Estate Planning Journal 2011


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Insights and Lessons for Surviving the Sale of a Family Business

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Estate Planning Journal 2011

  1. 1. L!IIT1 I i W7 r
  2. 2. Insights and Lessons for Surviving the Sale of a Family Business A liquidity event can be a major life-changing occasion that requires planning and decision-making, as a younger-generation former owner of a family business relates. BRUCE D. WERNER AND LAUREN J. WOLVEN, ATTORNEYC lients engaged in the sale of a most of his life dreaming about After 75 years, however, facing multi-generation family-owned growing the family business and a changed world, the family decid- business are undergoing a life- passing it along to the fourth gen- ed in 1997 to sell control of the changing experience, for which eration. Started in 1922, Werner business. Bruce’s father and thetheir professional advisors can offer Co. was a way of life to his fami- other three members of that gen-guidance with respect to more than ly. The founder, R. D. Werner, was eration worked until their plannedthe legal and tax aspects of the sale. the second oldest son of 12 father- retirement dates, and Bruce and theIn this article, Lauren Wolven inter- less siblings. After serving in World other five sons in the third gener-views Bruce Werner, who had been War I, he began distributing nee- ation, all between 30 and 40 yearsa director and officer at his family’s dles and threads for carpets and of age at the time the business wasladder manufacturing business at other flooring products. This led sold, sought their own paths.the time of its sale. They discuss cer- to metal trim products, such as sink Having served as the Vice Pres-tain life transitions that business sell- frames, which led to larger metal ident of Sales & Service at theers wrestle with as a result of the liq- products, and eventually to ladders Extruded Products Division ofuidity event and relevant topics that in the 1950s. Werner Holding Co., Bruce foundclients and their advisors should con- himself in the position of needingsider in connection with structuringthe sale of the business. The article to figure out what to do with thepresents a true story reflecting many BRUCE D. WERNER is the Managing Director of rest of his life once the plan he Kona Advisors LLC, a strategic advisory boutique serv- had since childhood was no longerof the concepts discussed in an arti- ing family and closely held businesses. He may becle in the August 2009 issue of available. Faced with a different contacted at . Prior toESTATE PLANNING, on the challenges founding Kona Advisors in 2000, he spent 12 years financial position due to the liq-of planning for family wealth suc- at Werner Holding Co. in a variety of senior line and uidity event and with the oppor- staff positions and served as an officer and a direc- tunity to reinvent himself in thecession.’ tor for nine years. LAUREN J. WOLVEN, JO., is a part- business world, Bruce learned sev- ner in the Chicago law firm of Horwood Marcus &Werner Co. Berk Chtd. She is a frequent lecturer and author on eral lessons about the impact of sell-A member of the third generation estate planning topics and may be contacted at ing the family business; some ofof the Werner family, Bruce spent . them were learned the hard way. 22 -
  3. 3. Selling the family business for delivered an annual report that was Wolven: After the sale, eight of theBruce’s father’s generation had a comparable to a Fortune 500, ten insiders continued working atvery different meaning than it did maintained a dividend policy, and the company. How were yourfor Bruce. Bruce was not near used outside consultants to tie our employment contracts structured?retirement age and is not the type compensation programs to market Where there any unusual issues?of person who one would ever norms. Our investment bank ana-imagine to be content sitting still. lyzed a dozen different scenarios to Werner: Part of the sale processHis experiences, therefore, are like- inform the Board about the trade- included performing diligence only to be more apropos to that "next offs between valuation, liquidity, our future partner. We spoke to thegeneration" waiting in the wings tax efficiency, control, and future CEOs of several companies that ourto take over the full operation of growth potential. future partner had purchased pre-the family business. For those indi- As the Board considered the viously, and post-sale employmentviduals, he summarizes the eight needs of the shareholders at large, was one of our key questions. Wekey points learned from his per- our priorities became clear and we also did our own research, and weresonal experience as follows: quickly determined that a change prepared to address issues unique of control transaction was in the to our situation. Because it was a1. Be honest about priorities best interest of the shareholders. change-of-control transaction, we and values. We had a large and diverse share- were concerned with diminishment2. Develop a personal strategic holder base, which actually sim- of duties and forced relocations. We plan. plified the decision process because did not want family members to3. Invest in friendships. we could not focus on the tax or be treated unfairly, or to be forced4. Understand that wealth works liquidity issues of just a few insid- to relocate during the initial con- in step functions. ers. The Board’s responsibility was tract period. These points laterS. Realize how the family busi- proved to be quite important to ness experience situates one- to maximize value for the share- individual family members. While self in the job market. holders, which drove us to the deal it is easy to focus on the amount6. If early retirement is chosen, we consummated. of sale proceeds, I advise sellers to consider the impact on family Most of the shareholders had think carefully about terms and con- members. received stock as a gift from the ditions. Negotiating representations7. Get used to everyday incon- family patriarch. He made numer- and warranties, and issues like veniences. ous gifts over many years as part employment, are more likely to8. Enjoy the ride. of his estate plan. Each family unit determine satisfaction with the deal. had its own circumstances to deal The dialogue that followsexpands on the points noted above. with, and each chose a different Wolven: In a family business, it is path to deal with its own tax and not uncommon for the family toWolven: Before we dive into your estate issues. Some shareholders enjoy compensation or benefits thateight points, talk a little about the formed family limited partnerships, would not be allowed in a publicdeal and some of the broad family either before or after the transac- company. In most transactions, theissues surrounding the decision to tion, to deal with their own estate family loses its perks after the sale.sell the business. With four dads and issues and to address their invest- Did this cause a problem for thesix sons in the boardroom, and 110 ment needs more effectively. Other family members?shareholders, how did you address family members formed privatethe key issues of deal structure, tax foundations to pursue their chari- Werner: All of the sons wereplanning, and use of proceeds? table objectives. Because the orig- required to work elsewhere before inal gifts were valued at a low cost coming into the family business, soWerner: Our decision process basis, the transaction created a one- we were always aware of the ben-evolved over approximately three time opportunity for the current efits of family ownership. We hadyears. While we were private, in generation to advance its estate family discussions about whatmany ways we ran the business as planning. While we were certain- would change after the sale, andif it were a public company. We ly pleased with the transaction, ten we openly discussed that "change years later I can clearly see the ben- of control" meant we would give1 Wolven and Clemons, Educating Younger efits of taking early action on my up the family perks to maximize Generations Through the Estate Plan 36 ETPL 29 (August 2009). estate plan. the sale value. As part of our prepa-JANUARY 2011 VOL 38 / NO 1 SALE OF FAMILY BUSINESS
  4. 4. 24 rations for the sale process, we ana- Werner: Businesses require strate- Wolven: Do you find that your per- lyzed the likely buyer adjustments gic plans to be successful, and so sonal strategic plan is static? If not, for family expenses, on a line-item do people. Especially if there is a how often do you revisit it and basis. By the time we were in nego- liquidity event, you need to under- make adjustments? tiations, these issues were well stand the implications of your new behind us. financial circumstances and how Werner: The plan is based on my As I continue to speak and work they affect your options in life. Your core values, which do not change. with family and private business personal strategic plan should inte- The plan needs to be monitored and owners, I have come to appreci- grate your life goals, commercial adjusted to be consistent with the ate the rigor which our fathers interests and legacy issues. Do you changing realities of life. For exam- imposed on us, and how we bene- really want to run another busi- ple, when we sold the business in fited from their discipline. Our ness? Or would you rather pursue 1997, the structure of the deal sug- compensation, titles, duties, and your favorite hobby or charity? If gested that there would be a sec- performance appraisals were with- you are young, early retirement ond liquidity event when our pri- in the company’s policy guidelines. may not be as fulfilling as you orig- vate equity partners exited the deal. Everyone generally understood inally thought. Without a plan, it The additional liquidity would have what was earned as an employee, is easy to drift through life. enabled us to reach for stretch goals versus a privilege bestowed due to Shifting from the theoretical to in our plan. Unfortunately, the com- being a family insider. Had the the practical, a friend of mine sold pany was bankrupted in 2006, so fathers not been as focused on the his family business around the same we adjusted our plan based on this success of the business, and the time we sold our business. He new fact. On a happier note, in a need to be fair to outside share- bought a large house, invested in few years our youngest child will holders, we may have had the types start-up companies, and played a be off to college. We are starting to of problems (e.g. compensation, lot of golf. I know he has not talk about possible changes, which, fairness between siblings, etc.) that worked since selling the business only a few years ago, we would not I hear about in other businesses. 10-12 years ago, and he is well have considered. These new oppor- under 50 years old. He did not tunities cause us to reassess the Wolven: I would like to talk about invest in himself, however; nor did interplay between life goals, com- your personal transition process. he develop a personal strategic mercial interests and legacy issues. You mentioned eight points that plan. Just this week I learned that Understanding the trade-offs now summarize your transition process, the bank foreclosed on his house. allows me to take advantage of cer- so let us start with the first one. While this story saddens me, it rein- tain opportunities which I may have When you say that it is important forces the need to have a thought- previously ruled out. to be honest about your priorities ful personal strategic plan. and values, what do you mean? Wolven: One of your key points is Wolven: At what point did you to invest in friendships. Why is that Werner: Everyone has different pri- develop a personal strategic plan? such an important item? orities and values. It is important that you are honest with yourself Werner: We sold the business in Werner: Leaving the family busi- and your family about choosing 1997, and I left in 2000 after ful- ness is the start of a journey. You priorities that are consistent with filling my employment contract. will need friends to help guide you, your values. There are trade-offs During my last year in the business, provide reassurance and redirect to be made in the pursuit of hap- it became clear that I needed time you if you get lost along the way. piness, family harmony, money, or to assess the future without the The transition process can be lone- prestige, and you should not be pressure or bias caused by main- ly at times, and it helps to have confused about your motivations. taining my professional obligations. trustworthy friends you can talk While this lesson is universal, leav- It was during my sabbatical that I to. Building your friendships out- ing the family business may pres- was able to review my personal and side of work may help fill the void ent the opportunity to revisit this professional goals, and realized that you may find due to lost workplace important issue. I needed an integrated plan for relationships. the future. This plan needed to con- Wolven: Why is a personal strate- sider decades, not calendar quar- Wolven: Along the lines of lifestyle gic plan important? ters and fiscal years. changes, did you have difficulty ESTATE PLANNING JANUARY 2011VOL 38 / NO
  5. 5. adjusting to your newfound diverse opinions, beware of con- invest in yourself by expanding orliquid wealth? flicts of interest, and be truthful retuning your skill set to the current about your risk tolerance. market needs and conditions.Werner: The initial step-up inlifestyle (bigger house, new car, exot- Wolven: After you left Werner Co., Wolven: Did you use a career coun-ic vacations) is easy to do, but it does you did not immediately move into selor? Is that something you thinknot take long to realize that this new employment. Do you believe might be helpful to others goingchange is a singular event. Hope- that a sabbatical is something oth- through a transition like the onefully you can maintain this new ers in your position should emulate? you faced?lifestyle, but you cannot take anoth-er big step-up without creating new Werner: As I mentioned previous- Werner: After I left business school,wealth. When we were deciding ly, one of the best decisions I made I worked for a venture start-up, andwhether to sell the business, we often was to allow myself the time to plan then started a business when I wassaid, "We will only sell the business for my future. I was fortunate to 25. So, I had not written a resumeonce." Afterwards, when our new have this luxury. I recommend that or had a job interview in almost 15circumstances became better under- you take time off if you are able years. Once I understood the mag-stood, I started repeating this phrase to do so. But I would also caution nitude of the change, I did engageagain, but for different reasons. that part of your exit plan from the a career counselor to coach me onManaging expectations quickly family business needs to consider the process of transitioning from thebecomes important, especially if you how long a job search may require, and assuring that you have the family business world to the largerdecide not to go back to work. Besure to secure good professional financial wherewithal to supportadvice on how to manage your your family during an extendedfinancial assets. period without income.Wolven: You mention the impor-tance of finding good profession- Wolven: How did you find the search for a new position? Was your cANcERcare fi CancerCare is a nationalal advice regarding financial man- family business experience an nonprofit organization thatagement. How did you find that advantage or disadvantage? provides free professionalpersonally, and what tips can youoffer to help others find the right Werner: My family business expe- counseling, education, financialadvisors? rience was a real advantage in a few assistance and practical help situations, but a distinct disadvan- for those affected by cancer:Werner: Within our enterprise, we tage in other situations. Some hir- people with cancer, caregivers,owned a captive insurance compa- ing managers will shy away from children, loved ones, andny, and I had spent some time work- former business owners due to a bias the on the Investment Committee. that former owners will be too inde-This, along with my MBA, pro- pendent, difficult to manage, or lack For informationvided me with a good frame of ref- motivation because of their finan-erence. During my sabbatical, I cial security. If you have unique on Plannedspent significant time studying the industry expertise (e.g., in sales), Giving, callmarkets, assessing my risk toler- you are more valuable thanif you have a functional skill (e.g., in Rebecca Wombleance, and talking to numerous pro-fessionals so I could make informed accounting). This effect will be more at 212-712-8092.judgments. I focused on educating pronounced if you change indus-myself first, and always relying on tries. To put yourself in the best posi- C ANCER CAREcommon sense when dealing with tion to succeed professionally, you 275 SEVENTH AVENUEsomething unfamiliar. Frequently, must understand how the market NEW YORK, NY 10001I would ask the same question to views you. Traditional search meth- WWW. CAN CERCARE. 0 Rdifferent professionals and inter- ods were not productive for me, so INFO@CANCERCARE.ORGpolate between their responses to I adapted my search techniques tomake my own decisions. So my best take advantage of my skills andadvice is to ask questions, gather experience. You should expect toJANUARY 2011 VOL 38 / NO 1 SALE OF FAMILY BUSINESS
  6. 6. 26 business community. This is where So, there was never a doubt that I Werner Holding Co., what would I came to understand how my back- would go back to work, it was just you tell yourself? ground made me a nontraditional a matter of when and where. candidate in the workforce. The Werner: The key issue is to devel- counselor helped me to understand Wolven: In your key points, you men- op a good perspective of your like- my professional capabilities within tion "everyday inconveniences." ly future, anticipate your future the context of the marketplace and What does that encompass? wants and needs, get good advice, successfully adapt to my new reali- and be honest with yourself. I had ty. It is worth considering a career Werner: If you no longer have an worked both internally (engineer- counselor so long as the counselor executive assistant, life’s little ing, manufacturing) and external- is skilled at dealing with the specifics issues travel reservations, calen- ly (sales), but had spent most of my of your transition issues. dar management, and errand run- career thinking about only the ning are now your responsibility. Werner Co. Afterwards, I had to Wolven: Did you ever contemplate While not difficult, they do take learn new skills to manage the tran- staying home rather than going time, and may be small inconven- sition process and to develop judg- back into the workforce? iences in what is otherwise a bet- ment to make good decisions in ter situation. A concierge or part- unfamiliar circumstances. I found Werner: Absolutely not! Like many time bookkeeper may improve your that speaking to numerous people business owners, I have a natural quality of life. across diverse situations was the drive to be productive and engaged. best way to develop this critical As my wife would say, if I am not understanding. busy, I am not happy. Second, it Additionally, it is critical that was important to me that my chil- you involve the key people in your dren understood the importance of life when you plan your new future, work and the need to be produc- because they will be a part of this tive. Even during my sabbatical, I journey with you. Be prepared for had an office outside the house and uncertainty and surprises. Hope- came and went as if it were a reg- fully, you will be able to leverage ular job. My children were in grade these lessons to achieve your ideal school at the time, so to them it vision of how you wish your future looked as if Daddy was working as to unfold. he always did. Wolven: Did you find that these Analyzing the liquidity options Wolven: What affected your deci- "inconveniences" caused stress at As Bruce noted in the interview, it sion to continue working? home? is important for the family to per- form its due diligence prior to Werner: As I contemplated my next Werner: Before we sold the busi- embarking on a liquidity transac- move, I thought about what makes ness, my wife and I had discussions tion. One of the most difficult hur- me happy. Being productive, creat- about what would change, and dles, and one that often leads to ing positive change, and having a what would remain the same. My litigation, is the inability or unwill- material impact on my surround- family was used to me being away ingness of the family business insid- ings are big motivators for me. I all week, so when I stopped trav- ers to contemplate the needs and liked being part of an organization. eling it was a big change in the interests of the entire shareholder This was true in the business world daily rhythm of the household. We base as opposed to focusing on the and the nonprofit world. If I were needed to adjust roles and respon- personal and financial desires of the an artist or a musician, I might have sibilities to avoid stress. By man- insiders. In family businesses, it can chosen differently, but I like busi- aging the changes proactively, be easy for the insiders to forget that ness. From my work with invest- these inconveniences soon faded they have a fiduciary duty to the ments, I knew that lifestyle, taxes, away. shareholders. inflation, and surprises would It is advisable for the insiders to deplete our liquidity over time, and Wolven: If you could go back to stop and ask themselves from time working was the best way to pro- 1997 and give yourself advice on to time "Is the business being run tect my children and grandchildren. how to think about the sale of for the best interests of the insid- ESTATE PLANNING JANUARY 2011VOL 38 / NO 1
  7. 7. ers or the best interests of the whole 3. Does the family have a diversi- ity to allow certain family branch-family?" Sometimes, the interests fied portfolio of assets, or is es to be bought out and to permitwill be aligned. If there is a large thefamily business a concen- active employee family members togroup of shareholders, as there was trated position for most share- continue in their chosen profes-with Werner Co. and as is often the holders? sion with the family when a family business is on 4. What are the short-term and Financing opportunities maythe third or fourth generation, and long-term prospects for the include bank loans to financeif the answer to the preceding ques- business? Are the business growth or permit a buy-out of fam-tion is "best interests of the fami- risks and competition increas- ily-member shareholders wishingly," then the insiders may need to ing or decreasing? to unhitch their financial futureput their personal goals second to 5. Has the business increased in from their employee cousins. Thesethe best interests of the family to value to the point where it is opportunities can also includereduce the potential for litigation. time to take all or some of the recapitalizations or ESOPs. The situation is ripe for litiga- chips off the table to ensure The last option group, partner-tion when the insiders want to keep financial stability for future ing, encompasses bringing in out-their perks and jobs, but the broad- generations? side capital through private equityer shareholder base of cousins want 6. What are the liquidity options or a strategic alliance, but alsoto sell. In a situation that one of the available, and do they meet includes IPOs. Partnering gener-authors observed, the insiders had the overall family and business ally anticipates significant growthrejected a purchase offer for near- needs and goals (or most of of the company. The trade-off,ly $100 million over the objection those goals)? however, generally is the loss ofof the broader family shareholder control by the family members overbase, and with the decline of the the management of the company.economy, those shareholders With partnering comes outsidewatched the company plummet in pressures of parties less interestedvalue to a point where the stock in family dynamics and personalhad minimal value and the com- family goals than in financial prof-pany had almost no cash flow. it. Partnering can be lucrative and positive for the company and fam-Key questions. In considering ily. As noted in the interview, how-whether it is time to pursue a liq- ever, the insiders need to be pre-uidity event, a family might ask pared to lose control over theitself the following questions to running of the family analyze the pros and cons: Because it can be difficult for the Categories of liquidity events. One family group to separate the emo-1. Is there an adequate transition of the key financial considerations tion of a multi-generation family plan to the next generation of when a family business is contem- business from the financial oppor- managers that is open to all plating a liquidity event is the tunities, it is advisable for the fam- capable family members, or is structure of that event. Liquidity ily to employ outside advisors to control becoming centered with opportunities generally can be help analyze the options. These an elite group of insiders who grouped into three categories: sale, advisors can also assist in setting are not necessarily close with financing, and partnering. up communication mechanisms their cousins and other rela- The sale is fairly straightforward with the shareholders so all parties tives who are shareholders? and can involve the sale of the entire are informed regarding the inves-2. Are funds available (either in business to an outside purchaser tigative and decision-making the company or through bor- or a single family member or fami- processes of selling the business. rowing) to buy out the interests ly group; or the company may have of the nonemployee sharehold- a particular division, product, or Tax planning in ers who may want to monetize service that can be separated out anticipation of a liquidity event their interests so that owner- through a restructuring and sold The process of contemplating a ship can be concentrated with to provide partial liquidity. Selling liquidity event generally takes at the employee group to align only a portion of the business may least a year, and sometimes spans business and family interests? be an opportunity to create liquid- several years. If a family has notJANUARY 2011VOL 38 / NO 1 SALE OF FAMILY BUSINESS
  8. 8. 28-r contemplated tax planning prior Personal impact of a liquidity event what they will do with their lives to the liquidity exploration How much money is being placed after the liquidity event. As in process, such planning should be in the hands of younger generations Bruce’s situation, there may be an one of the first items on the check- through pre-existing estate planning employment contract that requires list of things to accomplish. Once structures is just one of the many one to stay with the company dur- a company has been taken to mar- personal aspects of a liquidity event ing a transition period. The fami- ket or an offer has been received, that should be considered. For all ly may want to consider hiring valuation is fairly clear. Before the family members, the impact of the career counselors to help family external market has been explored, new wealth can be significant. While employees (and other employees) however, valuation may be less cer- the family may always have been analyze their skills, interests, oppor- tain and leveraging opportuni- wealthy on paper, having liquid tunities, and additional education. ties may be greater. wealth is a very different thing than Depending on the size of the Installment sales to grantor owning valuable business interests. deal and the needs of the family, trusts, GRATs, the use of lifetime It is important for family mem- establishing a family foundation gift exclusion, and the generation- bers to find financial advisors who can provide a second career for skipping transfer (GST) tax exemp- can help them budget properly and some family members. For those tion are all options that should be develop a good understanding of who are younger but find them- considered prior to or at the front realistic spending capabilities with selves in a situation where they do end of the liquidity event process. the new wealth. As mentioned dur- not need to work, the lack of pur- Although GRATs, gifts, and the ing the interview, the liquidity cre- pose resulting from the loss of a GST are all up in the air in 2010, ated from a business sale is not end- job at the family business can be less, and if not properly managed, a tremendous challenge to a rela- it is hoped that we will have some can lead to foreclosures and other resolution on these issues soon. tionship with one’s spouse or part- financial difficulties. Good invest- Family limited partnerships and ner, with children, and in other ment firms can help the owners limited liability companies are also aspects of their personal lives. define their financial goals, model effective planning tools for trans- Many of these individuals have their investment portfolio, and ferring some of the business inter- found a new and satisfying pur- set an appropriate budget for new ests downstream, with the ability pose by taking some of their purchases (like a bigger home) and to use them limited somewhat wealth and devoting themselves long-term spending. For the fami- depending on the corporate struc- ly members of retirement age, the and this wealth to charitable caus- ture of the family business itself. es that motivate them. ones who probably spent the bet- One other planning item to con- ter part of their lives working in sider when a liquidity event may be and building the family business, Conclusion in the nearer future is ownership adjusting to their new "business" Many outsiders look at those who by younger generations. Trusts are of investing can be difficult par - receive money from the sale of a often set up for grandchildren of ticularly in recent years. Finding family business as "lucky" and "liv- the principal-owner generation financial advisors who are willing ing on easy street." While there is before a family business spikes in to go slowly, to educate the client, an advantage to having financial value and without contemplation and to assist the client in accli- security, there is also a lot of emo- of a liquidity event. The trust may mating to a different, and usually tional adjustment and financial own only 5% of the business inter- more passive, role is important. education that must take place with ests, but if the business is sold for For employees of the family busi- a liquidity event. $50 million and the trust provides ness, there are other considerations Litigation, aimless heirs, and for mandatory income distributions as well. Evidenced by Bruce’s expe- financial ruin are only a few of to the beneficiary starting at age rience is the fact that time spent the pitfalls that must be avoided 21, there may be a problem. Deal- working in a family business is not when contemplating a family busi- ing with inappropriate or inflexi- considered a positive by all prospec- ness liquidity event. With proper ble trusts is a topic for its own arti- tive employers, and the skill set of planning and good advice, howev- cle. For purposes of monetizing a each family employee may not er, most shareholders and family family business, however, it is translate well to other business business insiders can make a suc- important to address these issues opportunities. Those employed in cessful transition to the post-sale before the liquidity event. the family business need to consider phase of their lives. ESTATE PLANNING JANUARY 2011 VOL 38 / NO 1