most business owners, the biggest check they will receive in their lifetime will be from the sale of their business. A successful sale of a business represents the realization of wealth created over time through a combination of vision, ingenuity, and effort. But not all existing businesses (or owners) have this happy ending. Many will simply shut their doors and have a fire sale of assets due to a lack of interested buyers. Adding to this, an unprecedented number of businesses will be going on the market as the Baby Boomer generation retires, meaning dramatically increased competition and a long term buyer’s market.
My blog, Selling Your Business for More, educates business owners about how to plan for a successful sale of their business in a tough market, whether the sale is in the near future or on a distant horizon. Understanding good “fiscal fitness” and the mistakes that can devastate a business helps today’s business owners protect their biggest asset and maximize the ultimate sale value. To that end, the next series of posts will focus on “Business Killers,” an innovative educational program that demonstrates how to avoid six common problems that can spell disaster for even successful businesses.
In addition, this blog helps me connect with existing and prospective clients and lets them know that I am available to help with all necessary legal documents when they are ready to sell their business. The blog also reminds owners that selling a business is a group effort, and that it’s never too early to begin cultivating relationships with tax advisors, business brokers, estate planners, business valuation experts, and financial planners who all work as a team when it’s time to sell.
Steve, I hope that helps answer your question. And thanks for reminding me to start with why.
