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Growing a successful business plan: How to protect your biggest asset

Donald K. DeJonge Published on 29 October 2012

With the uncertainty of today’s stock market, business owners would rather put their hard-earned money into assets they can physically see and feel, such as land, cows or diversified crops. As a result, the majority of business owners’ assets are tied up in their business. If this holds true to your situation, do you have a solid succession plan?

All business owners leave their businesses eventually. Whether the plan is to transfer assets to the next generation of actively involved family members, sell your business to a group of key employees or you end up having to deal with the unexpected (death or disability, for example) that prevents you from running your company – you need to be prepared.



Your business is one of your biggest assets and you need to protect it. How can you facilitate the transfer according to your wishes, minimize eventual estate taxes and maximize assets, all while maintaining stability?

If these things are not properly addressed, the business you have spent a lifetime building could face bankruptcy, loss of key employees, loss of value/market share and fighting among family members and employees.

I recently held an Ag Estate and Business Succession Forum at the International Ag Center in Tulare, California. Afterwards, I was approached by Sue and Charlie, who wanted to develop a succession plan for their closely held business, which has no family member interested in taking it over.

Additionally, they had no wish to sell it to a competitor or outside third party. The ultimate goal is to make sure the company continues on for years to come, providing steady paychecks for the 50 employees who have become like “family” to the owners.

Design a plan
Whether the business is sold to an unrelated third party or stays in the family, there are many items that need to be addressed:


• Who will own the company (in part or whole)?
• Who will manage it?
• How will this affect employees?
• What triggers your plan?
• How is the business valued?
• How is the purchase financed?
• What taxes are triggered in a sale?
• How can taxes be minimized?

These questions will help you design the foundation of your plan.

Who will own the company?
Think about whether ownership will stay in the family, as well as to what degree. What are their goals in owning the company? If a family member will not run the business, who will?

Possible options:
• A key person in the business or group of key people
• An outside third party, possibly a competitor
• Bring in outside management (this last option will most likely take the longest transition period for proper training)

Gather and analyze data
A large amount of “good” information is needed to build your succession plan.

• Financial statements on cash flow, assets and liabilities should be prepared by an independent accountant.


• A list of personal financial needs, including how much you want or need to maintain your lifestyle in retirement.

• Job descriptions and responsibilities of employees, including that of your successor. Establish a training plan for your successor. This will help the transition go as smooth as possible. If the successor is coming from inside the company, who will replace that person? Multiple transitions could occur. You can be prepared with a good training plan and clear expectations.

Flexibility of planning
Strategies can vary widely depending on the type of business and the assets involved in the transaction. The sale of a sole proprietorship is much different than the sale of a corporation or partnership. The tax consequences of a sale should be heavily scrutinized before a decision is made.

It is always important to consult with your financial adviser, certified public accountant (CPA) and attorney on these matters so you can make a decision based on all the information available.

Valuation of the business
Before a sale or transfer of your business can happen, a proper valuation is needed from a qualified appraiser.

• Book value is based on an evaluation of the balance sheet. This technique will require future appraisals.

• Simply fix the sale price and use qualified independent appraisals. Because many estates are seeking appraisals before the end of the year to lock in current estate tax rates, it may be difficult to find an appraiser quickly. Don’t wait until December if you want something done by the end of the year.

• Another option is to fix the price by capitalizing on the net income.

Using a combination of these methods is often used to determine your company’s values and is highly recommended.

The buy-sell
A proper buy-sell agreement between two or more parties obligates one party to buy and the other to sell upon triggering events. A “good” buy-sell will outline a predetermined price or formula for achieving the price. It will also define ownership within the succession plan.

Another critical and often overlooked part of the buy-sell is whether it is “funded” or “unfunded.” All too often, these agreements are put into place and the actual funding is overlooked. This is why setting up a sinking fund or using insurance to “fund” the buy-sell is very important.

Having a buyer who has no money to buy your business at the end of the day is like owning a dairy with no place to ship your milk – eventually you will have to dump it at a less- than-desirable price.

There are different types of buy-sell agreements. This is where your financial adviser and attorney can talk with you about the advantages and disadvantages of each agreement and find the one that best fits your situation.

Types of buy-sell agreements include:
1. Cross purchase
2. Entity purchase
3. Unilateral buy-out plan
4. Wait-and-see buy-sell plan
5. Escrowed buy-sell plan
6. Disability buy-out plan

Keep in mind that a purchase can happen all at once or over a period of time. Make sure IRS guidelines are met for arms-length transactions to help reduce the chance of IRS objections to the agreement’s stipulated price and tax liability.

Estate planning considerations
It is important to consider estate planning issues throughout the business succession process as well – but don’t get so hung up on certain tax issues that you lose sight of the ultimate goal. Plans need to be communicated to all parties involved. No one wants to be limited in options or have an unpleasant surprise for their heirs.

Any business interest you own is included in your estate and may be subject to estate taxes. A “funded” buy-sell agreement can help generate liquid sale proceeds to help the estate pay any taxes and other costs that may arise.

Sue and Charlie
In Sue and Charlie’s situation, they were able to identify four key individuals in the company that were key to the ongoing success of the business and who had interest in owning a piece of the company they have been working to build. These people know how the company operates, the transitional period should be minimal and the impact on the company limited.

We developed an entity purchase buy-sell agreement between the four key individuals and Sue and Charlie. We then funded the buy-sell by putting in place a life insurance policy insuring the lives of Sue and Charlie.

When the dust settles
So what happens at the end of the day? The four key employees stay at the business and receive matched savings for retirement or an eventual buy-out. Upon Sue and Charlie’s death, the life insurance proceeds are used to buy stock interest from their estate.

The four key employees now own the company outright, ensuring proper management and success of the business while Sue and Charlie’s estate has cash from the sale of the business. These funds can be used to pay estate taxes or divide amongst their beneficiaries.

Having the right financial plan in place is essential for growing your business’ long-term success, both while you are running it and while you are not. You have worked hard to build and grow your business; do the same when it is time to pass it on. Creating a solid plan ensures both your family’s and company’s financial success. PD

Donald DeJonge is a financial adviser with Northwestern Mutual in Visalia, California. Northwestern Mutual is the marketing name for The Northwestern Mutual Life Insurance Company (NM), Milwaukee, Wisconsin, its affiliates and subsidiaries. Click here to view his website.