A friend of mine has a very successful side business. In fact, he earns more on his side business than he does from his full-time job. The only problem is that if he were to get hit by a bus, his business (and the income he earns from it) would disappear. That means that the value of his business (currently $500, 000) would vanish.
You see, Hans’ business depends entirely on Hans. Even though he has formally created a Professional LLC, his business is vulnerable. He writes music for video games on the side, and if he isn’t jingling, he won’t earn any money. Writing music at this level requires a highly skilled individual. It’s not a skill that’s easy to replace.
Even if you aren’t a music composer, you might be facing a similar problem if you own a small business. Bloggers, financial planners, doctors, accountants, and others all face this issue. It can be boiled down to one simple question: how do you capture the value of your business if you aren’t around to run it?
If you face this dilemma, here are the steps I suggest you take:
1. Buy life insurance
This is a no-brainer, even if you don’t run a small business. But it’s especially important if you do own your own shop. The purpose of the insurance is to replace the income your family would lose if you die prematurely. Make sure you have enough life insurance to replace your side income, as well. By doing so, you’re effectively buying time for your loved ones to deal with their loss.
2. Get friendly
Get out there and make friends with your competition and be on the lookout for a potential buy-out partner. You’re looking for someone who is successful, trustworthy, reliable, and smart. Obviously, the person has to have the skills necessary to run the business, but they also must be extremely concerned about the well-being of their own family.
This latter point is important because, ideally, you’d like someone who wants you to help them as much as you want them help in case of emergency. That puts a different spin on the transaction than if you wind up selling to a complete stranger.
The sooner you do this the better, because it will take time to identify the right partner. Don’t rush in to anything. Meet several times and meet with a number of people. Discuss the issue of continuity and capturing value of your business. Does the issue resonate with this other person? What are her concerns in this matter? Make sure you are both on the same page.
The process of identifying the right candidate could take a year or more so be patient.
3. Let’s make a deal
Once you’ve found the right person, it’s time to seal the deal. Basically, your goal is to arrive at some value of your respective companies. It doesn’t matter what it costs to start a small business like yours.
The value of your business will typically be a multiple of the gross or net income. This way, as the income grows, and as the value of the business grows, your family is protected. You would come to an agreement as to how the business would be paid for and over how many years.
In other words, the buyer might pay your family over five years after your death, or they might pay for the business immediately upon your death. This latter strategy might involve you buying life insurance on each other. I strongly suggest that you seek legal representation when drafting the final agreement.
4. Roll up your sleeves
Just because you’ve found the right person and executed an agreement, don’t think you can rest easy. Now is the time to enmesh yourself in each other’s business. That’s right. The value of your business will be maximized if – and only if – your buyout partner is able to keep the business running.
The only way they’ll be able to do that is if they are well acquainted with the way you run things. This means you’re going to have to pull back the curtains and show your buyout partner the inner workings of your business. That’s why you have to find a person you trust and that’s why this is a long process.
5. Baby’s got back (up)
It’s great to pursue this process with one other person, but realize that you may have second thoughts. Your agreement should allow either party to back out prior to death or being diagnosed with a fatal disease. This is where your extra life insurance comes in. I love cheap term life insurance, and this is a case where it can really come in handy.
In addition, you can train someone else (e.g., your life partner, spouse, or adult child) to keep the business going for some period of time until he or she can sell it. This should never be your number one plan if your spouse or life partner has little or no interest or special skills in your area of business.
The bottom line is that, if you go through this process, you’ll definitely capture more value and put your family in a position to survive (if not thrive) in your absence. If you ignore this issue and (Heaven forbid) you die prematurely, your business will be sold for pennies on the dollar – or go down the drain completely.
Do you have any tips for capturing the value of your business in case of emergency? If you’re a small business owner, have you developed a continuity plan? If not, what are you waiting for?