In my banking years I had the opportunity to evaluate hundreds of business purchase agreements. It is rare that a prospective buyer has sufficient cash to acquire a business and thus it was our privilege to consider bridging the financial gap by lending out the funds our depositors held with us. I always had this vision of a sweet old lady with her bankbook in hand when I looked at a loan application. It was a sobering image.
It is fair to say that we earned our reputation as being tough adjudicators. One old grizzled risk manager was nicknamed "Switchblade" for the brutal fashion in which he scarred up loan proposals with his pen. In my first presentation to him as a rookie banker, he looked over my file for about an hour, then walked past my office and threw the file on to my desk without breaking his stride. He walked on, and from a few feet away, with his back turned to me he simply stated: "It's a piece of crap," (only in slightly more colourful terms).
"Ah... thank-you... sir," I replied timidly.
As I gained experience I got a little more confident in what a good deal looked like. Perhaps it will come as a surprise that we did in fact sometimes find a way to be creative. We didn't always require somebody's mom to get involved to make a deal come together.
On one occasion a couple of ambitious young entrepreneurs came to me seeking $700,000 to buy out their boss. They had no measurable net worth between them. What they did have was a purchase agreement to take over the shares of a company with absolutely stunning cash flow, promising to pay it out in a remarkably short three-year period. The owner wanted out, and they as his senior employees were in a perfect position to run the company without him. The outgoing owner provided some of our collateral, but they key to the deal was cash flow. Lots of it.
Thanks to a sympathetic risk manager, we bought in to the deal and never looked back, despite its unusual circumstances. I always felt that this is where we earned our pay -- finding a deal amidst the inky fog of numbers.
Of course, there is much more to a business sale than arranging the financing. In my job today I tend to work for the outgoing owner (the vendor). Here are a few of the many considerations, from that perspective:
n Is this a share sale or an asset sale? A share sale is generally more advantageous to the vendor since it enables him to claim the $750,000 capital gains exemption. The purchaser may prefer an asset purchase to enable him to declare a higher original cost on depreciable assets, a tax advantage for him. The weighing of these competing benefits is usually sorted out by adjusting the price.
n If the business is currently not incorporated but there is a prospective purchaser, then consider incorporating to utilize the capital gains exemption noted above.
n Have an advisor prepare a financial plan for you to determine if the expected after-tax sale proceeds are adequate to meet your retirement income and estate planning goals.
n If the sale is not imminent and you expect the value of the business to increase, then consider reorganizing the company (e.g. estate freeze) such that some or all of the future capital gain can accrue to other family member shareholders, either directly or through a family trust. This can multiply the use of the $750,000 capital gain exemption among family members.
n Consider the viability of a Retirement Compensation Allowance or an Individual Pension Plan prior to the sale of the business. These little known arrangements can provide some important planning and tax advantages for you.
This is just a short list of the many considerations a retiring business owner is faced with. Likely none of it is the stuff that entrepreneurs daydreamed about in their youth. Yet getting it right could be the difference between a smooth transition and regret.
Mark Ryan is an advisor with RBC Wealth Management, Dominion Securities (member CIPF) and can be reached at [email protected].
