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Identifying the Business Owner’s Goals—Cash Flow and Financial Planning

Part 4 of the "Process-Oriented Approach to Family Business Succession Planning" Blog Series

In the event it has not yet become apparent to the readers of these posts, I firmly believe that a significant amount of time needs to be spent understanding and setting the goals which will drive the business succession process. Discerning these goals will certainly make it easier to efficiently identify the options, and set the stage for an effective implementation of the transition.

My previous two posts focused on the owner’s goals toward the continued viability of the business itself, as they relate to ownership and management succession. But along with concern for the future of the business, the senior generation owner facing transition must also face the financial consequences of his or her departure.  If the owner focused his efforts on building personal wealth and sources of cash flow off of the corporate balance sheet, the financial issues may not be as pressing. However, in my experience, the business often represents an inordinate percentage of the owner’s personal net worth, and is responsible for a substantial portion of personal cash flow in the form of salary and bonus, perquisites, benefits, dividends and distributions—much of which will need to be replaced.

Finally, the accountant in me starts to smile because the financial goal-setting allows us to develop some objective and quantifiable parameters for the business succession process. Fundamentally, I encourage the owner to address this part of the process in a manner similar to how he or she approached the financial management of the business. Necessarily, that type of approach leads to an examination of financial statements—the personal balance sheet and income statement—to use as tools in making decisions. 

I suggest starting with the expense side of the income statement, a budget if you will, to drive the process.  Focus on what it costs to maintain the lifestyle to which the owner has become accustomed and project those costs, with a factor for inflation, into the future. I always allow the owner to define how far into the future the projections should reach. I also encourage the owner to distinguish needs from wants so that, in the event we ultimately conclude that the likely circumstances will not generate sufficient cash-flow, appropriate actions may be taken.

Once the owner has a handle on expenses and future cash needs, we can focus attention of the income side of the statement, by identifying any existing or anticipated sources of cash-flow (social security, pensions, annuities, etc.) as well as the propensity for the existing balance sheet assets to provide cash.

If there is adequate cash-flow from existing sources of income and assets, the owner will likely breathe a huge sigh of relief. But in the more likely scenario, there will be a deficit. And in that case, the process turns to isolating and managing the financial variables that can be controlled such as reducing spending, balancing risk and reward to generate higher portfolio returns, and, obviously, defining the financial requirements that must be met as a result of the business transition. Only now can we begin to answer questions like:

  • Can the owner afford to transfer ownership by way of a gift?
  • If the interest is to be sold, at what price? Under what terms?
  • If the value of the business itself will not provide adequate capital to generate sufficient cash flow, are there other ways to extract cash from the business in the form of continued employment, a consulting arrangement or a deferred compensation arrangement?
  • Will next generation owners agree to financial constraints the departing owners might be putting on the business?

At this point, the owner may be overwhelmed, and it is obvious that the skills and experience of the professional team will be indispensible to access and use their analytical tools to quantify the financial aspects of the transition. The stakes are high, but the hurdles are not insurmountable. 

Next up—the business owner's goals as they relate to taxes—stay tuned!    

Economic Outlook

Read other posts in our "Process-Oriented Approach to Family Business Succession Planning" Blog Series:

Part 1: Effective Business Succession Planning: A Call to Action
Part 2: 18 Must Answer Questions for Family Owned Business
Part 3: Balancing Family Relations with Family Business
Part 5: Identifying the Business Owner's Goals - Taxes
Part 6: Business Succession Planning: Keeping Your Buy-Sell Agreement Relevant
Part 7: Business Succession: Who Are the Stakeholders and How Can You Satisfy Them?
Part 8: Don't Let the Failure to Communicate be Your Business Succession Plan's Downfall

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