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Business owners of private companies invest huge amounts of time and resources in their business, which may include the bulk of their financial capital. For owners who do not want most of their net worth to remain tied up in the business, there are options available that would allow them to take some of their chips off the table without walking away from their business. Some of these options may be attractive to owners who want to secure liquidity in a manner that does not require them to forfeit the right to maintain control over their business.

The Private Equity Option

Private equity (PE) fund raising slowed during 2023, but PE firms raised the staggering sum of more than $550 billion in each of the past two years. Significantly, the total number of deals that PE firms completed in 2023 was 20% higher than 2019, but the total aggregate value of these deals still fell below the pre-pandemic level. Perhaps the key takeaway for business owners is that PE firms are still on the hunt to invest in private companies as PE firms raised more than half a trillion dollars in each of the past two years, which needs to be invested for PE firms to generate a return for their investors. 

Although PE investments can be structured in a number of different ways, there are two basic paths the investment will take. The PE firm will buy the whole company or a majority interest that provides the PE firm with control over the business, or it will purchase a minority stake that does not give it complete control over the company. Most PE firms prefer to make investments that provide them with control over the business, but increasingly, PE firms are making minority investments in order to deploy their capital.

From the perspective of the majority owner, selling a minority interest in the company to a PE firm may be attractive because it allows the owner to remain in control of the business. In this scenario, while the PE firm will not secure control over the business, it is likely to have veto power over certain major business decisions that could otherwise be made by the majority owner such as (1) giving the PE firm the right to prevent stock sales that would dilute the PE’s firm’s interest, (2)  restricting the owner’s right to take on new debt above a certain level, (3) requiring the PE firm to approve any proposed bonuses to be paid to the owner, and (4) preventing the owner from selling the business without the PE firm’s approval. 

The business owner who accepts a PE investment needs to appreciate, however, that the PE firm has become a full-fledged business partner with specific legal rights. Further, the firm will be looking to make an exit from the company in five to seven years, which will generate pressure on the business to improve its financial performance in this time window. The rights of the PE firm are likely to include the veto power discussed above, the ability to participate as managers or directors of the business, and the right to question the owner and others about all significant business decisions presented to the directors or managers.   

Picking the right firm for a PE investment is therefore a critically important decision for the majority owner. When the investment works well, the PE firm provides financial support and various types of guidance and industry contacts that will be helpful in growing the business. In sum, the ideal PE firm is one that will be a solid business partner and actively help to enhance the company’s value. The flip side is a PE firm that fails to deliver on its promises, seeks to micromanage the business, and creates problems that hurt the company’s bottom line. 

Not all PE investments work well, and majority owners should conduct as much due diligence as possible about potential PE investors to determine if this will be a good fit, including interviewing other companies in which the PE firm invested to discuss their experience. This effort is time and money well spent to avoid, if not eliminate, future conflicts with the PE firm after the investment. When conflicts do arise with the PE firm, it helps to have a written agreement that governs the terms under which a business divorce could take place between the parties.    

The Family Office Investment

The family office investment is very similar to the PE investment but will provide the business with a longer time horizon before any exit has to take place. As noted above, PE firms tend to operate on a five- to seven-year time horizon for their investment. If the company is not ready for the PE firm to exit from the business on this timetable, that can create serious conflicts between the majority owner and the PE firm. By contrast, a family office does not have the same pressure to generate a return for outside investors on this specific timetable, and can wait a longer period before seeking an exit to monetize its investment.  

The challenge for the majority owner is that there are far more PE firms than there are family offices that are open to making private company investments. As a result, the majority owner may need to focus on securing an investment on favorable terms from a PE firm rather than holding out for a family office investment that may never pan out. 

In addition to the previous discussion of PE investments, the majority owner may decide it is best not to shut the door on selling a majority stake in the business to a PE firm. While this transaction would require the owner to transfer control, an investment by the right PE firm may not result in the loss of control that is the chief concern of the majority owner. The PE firm wants to generate a handsome return for its investors, and if it is confident in the majority owner’s leadership, it may leave the owner in control of the business for all practical purposes after the closing. The PE firm may also agree for the majority owner to retain a substantial stake in the business (25% or more) in the belief that the owner’s continued ownership interest will serve as a strong incentive for the owner to continue to grow the business.     

The Strategic Buyer Transaction

In this scenario, the majority owner sells the entire company to a buyer that is a larger firm, which wants the business to continue to operate largely in the same manner. Thus, after the transaction closes, the majority owner will continue to operate the business as a division of a larger company or as a subsidiary of a parent company. In either event, the majority owner will largely retain control over the business and will likely receive or be paid a combination of cash and shares of stock in the larger company.

This last option is one that presents the highest risk-reward scenario for the majority owner. The upside potential exists because the owner continues to run the company in a largely uninterrupted fashion and receives both cash and stock in the larger company. This stock may increase significantly in value over time, particularly if the transaction results in strong business synergies between the two companies after the purchase has been completed. 

One risk here is loss of control. Specifically, before the sale closes, the buyer may promise not to infringe on the majority owner’s continued control of the business, but after the closing, the buyer may then dictate to the majority owner how the business has to be run. There is also a financial risk as the stock in the larger company may decline due to unforeseen business issues that are wholly unrelated to the conduct of the majority owner or his business. A majority owner who goes down this path must be mindful of these risks, but they can be mitigated to at least some extent if the buyer will negotiate a contract that clearly defines the scope of the majority owner’s control over the business after the sale takes place.  

Other Tax-Advantaged Options

Finally, there are other tax-driven options for majority owners to consider, which include Employee Stock Ownership Plans (ESOPs) and exchanging assets for other qualified property as permitted by the Internal Revenue Code. These are complex strategies that will require assistance from specialized tax and legal professionals. These transactions can result in a lower value for the company, however, and the owner will need to decide if the tax savings that may be secured outweigh the lower value for the business that may result when the price is compared to the valuation determined by third-party investments or from the sale to a strategic buyer.

Conclusion

After business owners have shepherded their company to a high value, they may want to secure their financial future, but without engaging in a sale transaction that would require them to leave the business behind. There are a number of avenues available for business owners to attain liquidity in this way, including by bringing in a PE firm or a family office as an investor or selling to a strategic buyer that authorizes the company to continue to operate under the banner of the larger business. These various options should be carefully considered as they provide the potential for the owner to accomplish this financial goal with an acceptable level of risk.

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“If you don’t know where you’re going, any road will take you there.”

From Alice’s conversation with Cheshire Cat from Lewis Carroll’s Alice in Wonderland

For business owners intently focused on growing their private companies, it may seem like a waste of time for them to answer how they define success. They may even view it as an unhelpful distraction. But, from my own experience working with business owners, they will benefit from taking the time to respond to this question. In fact, owners who decline to consider their answer to the success question may be in for an unwelcome surprise.

Responding to the success question with off-the-cuff answers like “I just want to grow the business,” “I want to cash out for a large payday some time in the future,” or “I want to hit $50 million (or more) in revenues” fall short. If business owners want to experience satisfaction, a sense of accomplishment, and contentment, let alone happiness, answering the “what defines success” question is a great place to start. This post breaks down the success question into three elements — purpose, relationships and community — that build toward the ultimate answer.  

What Is My Purpose?

The two most important days in your life are the day you are born and the day you find out why.

— Mark Twain

Let’s start with the elephant in the room – money. When we ask how to define success, many (perhaps most?) business owners equate success in business with money. In other words, money equals happiness, and therefore, making more money equals more happiness. There is research that bears this out… but only to a certain extent and also with an important warning. A recent article in Forbes magazine by John Jennings described this as the “money and happiness” paradox. In his article, Jennings discussed an important psychological study from 2003, which determined that although having more money is associated with happiness, seeking more money dampens life satisfaction and impairs happiness:  

[T]he study found that “the greater your goal for financial success, the lower your satisfaction with family life, regardless of household income.” This paradox teaches that money boosts happiness when it is a result, not when it is a primary goal, or as Ed Diener noted in his book Happiness, “It is generally good for your happiness to have money, but toxic to your happiness to want money too much.”

Thus, the potential surprise for business owners is that pursuing success at their company with the primary goal of making a great deal of money is not just unlikely to lead to happiness, it may actually prevent it. That is the paradox noted in the Forbes article. If achieving satisfaction and some level of contentment matters, then making money needs to be the byproduct rather than the primary goal. But if making money is not the main objective, what purpose is more important?

To answer that question, renowned business author Simon Sinek would say, “Start with the why.” That is the title of his best-selling book and his TED Talk that has more than 55 million views. Sinek’s website describes the book this way: 

Sinek presents a simple yet powerful idea: the most successful and influential companies and leaders start with the “why” of their business, rather than focusing solely on the “what” and “how.” By starting with purpose and beliefs, companies can create a clear and compelling message that resonates with their customers and employees.

This is the first question for the business owner to answer: Why am I doing this? Having a clear purpose means that the owner will not shy away from challenges arising in the business. The owner’s purpose is the lodestar that keeps both the owner and the company on track and able to surmount these challenges. A business owner who knows the why has purpose that drives the business, and fulfilling the owner’s purpose will help define success.

What Is the Quality of My Relationships?

This question about relationships may be less obvious than deciding on one’s purpose, but it is no less important. We are human beings. We exist in relation to other humans, which is especially true in the business world. People do not succeed or experience success in business in a vacuum. There are two types of relationships for the business owner to consider: those within the company and those that the owner has with family and friends outside the business. Both of these are important and help the business owner to define and experience success.

Inside the business, successful business owners stress the importance of building solid, meaningful relationships. Sam Kaufman, an entrepreneur and a member of the Forbes business council, expressed this powerfully in a recent editorial:

Relationships must be prioritized over results. I know, I know – this is surprising coming from a businessman and entrepreneur, but hear me out. I am not saying results do not matter. Results do matter, and they are crucial to your business’s success and growth.

That being said, do you know what else is crucial to your business’s long-term success and growth? Do you want to know how to drive results? Do you understand why some companies build great teams and others can’t keep a good employee? The answer is relationships.

. . .

Building relationships is possibly the most important skill an entrepreneur can acquire if they’re looking to grow a real company. You need to have the ability to acquire, maintain, nurture and grow relationships. Soft skills are so important and so undervalued. Soft skills like empathy, compassion, accountability and honesty are what drive a team from OK to good and on to great.

As Kaufman notes, developing internal relationships at a company is what grows a team from good to great in achieving results. In my own view, external relationships that exist outside the company are no less important to the business owner. We ask if a falling tree makes a noise in the forest if there is no one there to hear it. I would ask, is success possible for the business owner if he or she has no one with whom to share that success?  

Business owners should ask themselves – for whom am I seeking to achieve success? Most owners are self-motivated and want personal satisfaction. But when the owner reaches milestones, receives accolades and wins industry recognition, with whom will the owner share these achievements? From birth, we have a basic human need to be seen and heard. We all want supporters, if not avid cheerleaders. For that support to remain present requires business owners (and everyone else) to nurture relationships outside the business. Thus, in answering the question about purpose, business owners should take stock of whether they have maintained meaningful connections with family and friends who are not working with them in the business.  

What Is My Impact on My Community?

The third component touches on purpose but goes beyond it to ask the business owner whether fulfilling his or her purpose is positively impacting the company’s community. Does that matter? If the company is profitable, providing good products or services to its customers, and paying good wages to its employees, does a positive community impact have any role to play in defining purpose? I would answer emphatically that yes, community impact matters to one’s sense of success, and there does not have to be a tradeoff between achieving profits while also generating a positive community impact.

This post will not take sides in the debate regarding the ESG movement, which seeks to promote positive business policies for the environment, society and company governance. The focus here is on whether the business owner believes the company is having a positive impact in the community. A simple way to look at this is to ask whether the business owner is proud of the company and the ways that it conducts its business.

The connection between profitability and community impact is not a theoretical one. Dave Young, a senior partner with Boston Consulting Group, leads his firm’s social impact and sustainability work globally. In an interview in 2021, he said:

“Younger employees consistently rank corporate responsibility at or near the top of their criteria for working at a particular company. This means community actions are key, but not just from a talent perspective.”

When asked why companies should compare about community impact, he stated:

“It’s the connection between community and long-run company performance. That shows up in everything from what kind of brand do I build over time, to the knock-on effects of that brand, to the way my employees feel about the company, with respect to how I am engaging in community.”

Dave Young, a senior partner with Boston Consulting Group

The point is not to suggest that business owners have to become “corporate do-gooders” to find success. But, if owners choose to disregard the impacts their companies are having on the communities in which they do business, they may find success to be an elusive goal.  

Conclusion

Defining success is an individual process for business owners, who will reach different conclusions, but the process is a vital exercise to undertake. Owners who eschew the need to consider their path to success may find themselves lost or overwhelmed on an uncharted road. By undertaking the deliberative process required to define success, business owners will develop a clear sense of purpose, appreciate the important relationships in their lives and fully grasp how their company impacts the community in which it operates.

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After devoting long hours and years of hard work in building their companies, majority owners of private businesses may reach a point where they consider whether it is time for them to sell. This large question – Is now the time for you to sell your business? – will depend on the answers to some important, underlying questions, which are reviewed in this post. The answers to these questions may confirm that the owner is ready to move forward with a sale, but even if that is the case, the answers to these preliminary questions may reveal that there is still quite a bit of work that still remains to be done before the sale process should begin. 

Why do you want to sell?

The first question majority owners need to answer is this: Why are you selling the business? All potential buyers will want to know the owner’s answer to this question, but even more importantly, owners need to understand their own motivations about why the time is now right for the sale to take place. In addition, and just as importantly, owners also need to be able to answer this question: What comes next? Is there a clear plan for the owner — both mentally and emotionally — as to what the years are going to look like after the closing? Without a next stage plan in place, owners may find themselves lacking in purpose, which is not healthy or productive for them, or for their family members.  

Owners may have many different motivations for the sale and simply need to be able to sincerely express the key driver for their sale to the potential buyer. Most buyers will want the owner to continue to help for some period of time with the transition process after the sale takes place. The owner will therefore need to be on board with the fact that the new buyer will likely want to make changes over time in operations, personnel and/or direction of the business. While the buyer is unlikely to suddenly embark on wholesale changes, the buyer will tend to see new opportunities and have new approaches in the way that the business is conducted. 

This new path is the buyer’s prerogative to take, and a former owner who is resistant to any and all changes will not fare well or be very helpful to the buyer in the transition process. This may be a major problem if there is any further compensation owed to the former owner based on the company’s performance after the sale. In fact, a majority owner may diminish the total return received from the sale of the business if the owner will not support the changes the buyer wants to make to the business after the sale. This adverse result may be due to a shortened consulting agreement if the owner is let go sooner than expected or receives a smaller share of future returns from the company if the owner has any type of carried interest.  This does not mean the owner should decline to provide constructive input to the buyer, but the owner needs to accept the fact that this changing of the guard at the company will likely involve some meaningful changes to the way that things have been done in the past.

What is your company worth?

Before considering a sale, the majority owner should have some idea of the potential sale price the company would realize in the marketplace. Fortunately, determining the likely range of the potential purchase price does not require the business to be listed for sale. Instead, the owner can obtain a reliable estimate of the purchase price by retaining a business valuation expert. This expert will be able to provide the owner with a range of value for the business upon sale based on its financial performance, recent transactions that have taken place in the market, and in view of the owner’s anticipated growth expectations for the next few years.

This valuation report may be heartening if it squares with the owner’s understanding of the current value of the business, or it may be a reality check if the owner has an inflated view regarding the anticipated price for the sale of the company. But if the value of the company as determined by the valuation report falls below the owner’s view regarding the value of the business, the report will still be helpful. In this case, the report will provide the owner with specific revenue and earnings targets (and growth rates) the business will need to achieve for the owner to obtain the desired purchase price when the company is sold.

This question focuses on the value of the business, but it also raises the issue of whether the company has maintained its financial books in good order. If the current financial condition of the business cannot be readily determined by a potential buyer from the company’s financial reports because they are confusing, unreliable and/or incomplete, this raises a significant concern that must be addressed before the business can be brought to market. Potential buyers confronted with financial records that are in poor condition are unlikely to pay top dollar for the business. Buyers may even choose to walk away from the purchase  entirely if the financial records are in such bad shape that they cast doubt over the company’s operations and the performance of the business as a whole.     

Is your house in order?

Answering this question may be the one that is most eye opening for the majority owner.  The question here is what will the potential buyer find when the due diligence process starts?  

One good way for an owner to know if the sale process will go well is to take a look at the business from the perspective of the potential buyer. The company’s business counsel can provide the owner with a sample of a due diligence checklist that will be part of the sale process. The majority owner should consider these questions: What will a potential buyer think about the company after it has the chance to review the information produced in response to this checklist? What will it show? If there are skeletons lurking in the company’s closet, the response to this due diligence checklist is likely to reveal them. Any troubling issues will need to be resolved before they are disclosed to potential buyers. 

 In addition, all stakeholders in the business need to be ready for a sale to take place. Most businesses have significant stakeholders who are involved in the company and helped to make it successful. These can include other minority owners, key employees, lenders and large customers. If one or more of these stakeholder groups are not aligned with a sale of the business taking place, that resistance can create major impediments to a sale. For example, does the majority owner have the right to make the unilateral decision to sell the business, or does a sale of the business require a unanimous vote? If unanimous consent is required, does the owner have the other owners on board with the sale taking place at any price, or are they open to a sale only if a certain price target is achieved? The owner in this situation needs to consider whether the other minority owners will support or be an impediment to a potential sale.

Similarly, while employees who have no ownership interest in the company may not have the right to block a sale of the business, if they oppose a sale of the company to a third party, their sudden departure before a sale could derail an attempted transaction. The owner will therefore need to make sure that key employees will support a sale under the right conditions to ensure there will be a smooth transition to a new ownership group.  

Conclusion

The sale of a private business is an achievement that can be an exhilarating experience, but getting there takes a lot of careful planning and will be the result of a team effort. Before the sale process even starts, the majority owner will want to consider several key questions to decide whether both the owner and the business are truly ready for a sale of the business to take place. The owner needs to consider whether the explanation that is provided for the sale will resonate with potential buyers and also whether the owner is ready to move on after the sale to pursue other interests. In addition, the owner will want to check on the value proposition to make sure the potential sale price for the business fully aligns with the owner’s expectations. Finally, the owner will need to evaluate the business from the perspective of a potential buyer to ensure there are no glaring surprises that will emerge during the due diligence phase, which will create hurdles in completing the sale.