Thinking about exiting your business? Here’s what you need to know?
There comes a time with many businesses, especially those that are owner / managed, where the owner thinks about exiting. In this article we will explore some of the ways this can be achieved.
Some family businesses may be in the fortunate position to be able to pass down the business ownership / management to a younger family member. This way the business continues and there’s a chance that other family members can benefit, while still offering the possibility of providing a lucrative income for the current family member owner - likely a parent, for their retirement. For others though, that luxury may not exist and the business owner, deciding that the time is right to step back, is forced to look at the options they have to exit the business.
You’ll note that we didn’t say close the business down. While that is a last resort many may follow, other options exist, and these may be more beneficial if they are possible to achieve. The key issue here is to be planning early enough and not deciding one day to get out and then seek quick alternatives to closing the business.
When planning a business exit, what do you want to achieve?
While this may sound like a silly question, it’s important to get your expectations right. Ultimately, what do you want from this business exit? The four most common reasons are to:
- Pass on the business to somebody you trust, like a family member.
- Sell the business for a decent return.
- Merge the business with another firm and eventually walk away.
- Shut the business down and bank any profits that may still exist in the business.
Let’s look at the practical aspects of each of these in turn.
Passing on your business to a family member.
This may appear the most sensible option for many family run businesses, and indeed for many it is. However, this isn’t a step that happens over night. It needs to be planned thoroughly. For one thing, the family member you’re considering for the succession naturally needs to be fully bought in to this plan, else it will come to nothing quickly. It’s normal for company succession to be planed and prepared for some years before the event. This way, the person in question can be fully up to speed in the role, but perhaps more importantly, will have had time to develop the required relationships within the firm, its clients and any supply chain.
If there are multiple ‘suitors’ involved, things can get quite tricky, as each person and their role needs to be defined precisely. If they are not to be involved in the day-to-day operations of the business, but you still want them to benefit from the business, then the type of shares they have will likely differ from those involved in actually day-to-day operations. For instance: shares may be voting or non-voting shares, but the non-voting shares may still have preferential rights to dividends. You will also likely decide on share ownership percentages based on how much a child contributes to the operations of the company (or has done to date) and the seniority of their role. Be prepared though, as these discussions can get quite tricky as emotions and egos get involved, depending on how ‘functional’ your family is. In the short term, if you are concerned, you could always opt to retain a majority of the voting rights. Additionally, you could arrange to be retained as a ‘consultant’ to the business, as this would also enable you to continue to benefit directly through income and boost any earning you may receive through dividends as a smaller shareholder.
Whatever you decide to do though, needs to be recorded and set out either in a shareholders agreement or in revised articles of association.
Selling your business for a profit
If you are the sole owner of a business and don’t have family members to pass the business on to, or simply don’t want to continue the business, selling it maybe the best option for you.
If you have partners in the business, then naturally, this offers a similar opportunity to passing it on to a family member, only here, they would be presented with an opportunity to buy you out or find somebody else to buy you out and take over your role.
Selling your business requires significant preparation, often a year or two in advance. This allows sufficient time to gather the information needed, ensure you have a good set of metrics upon which to base a valuation and also to improve the business’s performance in its last years of ownership by yourself.
So what are the steps you need to take to sell your business?
- Start by getting a professional valuation.
This isn’t something you can really do yourself as personal attachment tends to lead to unrealistic valuations, especially where market dynamics and current business realities are concerned. There are ‘rules-of-thumb’ to help you obtain a view to help set your expectations. For instance, small businesses are often worth between two and five times their annual cashflow, although there are many caveats to this, including its ‘actual’ financial health. However, it’s not just cashflow that will decide whether a business is worth it’s valuation or not. For one thing, new investors / owners, will want to consider how the business will survive if you are no longer driving it, especially if the business is ‘account’ based and those relationships relied upon your presence. - Improve your bottom line.
A business that makes a lot of sales but yields little return is unlikely to be of interest to prospective purchasers. If you are planning an exit by selling your business, you would be best served by focusing the year or two prior to sale on cleaning up your business, reducing unnecessary costs, streamlining processes and systems, and increasing your sales. Essentially, spend what time you have by working to increase your net profit margin. - Provide a solid business view.
As an owner, you’ll no doubt be looking at the business’s past performance. Having a well documented set of accounts dating back 3 to 5 years is essential to providing provenance for the business. However, new owners will be looking at future potential, so one also needs to present a balanced view of how the business could perform, the market forces in play and the expectations you may have. Also, providing information on your clients, within the bounds of confidentiality, will help the prospective purchasers assess value and risk. The interested parties will of course conduct their own due diligence, but it helps to present your own as confidence will receive a considerable boost if both party’s views essentially come to the same conclusions after the due diligence is done. This will significantly help your negotiating position too. - Due diligence on your part.
Many business sales fall through, as many as half of these because of complication that arise through due diligence. It’s therefore to be realistic and it’s important that when you prepare for exit that you spend some time putting yourself in the shoes of a prospective buyer, not just you as the seller. A little on-line research will give you a very good idea as to the process a potential buyer will go through and the questions they will want answering along with the supporting data they will need. - Buyer qualification.
It’s very easy to get excited when somebody becomes interested in buying your company and starts asking questions. However, the phrase ‘seller beware’ is important to consider. Selling a company is a detailed and often frustrating process given the number of ‘hoops’ you will likely be asked to jump through to prove the value and overall potential of the company. It’s important then, to ensure the people asking the questions are:- Genuine and realistically placed to buy and are not simply on an information gathering exercise.
- A good match for your business and have the experience necessary.
- Have the funds available to close the sale and not have to go and seek funding that could ultimately fall through and waste everyone’s time.
- Not fraudsters or con-artists, either trying to trick you out of fees, deposits or vital information.
- Working within a reasonable timeframe, one you can work to without compromising your own due diligence and exit planning. If you are being hurried in to decisions, consider the previous point about fraudsters or time wasters.
- Tax planning.
Without proper guidance and advice, you could wind up loosing a significant portion of the proceeds of a business sale, as it is considered as a capital gain. How much you pay depends on your particular circumstances and inheritance planning. Other considerations an accounting firm like TaxAgility can assist with include whether you qualify for schemes like ‘entrepreneur’s relief’ - now called ‘business assets disposal relief’. - Use a third party business broker.
Unless you have already got potential suitors lined up, this is probably the best way forward. For one thing, you’re likely to get a much more balanced view of the sale potential. A broker can assist with many aspects of the sale, some will handle all of it for you. Of particular importance are aspects such as:- Valuation.
- Due diligence on your part and due diligence throughout the sale process.
- Identifying potential buyers.
- Buyer qualification.
- Negotiation assistance.
Spending the time to prepare your business for sale, is a very sensible step to take. You want your business records, P&L, cashflow and debt position to be as up to date and as clear as possible. Checkout our latest article on how TaxAgility can help you prepare your business for sale and what prospective purchasers will be looking for.
Thinking about selling your business? Here’s how we can help
Merging your business before personally exiting
Another particularly attractive way to exit your business, is to merge your firm with another. This is very popular within the professional services industry. Law firms and accounting practices often experience mergers where a senior partner in a firm merges the firm with another practice. That partner can benefit from the years of developing the business, take equity that’s owed to them and walk away. In reality many scenarios see the partner retained for a period of time to assist with the hand-over and to ease confidence with existing and key staff members (and clients) that the acquiring firm would wish to retain.
Many mergers happen between firms that are known to each other or through brokers that know the parties. Quite often the merger may be the brain child of the partners in two firms that have known each other your years and bring in an experienced broker to help the process along professionally. That said, third party brokers are equally capable of arrange suitable mergers as well as complete acquisitions.
Shutting down the business and banking profits
The last option we will consider here is where an owner of a business just wants to call it quits and get out - where the person doesn’t want the hassle of a merger or acquisition and has no interest on passing on the business. Basically, they just want to sell off any assets they have and bank any cash in the business.
The main issue here is on how the owner can get their hands on the cash in a tax efficient manner. Any cash in the business, often retained earnings or cash gained from the sale of assets, would be taxable if taken directly by the owner.
If the owner simply closed the business and took the cash, that would result in a significant taxable event. Without good tax planning you could lose a significant portion of the proceeds. Closing your business is unlike selling your business, as you are likely the sole owner and simply want to take the cash out of the business.
Your options are somewhat limited but do include the following opportunities:
- Take dividends up to your basic rate tax limit and if you really need the cash, pay a higher rate of tax on the rest as earnings.
- Make a pension contribution. Your company can make a contribution to your personal pension up to £40,000 per year. This is an allowable business expense and so helps reduce your company’s overall tax burden. So, if you are considering an exit of this nature, forward planning can really help, as you could max out on dividends and pension contributions. The main disadvantage of this is that any pension payments made will become inaccessible until the pension is payable and then only in amounts payable through the annuity you purchase (or 25% cash tax free).
For most owners, option 2 with a combination of pension and dividends likely is the most obvious option.
One could also consider not closing the company, minimising all overheads, and have it pay dividends each year. The main draw back with this is that the cash will likely lose value through inflation, as it will remain uninvested and likely to attract poor interest payments. It depends to a high degree on what monetary amounts are involved. You could also consider investing the company’s money, to help increase its longer term value.
Business closing costs
Shutting down a company is not free. You will need to pay an accounting firm (or in some circumstances, an insolvency practitioner) to assist in closing your business properly.
The simplest method, for a solvent company, especially one with a single share holder, is through ‘Company Dissolution’. The company must follow strict guidelines though, including: ensuring all creditors are paid in full, telling HMRC, closing the bank accounts, and having your accountant prepare final accounts. The company must also cease trading three months prior to closure.
There are other closure options depending on the ownership share structure or the company and whether it is solvent or not. These include:
- Member’s voluntary liquidation (MVL) - typically for more complicated share structures where multiple owners / partners are involved. It’s more expensive as you need to involve a licensed insolvency practitioner (IP).
- Creditors’ Voluntary Liquidation (CVL) - used where the companies creditors / shareholders take control of the closure process and force the company’s directors to liquidate the company so they may recover some of their investment.
- Compulsory liquidation - where creditors take legal action to wind up a company.
Are you considering exiting from your business? If so, talk to TaxAgility first.
The team at tax Agility have knowledge and experience that can guide you through the options and help you come to the right decision that matches your personal circumstances and needs. In addition, our experts can help you with all the tax planning considerations and wealth management issues that may arise from a sale or closure of your business.
Call us today on 020 8108 0090 and tax through your business exit plans with one of our specialists in either our London Richmond-Upon-Thames office or our London Putney Office.
