What Is Exit Planning?

All business owners will eventually leave their companies due to factors like retirement or a structured merger after a sale. Secure your legacy, protect your investment, and intentionally transition to the next phase of your life by creating a comprehensive exit plan.

This guide will discuss the value of exit planning, including the core components of a successful exit plan and how to prepare one.

The Importance of Exit Planning

Exit planning means preparing to transition out of a business. It involves developing a comprehensive strategy, usually with professional help, to maximize the company’s value and ensure a smooth ownership transition. There are financial and legal considerations when exiting a business. The strategy should also accommodate a succession plan and identify potential buyers. That way, you can choose the best option available, which may include:

1. Selling ownership in the business to investors or other companies
2. Merging with another company
3. Passing the business to family members
4. Filing for bankruptcy
5. Liquidating the company

The primary goal of exit planning is to let you leave on your terms while achieving your personal and financial objectives. Exit planning is vital for many reasons.

• Serves as a flexible guide: The exit plan is a roadmap you can adjust to reflect changes as you prepare for your next phase.
• Provides a pathway to success: The exit plan outlines your goals and provides a timetable for achieving them.
• Ensures a smooth transition: Planning maintains business continuity, protecting all stakeholders’ interests.
• Attracts potential buyers: Having a structured exit plan can entice potential buyers because it conveys your vision and commitment to your goals, showing how deliberate and prepared you are.
• Maximizes business value: Proper exit planning can maximize your business’s value and get you the best possible return on investment.
• Minimizes tax liability: Carefully planned business exits can reduce tax liability. You can identify ways to close the transaction with minimal tax implications, saving you significant money.

The Core Components of Exit Planning

Exit planning usually involves seven core components. Addressing these components increases your likelihood of success by helping you make informed decisions and increasing your profitability. Each component’s requirements are unique and will vary depending on the circumstances.

1. Personal goals: Exiting a business involves developing a strategic plan that helps you achieve the desired outcome. The tactics must align with your objectives, including your reason for leaving.
2. Financial planning: If you plan to sell the business to someone else instead of transferring ownership to a family member, you must assess your financial situation and develop a plan to maximize value.
3. Tax planning: Transferring ownership in a business usually has tax implications. Develop a strategy to minimize tax liabilities, including capital gains, inheritance, and estate taxes.
4. Legal considerations: Business exit strategies should address legal considerations like contracts and regulatory compliance to protect your interests. Legal compliance also ensures a valid transfer and mitigates legal sanctions and lawsuits.
5. Succession: Transferring ownership rights is integral to every exit plan. Examine the available options according to your needs and the nature of your business.
6. Estate planning: Does your business own assets, including real estate? If so, you must develop a plan to distribute those properties.
7. Contingencies: Business exit plans are guides, so they should be adaptable. Yours must include ways to address unexpected challenges and eliminate surprises.

How to Prepare for a Smooth Transition

Ensuring a smooth transition involves planning and execution. Here are nine steps to walk you through the process.

1. Start Early

Allow sufficient time for preparation to prevent rushed decisions and adapt to expected challenges.

2. Define Your Goals and Objectives

Outline your goals for the transition. Do you want to maximize value, preserve jobs, or ensure your legacy? Answering these questions helps you understand your objectives.

3. Identify Potential Successors

There are many ways to exit a business. For instance, you can transfer ownership to a family member or sell the business to an investor. If you hope to pass the company to an employee or relative, ensure they are comfortable with the idea of taking the helm someday. Train and mentor your chosen successor for a seamless handover.

4. Prepare Financial Records

Review financial records like balance sheets, income statements, and cash flow statements for accuracy. Gather additional relevant documents like trademarks, licenses and certifications, and leasing agreements. Then, conduct a business valuation and keep the report. Valuation lets you determine your business’s worth and identify potential areas for improvement.

5. Consider Legal and Tax Considerations

Consult with tax and legal professionals to understand the implications of your exit plan. For example, what is the process for a valid transfer? Does any law prohibit ownership transfer? Will you need to pay capital gains or estate tax? Experts can assess the issues and provide tailored advice to avoid complications.

6. Communicate Effectively

Keep stakeholders like employees, customers, vendors, and board members informed throughout the transition process, and ask for their feedback. You may get valuable input that will positively influence your decisions.

7. Develop a Transition Plan

Create a detailed transition plan that outlines milestones, timelines, and responsibilities. Depending on your business’s size and structure, you may want to appoint a transition team that includes other company executives, such as fellow members of the C-suite. Then, schedule meetings to train them on their involvement in your exit from the business.

8. Test the Plan

Conduct a trial or pilot of the transition plan to identify potential gaps. Use this opportunity to adjust and refine as necessary.

9. Monitor Progress

Regularly review progress against the transition plan and continue to make adjustments. Staying agile helps you adapt to changing circumstances.

Financial Strategies for an Optimal Exit

While you will encounter some unavoidable financial considerations when developing a business exit plan, you can use them to your advantage.

1. Business Valuation

Business valuation is the process of determining your company’s fair market value. It helps you choose the most advantageous time to sell and puts you in an excellent negotiating position. Business valuation considers many factors, such as:

• Sales
• Costs
• Cash flow
• Net assets
• Goodwill

Each of these variables affects your business’s worth. For example, if your company has assets like real estate and machinery, those properties add value.

There are several strategic ways to improve business value if the amount is less than you expected. One approach is expanding the growth potential. Businesses with scalability attract investors looking for a company they can take to the next level. To achieve this, focus on revenue expansion and earnings predictability. Building customer loyalty is another way to enhance value. Repeat customers bring recurring revenue.

2. Tax Planning

Planning for a tax-efficient transfer is an essential financial strategy. The question is, how do you minimize tax liability? There are five factors to consider.

• Deal structure: Selling a business may involve assets or stocks. Each sale structure benefits either the seller or buyer from a tax perspective. While sellers prefer stock sales due to the capital gains treatment, buyers prefer asset sales because they maximize depreciation write-offs.
• Business structure: Tax authorities tax limited liability companies, C corporations, S corporations, partnerships, and sole proprietorships differently. All except C corporations are pass-through entities, so the business owner pays taxes on profits and gains. C corporation taxation is at the entity and shareholder levels.
• Purchase price allocation: Price allocation involves negotiating the price of individual assets. It’s a complex yet essential process when selling assets. Buyers and sellers have different interests, so you must negotiate strategically.
• Installment sale: You can spread capital gains if you accept installment payments over a duration exceeding one tax year. This strategy helps you stay under the net investment income tax threshold or long-term capital gains rate. However, watch for interest in delayed payments and increases in tax rates.
• Charitable gifts: If you contribute stocks to charity before the sale, you may deduct the amount on your tax returns. Then, you can avoid paying tax on the built-in gain.

3. Asset and Debt Management

Optimize cash flow leading to the exit to demonstrate your company’s ability to generate revenue. Address any outstanding debts or liabilities to strengthen your business’ financial position. Diversifying assets can also reduce risks and increase the overall value. You may invest in different asset classes or expand into new markets. These arrangements make the business attractive to potential buyers or investors.

Legal and Regulatory Considerations

Legal considerations are pivotal when selling your business. There are many things you must consider, including the following.

1. Due Diligence

Buyers and sellers conduct due diligence for different reasons. Buyers assess the business’ assets and liabilities and evaluate its commercial potential. They confirm whether the buyer owns the assets and can transfer them without restrictions. Also, due diligence can reveal whether the company complies with applicable regulations. On the other hand, sellers conduct due diligence to confirm the buyer’s credibility and financial capability. They may also want to know whether the business will remain in good hands after the sale.

2. Contracts

Contracts are vital when selling a business. There are many types, all serving different purposes. One typical example is a purchasing agreement, a legally binding contract that details the essential terms of the business sale. Executing the contract is also one of the final steps to transferring ownership. The contents of purchasing agreements vary, so it’s crucial to review them. Other necessary contracts include:

• Lease agreements
• Supplier contracts
• Customer contracts
• Employment agreements
• Intellectual property agreements
• Non-disclosure agreements

Besides contracts, you must review internal company documents, such as resolutions, to ensure all transactions are valid.

3. Regulatory Compliance

Your business must comply with federal, state, and local laws. For example, ensure you have the relevant permits and licenses and adhere to industry-specific regulations. Remember, you may also need to register the ownership transfer with the applicable local authorities after the sale. Regulatory compliance ensures valid transfer and eliminates legal sanctions.

When to Prepare an Exit Plan

It is wise to start preparing an exit plan early. The timing may vary, but here are general guidelines.

• Early in the business life cycle: Ideally, a long-term strategy can shape the business’ growth and development with the eventual exit in sight.
• Significant life event: ⁠⁠⁠⁠⁠⁠⁠Milestones such as retirements, health issues, and changes in personal circumstances can prompt exit planning. A cohesive plan provides structure and a sense of direction.
• Change in market conditions: Shifting industry or market conditions and trends can trigger a business exit. Planning allows you to capitalize on beneficial aspects.

Exit Planning FAQs

Below are answers to some commonly asked questions.

How Do You Know You Are Ready to Exit Your Business?

You may feel ready to exit your business when you have secured your financial future and are interested in starting a new chapter in life by pursuing other interests or retiring. Additionally, it may be a good time once you have created a robust exit plan, the business is performing well, and you have identified a suitable successor or buyer. Consider the practical and emotional factors when determining if you are ready to exit your business.

Many people develop an exit plan soon after starting their business. This approach gives them time to reflect and prepare.

Why Do You Need an Exit Plan?

An exit plan helps you maximize your company’s value before a sale. Implementing the strategies makes your business desirable and creates a path for a smooth transition.

Why Do You Need Exit Planning Services?

Exit planning professionals can help you achieve your goals. They have knowledge and experience in business sales, succession planning, tax strategies, and legal considerations, which are necessary when developing a plan. Exit planning services can help maximize your business’ value and mitigate risks.

Learn About Fort Pitt’s Exit Planning Services

Are you planning to sell your business soon, or do you prefer to keep your options open? Fort Pitt Capital Group can help you prepare an exit plan. You will work directly with a certified exit planning advisor to develop a tailored strategy. Our well-trained professionals have years of industry experience. Count on us to clear your path to achieving your business, financial, and personal goals. Contact us today to learn more!