Chapter 15 Succession Planning and Strategies for Harvesting and Ending the Venture McGraw-Hill/Irwin Copyright © 2010 by The McGraw-Hill Companies, Inc. All rights reserved.

Exit Strategy Exit strategies include: Initial public offering (IPO). Private sale of stock. Succession by a family member or a nonfamily member. Merger with another company. Liquidation.

Table 15.1 - Succession Planning Tips

Succession of Business Transfer to Family Members Role of owner - full-time/part-time/retire. Family dynamics. Income for working family members and shareholders. Transition business environment. Treatment of loyal employees. Tax consequences.

Succession of Business (cont.) Transfer to Nonfamily Members Train a key employee and retain some equity. Retain control and hire a manager. Sell the business outright.

Options for Selling the Business Direct Sale Strategies to be considered: Focus on a narrow, well-defined segment. Control costs and focus on higher margins and profits. Get all financial statements in order. Prepare a management documentation. Assess the condition of capital equipment. Get tax advice. Get nondisclosures from key employees. Try to maintain a good management team. Prepare and plan in advance.

Options for Selling the Business (cont.) An important consideration is the type of payment the buyer will use. Business brokers may be helpful. The best way to communicate the business to potential buyers is through the business plan. The role of an entrepreneur may vary depending on the sale agreement or contract with the new owner(s).

Options for Selling the Business (cont.) Employee Stock Option Plan Establishes a new legal entity—an employee stock ownership trust. Obligates the firm to repay the loan plus interest out of business cash flows. Results in significant stock values for employees.

Options for Selling the Business (cont.) Advantages: Motivates employees to put in extra time or effort. Provides a mechanism to pay back loyal employees. Allows transfer of business under a planned written agreement. Permits the company to reap the advantage of deducting contributions on ESOP or any dividends paid.

Options for Selling the Business (cont.) Management Buyout Usually involves a direct sale of the venture for some predetermined price. To establish a price, the entrepreneur should: Have an appraisal of all the assets. Determine the goodwill value established from past revenue. Sale of a venture can be: For cash. Financed through banks Through sale of voting or nonvoting stock. The entrepreneur may agree to carry a note.

Bankruptcy—An Overview Most common types of bankruptcies: Chapter 7 or liquidation (69% in 2008). Chapter 11 or reorganization (19% in 2008). Chapter 13 or installment payments (12% in 2008).

Bankruptcy—An Overview (cont.) Bankruptcy lessons: Too much time and effort is spent on diversifying in markets where entrepreneurs lack knowledge. Bankruptcy protects entrepreneurs from creditors, not from competitors. It is difficult to separate entrepreneurs from the business. Entrepreneurs should file for bankruptcy early. Bankruptcy needs to be shared with employees and everybody else involved.

Bankruptcy—An Overview (cont.) Bankruptcy Act of 1978 (with amendments added in 1984 and 2005) ensures: Fair distribution of assets to creditors. Protection of debtors from unfair depletion of assets. Protection of debtors from unfair demands by creditors.

Chapter 11—Reorganization Courts try to give the venture “breathing room” to pay its debts. A plan for reorganization is prepared and approved by the US Bankruptcy Court. Decisions made reflect one or a combination of the following: Extension - Postpone claims. Substitution - Exchange stock for debt. Composition settlement - Debt is prorated to creditors as settlement.

Chapter 11—Reorganization (cont.) Surviving Bankruptcy Bankruptcy can be used as a bargaining chip to voluntarily restructure and reorganize the venture. File before failure of cash or revenue. Chapter 11 should be filed only if a chance of recovery exists. Be prepared for examination of transactions for fraud.

Chapter 11—Reorganization (cont.) Maintain good records. Understand how protection against creditors works. Transfer litigation to bankruptcy court. Prepare a realistic financial reorganization plan.

Chapter 13—Extended Time Payment Plans Individual creates a five-year repayment plan under court supervision. A court appointed trustee receives money from debtor. Bears responsibility for making scheduled payments to all creditors. About two of every three Chapter 13 filers ultimately fail to meet their planned obligations, thus resulting in a Chapter 7 filing.

Chapter 7—Liquidation The most extreme case of bankruptcy. Voluntary bankruptcy - Entrepreneur’s decision to file for bankruptcy. Courts will require a current income and expense statement. Involuntary bankruptcy - Petition of bankruptcy filed by creditors without consent of entrepreneur.

Table 15.2 - Liquidation under Chapter 7 Involuntary Bankruptcy

Strategy During Reorganization The entrepreneur can speed up the process by: Taking the initiative in preparing a plan. Selling the plan to secured creditors. Communicating with groups of creditors. Not writing checks that cannot be covered. Enhancing the bankruptcy process by: Keeping creditors abreast of how the business is doing. Stressing the significance of creditors’ support during the process.

Table 15.3 - Requirements for Keeping a Venture Afloat

Table 15.4 - Warning Signs of Bankruptcy

Starting Over Entrepreneurs are likely to continue starting new ventures even after failing. Entrepreneurs who have failed tend to have a better understanding and appreciation for the need for: Market research. More initial capitalization. Stronger business skills. Business failure does not have to be a stigma when seeking venture capital.

The Reality of Failure Important considerations for the entrepreneur in case of failure: Consult with family. Seek outside assistance from professionals, friends, and business associates. Do not hang on to a venture that will continually drain resources.

Business Turnarounds Learn to recognize the warning signs of bankruptcy. Principles of a successful turnaround: Aggressive hands-on management. Management must have a plan. Action.