By Anthony M. Vincent – Managing Director of Transact Capital Partners
“Liquidity is defined as converting your business investment into cash.” Anytime an elder business owner has an opportunity to generate liquidity in their company, the opportunity should not be overlooked. Running any business has inherent risks, and just like investing in stocks, liquidity risk increases as you get closer to your time horizon. There may always be value in your business, but other than distributions, no liquidity until you sell.
Unfortunately, owners who are older no longer have the luxury of time to spend years on damage control, fixing bad strategies or waiting for a new cycle in the market. The inability to navigate risky situations could result in the insolvency of the company. Owning a business is akin to gambling in some respects and we all know that the laws of statistics do not allow a winning streak to continue without some interruption. Something unexpected is usually just around the next bend.
Business owners of all stages of their company’s life cycle should periodically review and weigh their exit options. Not because the company may be in a bad place but because it is sometimes a smart business decision to “take chips off the table”.
Timing the sale of a business to maximize value is a very difficult undertaking with no correct answer. No one knows what the future will bring or how that future may affect your business.
If an owner wants to both liquidate 100% of his or her equity and quickly exit the business, acquirers will usually offer a lower acquisition price. This is partly a result of the greater difficulties that are anticipated in running the business if the owner is not available to help with the transition and integration process. Buyers offering a full price will ask the owner to hold a seller note to mitigate their risk. As sellers age, seller notes are less attractive for obvious reasons and elders cannot maximize the business value.
There are many reasons why elderly owners are reluctant to sell even when they have no other exit plan. Studies have proven that they may be unconsciously illogical when considering options at their stage of their life, avoiding the very real issues that are looming in the background. Although I am not a psychologist, I have constructed a list of reasons based on my decades of working with aging business owners. I offer these here:
• Fear of not having anywhere to go every day or anything to do if they sell.
• Fear of being alone and losing the companionship of their fellow workers.
• Fear of being swindled and having limited recourse due to their age.
• Loss of control… fear of being powerless and losing their importance to their employees and also family dependents.
• Fear they will pass on if they don’t work. This common belief has been proven many times. Many owners have limited or no outside interests or family, and the business is their life.
• Fear of liquidity. This sounds contradictory but a lot of money can be a big responsibility and can generate a considerable amount of anxiety, especially if you have limited experience managing money. My clients that have been most excited about liquidity were those planning to gift all or a large portion of the money to charity. I’ve advised them that trusts can be set up in advance for a tax free transaction when the proceeds are going to charity.
• The inaccurate assumption that “if I can get “X” dollars now for the business, I can always get that amount later”. This is a totally fictitious assumption for reasons to long too list here.
• The assumption that making annual income in the future can justify selling later at a lower price. I can easily walk you through the “present value” analysis using tax rates, risk rates and investment returns to prove this wrong.
• Finally, they have no need for the money, don’t know what to do with it, and… they are afraid friends and family will want money from them forcing them into difficult situations. Not having liquidity solves that problem.
All life altering decisions are difficult and many become more difficult as we get older. Changes in rationality and the way the elderly evaluate risk could explain why decisions become more difficult and why they are more likely to make the wrong decisions affecting everything from their health to their finances.
According to the latest research, poor choices made by the elderly can’t be attributed to their lack of math skills or a fear of financial losses. In the study, people over the age of 65 tended to be inconsistent when making decisions in which there was one obviously correct answer.
“We found it surprising and stunning,” says study co-author Ifat Levy, Assistant Professor of Comparative Medicine and Neurobiology at Yale University. “These are highly functional older people, and all of the older participants performed well on multiple cognitive tests but they still got it wrong more often than younger people did.”
While they were far less adventurous (more conservative) than younger adults when making choices about possible gains, they seemed to throw caution to the wind when it came to making decisions about potential loss.
That could have less to do with cognitive changes and more to do with the shifting value they place on risk and benefit as they age.*
* The research, which was published in the Proceedings of the National Academy of Sciences. Information quoted from Maia Szalavitz is a neuroscience journalist for TIME.com.
Tony Vincent is a Managing Director at Transact Capital Partners. He has extensive experience in working with business owners, across all industries, to plan and achieve their exit goals. He also has extensive knowledge in private business valuations and is a passive investor in other business ventures. Please contact Tony, or any of our other experienced professionals, for a confidential and free consultation on how our transaction-related services can help achieve your business goals.