We routinely comment on the sheer size of the exit planning opportunity, especially in light of the number of boomer business owners getting ready to retire. And just as often, we wonder why more boomer advisors aren't on board. Given the market meltdown, the pressure to diversify revenue streams and gain new areas of expertise is mounting. Exit planning is one more weapon to add to your arsenal of services - and a big one at that.
Past issues dedicated to exit planning focused on exit planning experts, and highlighted available resources for interested advisors. We're again featuring a prominent expert in the field, but as a twist, we've also included a boomer client who is near completion of the exit planning process. The point of this? To highlight the emotional nature of the subject, which makes the perspective of the client all the more valuable.
Jim Brubaker is principal with Exit & Retirement Strategies Inc., a National Financial Partners-affiliated firm with offices in Colorado and California. He has 36 years in the financial services business (yes, 36) and has zeroed in on exit planning. The relationships he develops through the process means he'll manage more of his clients' retirement assets when all is said and done. His client, Lee Sola, is perfect for our mini-case study. Having just turned age 59, Sola's ready to begin transferring out of his business, and is just about finished with a plan to do so. We ask both about the time, logistics and emotions when developing such a plan. An excerpt of the interview is provided here. For more, visit www.boomermarketadvisor.com.
Boomer Market Advisor: What was the impetus for beginning the exit planning process?
James Brubaker: Lee and Connie Sola are the owners of a construction-site supply business, and have been clients of mine for some time. We initially discussed exit planning three or four years ago. Step one was a series of questions: Where are they currently? What are their goals (and not just financial goals)? What do we need the business to do to get them there?
Step two was thinking about what we want it to look like from an emotional or from a family-relations standpoint? Which step is more important? Money's important to a point, but with most clients it's a lot of other things. Connie said, "We have Thanksgiving together as a family every year. We want to keep it that way. If it's going to interrupt that at all, I don't care if we sell the business." [The Solas] had offers to sell, but they wanted to keep it as a family business, which complicates the exit planning process.
BMA: So you're talking about an inside transfer to other members of the family?
JB: Exactly. Lee, the father, is the chairman and Connie, the mother, used to work there but is now semi-retired. Son Jon is the president of the company. Son Matt is the vice president and chief operating officer. He manages the people and gets the trucks to where they need to be. Daughter Kristen is office manager and runs the accounting side of the business. And Kristen's husband is involved as well, as the HR guy. So there's a lot of family involved, which is a tough dynamic. They've worked together for a lot of years and now that they're becoming owners the dynamics are changing. The CPA firm met with Lee to discuss ideas. I went to the meetings also. I knew the dynamics of the family and the CPA knew facts and solutions. It's a dynamic process because it's not final as far as what's going to happen. We know what's happening in principal, but will it be accelerated, will it be spread out? Will some of the stock actually not get transferred until death, which could happen if the costs are too high.
BMA: How far along in the process are you?
JB: We were able to identify what won't work and we've narrowed it down to what will work. We discounted things like an outside sale. An outside sale is not completely eliminated, it's just not on the table at the moment, but it could be a fallback plan.
BMA: How do you get paid?
JB: We charge a fee. It wasn't as high as normal, because of the long term nature of the relationship. It's a one-time fee, but there are ongoing fees as well, especially when it comes to monitoring their retirement plan and managing the assets from the transfer. It's a financial planning fee, we just don't like that term.
BMA: How is the sale being funded?
JB: An internal sale with a payment plan over a longer period of time. A long term payout usually doesn't work. There are a lot of reasons, but just the costs involved tend not to make it a very good deal. But with a family, a long term sale is OK because if the principal dies it goes to the family anyway. If it's an outside sale to non-family members, that isn't as good a deal. Also, what if the business doesn't make it and your retirement's tied up in it? That's another big risk. Every business situation is different. Every family dynamic is different. In this case, it works.
BMA: How old is your construction-site supply business?
Lee Sola: It started in 1994, so 14 years. It's grown significantly in that time. It started from zero and we're going to do about $7 million this year.
BMA: Have there been sore spots in terms of control of the business? Have you divided it equally?
LS: The business will be divided equally between the three children. We have four, but only three work in the business. Originally, there were emotional differences between our two sons, so we divided the business so that our oldest son will be president of the company and our youngest son will be a vice president and chief operations officer. There was a little bit of a contention, however, so the three kids will also be on the board of directors and the president does report to the board of directors.There's a system of checks and balances in place.
BMA: Did Jim play the role of a family therapist or was that something that you could work out with your children?
LS: No, Jim helped us work that out. We had hurdles that we had to overcome and Jim and I came up with a plan together to make the kids more involved and more responsible to each other. It was good to have a disinterested third party. Everybody felt that they could trust him equally.
BMA: How, specifically, is the sale structured?
LS: The kids will receive annual bonuses. So with the gift exemption that we're allowed every year between Connie and I, and the bonuses they receive, the net effect of those bonuses will go to purchase stock. It's purely a stock transaction. Connie and me will have the long term capital gains on the money we receive from the kids, and they'll have the personal income tax on the bonuses they receive. Between the gift and the bonuses, they'll then purchase stock over what will probably be a 15- to 20-year period. It has to be reassessed by our accountants every two years so it meets IRS stipulations.
BMA: How does the plan adjust for volatility in the market, especially now?
LS: We have an annual review by our accountants. But we also do an extensive budgeting process each year to get a feel for what our revenue will be. So far, barring this economy, we've been pretty darn good at estimating where our revenue's going to come from and locking it in.
BMA: What kind of an exit planning education did you initially receive from Jim?
LS: He was great about explaining the in's and out's of the process, and what it entails. We told Jim what we wanted to do and he presented us with three or four different options. We then sat down with the kids. This was about a year process. We had family meetings, discussed each individual item and listed the pros and cons. This was the one that made the most sense for all of us.
BMA: What was most surprising about the process?
LS: I hadn't even thought about the plan that Jim finally came up with. I don't have a problem paying taxes, but I think the tax structure that we find ourselves in today is weighted toward people that are in small businesses -- those like us that are Sub Chapter S corporations -- so all the profits get taxed. It's a huge tax burden that we bear right now, so I wanted to first, avoid the kids having to take on a tremendous amount of debt to give Connie and I a wheelbarrow full of money, and second, I wanted Connie and I to avoid the tax consequences if we sold the business. We would lose a huge portion of it in some kind of a tax settlement. So the plan that Jim came up with was an eye-opener. I didn't realize something like this was available and it just worked perfect for us.
BMA: Any disappointments in the process?
LS: When we first presented it to the kids, there was a vote, and one of our sons was against the plan and really didn't see it as being beneficial to him personally. That was disappointing because I really thought it was a great plan and that everyone would jump on board. But he's come around. He now realizes it's in his best interest, as well as ours.
BMA: Give us an idea of the size of the exit planning opportunity for financial advisors who have yet to catch on.
JB: Close to half of the small business owners in America are set to retire in the next five to 10 years. Most do not have a plan in place to know what's really going to happen at that time. There's a huge opportunity and it's a completely underserved market. Even though we hear the term more often now, there's very few people doing much with it.
BMA: Do you find there's resistance to the concept because of the expense and logistics involved? Why not set up a buy/sell cross-purchase agreement and be done with it?
JB: It's overwhelming for them to start. There always a lot of other things going on that seem to take precedence - the stock market, the unknown economy based on the sector their business is in.
BMA: How do you ease them into the whole exit planning concept so they don't get immediately turned off?
JB: Various ways. Education is one of the best, but it should be entertaining education, so that they can learn a little bit about financial planning for retirement - the traps to avoid, for example. We educate them on the different areas they need to think about. But it's not starting at "A" and going to "Z," but starting at "F" with something they might not have thought about.
BMA: With the number of different paths and scenarios you set up, I assume exit planning is really all about contingency planning.
JB: We'd like to if at all possible set up at least two paths, always. One being, "What if I sell?" You would say to an outsider, "We want the business ready for sale, not up for sale, but at least ready for sale." The second path is, "What if we aren't able to sell?" Or if it's an inside buy-out it will take a lot more time. But at least they give themselves the financial security either way.
BMA: Do you implement some kind of Monte Carlo type simulation and probability analysis for each one scenario?
JB: We definitely need to use simulations in the first step of the process, which is identifying where they are currently and where they want to end up. I don't want to discount Monte Carlo, but there are some more advanced simulations that are better tailored to exit planning. They're more realistic about what can happen. We use sequence-of-return type tools that are specific to the financial part of exit planning. We need look at their liquidity event and then, once it occurs, what happens to the money. What can we expect it to do? It's another step past Monte Carlo.
BMA: Is it harder or easier for you now to convince people of the value of exit planning in the current market environment? Does it make the case for exit planning?
JB: I think it makes the case for it. It's still all about relationships. Throwing an advertisement in the paper doesn't fill up our doors. I think it's easier to realize the need and get the conversation started in the current market. But at the same time, I would say it's harder to do a full exit plan because of the uncertainty. In this type of environment we're tackling one thing at a time and using a more modular approach to the plans.
Overall, clients are panicked a bit. Business owners, in particular are worried about their net worth. But often, they're more concerned than they should be. They really aren't that bad off. The business owner, in his own business, is used to working with facts and then adjusting as needed. And that's exactly what we do in the exit planning process.
