This article originally appeared in the Spring 2018 edition of the Institute of Director's Direction Magazine.
It is common for owners to have focused so hard on building a business, they suddenly find themselves wondering what to do next.
Each of the myriad solutions depend on current circumstances and technical issues such as availability of distributable reserves, complex tax analysis and planning, management team composition, a wide employee base, funding availability, cash reserves, the owners’ requirement for cash and experienced legal advice to structure and implement the transition.
The most common options (leaving aside a floatation) are:
Gifting shares to family members
This will depend on the ability of family members to take the business forward. Two outlying issues to consider are the governance around the impact of a divorce and whether a prenuptial agreement is required to regulate this. Also, whether the next generation is likely to sell out quickly and whether in fact a trust to hold some or all of the shares might be better. A gift of the shares downwards clearly would not deliver cash into the hands of the current owners.
If cash is a driver for the current owners, there is a relatively well-used structure involving the next generation setting up a new company to acquire the shares. Usually the trading company would pay a lump sum up to the new holding company and then regular payments thereafter from trading profits. There are tax obstacles to overcome with this structure and a clearance from HMRC should be sought.
Vendor Initiated Management Buyout (VIMBO)
This is a common form of management buyout and is similar in structuring terms to a Family Buyout. A VIMBO is attractive to a seller (particularly where a substantial upfront payment is not paramount) as the seller can dictate the pace of negotiations and completion and will usually set the price for the business (so long as cash flows can support it). Another benefit is that confidential business information is not shared with competitors.
Employee Buyout (EBO)
While there has been a limited number of EBOs, they are becoming more popular and since 2014, it has been possible to structure and EBO so that the sale is Capital Gains Tax free which can be a significant attraction. As with a VIMBO/management buyout, it is key to having a competent and willing management team (in this case drawn from employees) in place to take the business forward. A similar structure to a VIMBO is utilised with the added dimension of an employee ownership trust, shares being held by employees or a combination of both. There are some potential tax advantages for the employees. Impact studies show that employee owned companies have longevity about them, secure employment for the local area and generally promote economic growth.
From our experience, the best time to sell a business is when there is no pressure to do so. If the process is left too late, extraneous factors such as market downturns, the health or age of the owner or lack of a succession plan can significantly erode value. These factors can also cause a purchaser to drag out the process and cause added stress to a seller. Businesses with strong cash flow and profitability will be attractive to private equity purchasers, but a combination with a strategic purchaser is likely to add value on a sale. Of late, the favourable Sterling exchange rates have seen a number of North American purchasers acquiring Scottish/UK based businesses. The worries about Brexit issues have been negated by the fact there is a common language, cultures are similar and the UK is often seen as a beachhead into Europe.
How Turcan Connell can help you
Our advice is to start the strategic discussion around succession early with an experienced adviser and if possible to identify a fall-back option. There is a complex interplay across tax, circumstances on the ground, profitability and legal structuring and the process should be properly planned out and executed professionally to achieve the bets results for the owners and for the business.