Business Transitions

Better Financial Results by Increasing the Quality of Strategic Thinking

noreply@blogger.com (Rick Riebesell) — Tue, 17 Apr 2012 19:32:00 +0000

The elements of strategy – the right people, disciplined dialogue, empiricism, creativity, documentation, and reasonable goals – are all necessary. But if strategy links the specific actions managers take to accomplishing goals yielding financial results, what determines the extent of financial results? The better the decision-making at both the policy and executive levels, the better the financial results.

The business strategic planning process may be viewed as a series of decisions. These decisions are best made utilizing the input of policy group members (who have diversity, independence, and decentralization) articulating written judgments concerning planning problems. A collection of these written judgments will constitute a plan. The plan will be executed by the executive officers of the business. To achieve quality, what decisions must be made in an excellent manner?

First, there must be a distinctive value proposition propounded as a matter of policy. Which needs will the business serve, which customers, and at what price? This should be a position that is distinct from competing propositions.

Second, the action plan for executives must contemplate and enhance the value proposition. Will the products be distinctive, so that higher margins are realized? Are operations to be accomplished so that lowers costs are realized resulting in lower prices? The action plan must place the value proposition in meaningful perspective for the executives who must accomplish the action plan.

Third, are choices between options defined and trade-offs made to enhance the value proposition? Executives cannot implement the strategy and enhance the value proposition without a thorough understanding of the plan. Accepting limits is evidence of adherence to the value proposition, which rarely allows a business to be all things to all customers or clients. It is as important to choose what not to do as well as select what is important to do. Policy makers will not be making the trade-offs, rather it will be the executives who must know the strategy and exercise proper discretion.

Fourth, how do the decisions interact? Part of the decision-making process is understanding where intelligent choices conflict. One adjustment is what to do and what not to do, and another adjustment is how to fit the choices to work together for the value proposition. The better the fit, the greater the strength of the plan. Not all the conflicts can be discerned ahead of implementation, but many can. Policy makers and executives working together can provide a cohesive implementation of strategy.

Fifth, change is double-edged. Often change is difficult to initiate, but it is as dangerous to change too frequently, especially for reactive or poorly thought-out reasons. Change must be determined by consideration of unique periods of turbulence, negative aspects of change, and costs of implementation.

Where there is an established decision-making structure and the resulting strategic plan is communicated and understood by the executives, there will be a distinctive value proposition, the action plan will enhance the value proposition, choices made will enhance the value proposition, policy-making and executive decisions will interact to enhance the value proposition, and change will be undertaken only for good reason. These good decisions representing quality strategic thinking will yield better financial results.

Planning, the Basis of Leadership, is not a Lonely Task

noreply@blogger.com (Rick Riebesell) — Mon, 02 Apr 2012 13:32:00 +0000

As a business owner goes from being the only person in the business, to hiring managers, to having other owners, the task of leadership remains the same. The policy of the business, the goals, must be defined. The executives of the business, with the goals in mind, must set action plans to accomplish the goals and must set mileposts to monitor the progress of the action plans. Once there occurs a failure to meet a milepost, the action plan and possible the goal must be reconsidered and the plan revised. The constant, leadership, is the task of communicating the goal and the action plan in such a way as to make it a shared vision, and then monitoring the progress toward the goal, refining and redirecting as needed.

When there is only one person in the business, the planning conversation can be with the mirror, and shared vision is not an issue. As the business grows, there is a need for planning to become a group activity. Then leadership requires taking the goals and actions of the plan and making it a shared vision with the stakeholders of the business, especially those who must execute the plan. This is where many owners fail to perceive an important shift in the leadership task. Now the conversation is no longer with the mirror, before and after the planning the conversations must be with all stakeholders with the intent of accomplishing shared vision.

By definition a shared vision requires more than one person. A plan not communicated will be a plan not executed. The beginning of communicating a plan is to have it in writing. The best way to make a plan a shared vision is to have conceived the plan with the input and contribution of the people who will execute the plan and thereafter have communicated that plan to those people. Much of that communication will be by conversation.

This is not delegation of authority. The owners of the business with voting power will make the determination of the policy for the business, unless they delegate that authority by inaction or intention. However, those policy decisions should be made with full knowledge of the opinions, intuition, experience, and predilections of those who must execute the plan. This information must be carefully gathered to avoid tainting the reality and authenticity of that information. This preliminary work, most of which will need to be done by conversation, will be important to the decisions made in creating the plan, but also to the execution of the plan. Those whose counsel has been sought will better respect the plan, even if that plan may not have decisions made as they would have made them. The act of execution, where the creation of shared vision can inspire successful execution of the plan, is accomplished through effective communication of the goals and actions of the plan and having those goals and actions become shared. This is the culmination of the leadership task.

When the strategic plan has been determined with the input of the stakeholders, carefully sought with care for reality and respect for the perspectives of those stakeholders, and then communicated with care for creating a shared vision of executing the goals of the plan, the execution of the plan, and its subsequent revision and renewal, will enable the success of the business.

Owner-Manager and Owner Tension is Caused by Differences in Tax Treatment

noreply@blogger.com (Rick Riebesell) — Fri, 16 Mar 2012 21:44:00 +0000

Sometimes owner-managers, who provide services to the business, own business interests in the same business with owners, who are not managers and do not provide services to the business. The differences in tax treatment for these two categories of owners causes tension between them, which can result in ownership disputes. The tension arises from the way these different types of owners take profit from the business, especially if the business is incorporated.

Partnerships and limited liability companies have profits or losses treated as having been distributed whether distribution of such amounts actually is made. Owners are taxed on profits and may deduct losses from other income to the extent of their basis (generally paid-in capital) in the business. Owner-managers do not receive wages or compensation for services rendered to the business entity, are taxed on profits, and may deduct losses from other income to the extent of their basis. Owner-managers are required to pay a 15.3% self-employment tax consisting of Social Security and Medicare taxes on profits distributed. Owners are not liable for the self-employment tax.

C corporations (corporations not electing S corporation tax treatment) are taxed on income and are allowed deductions for salaries and wage compensation but not dividends. S corporations are generally exempt from federal income tax (other than on certain capital gains and passive income) and pass-through profit (or net losses to the extent of basis) to shareholders. The S corporation's shareholders include their share of the corporation's separately stated items of income, deduction, loss, and credit, and their share of income or loss on their individual tax return. Thus, the business profits are taxed at individual tax rates. S corporation owners can use the business’s losses (such as those incurred during startup) on their personal returns as deductions to the extent of paid-in capital. The pass-through nature of the income means that the corporation's profits are only taxed once – at the shareholder level. S corporations therefore avoid the so-called "double taxation" of dividends that occurs with C corporations where income is taxed to the business and if paid to the owner as a dividend also is taxed to the owner. S corporations, like C corporations, can decide to retain their net profits as operating capital; however, unlike a C corporation, all profits are considered as if they were distributed to shareholders. Thus an S corporation shareholder might be taxed on income not distributed (actually paid) to the shareholder. Owner-managers active in the business may be able to benefit from funds retained in the business, while owners, not active in the business, will be taxed on undistributed profits. A shareholder of a C corporation is taxed on dividends only when those dividends are actually paid to the shareholder.

The Internal Revenue Code allows a corporation to deduct from its taxable income a reasonable allowance for salaries or other compensation for personal services actually rendered or for payments purely for services. A dividend, like salary, is taxable to the recipient, but unlike salary is not deductible from the corporation's taxable income. So by treating payments of profit to an owner-manager as salary (instead of a dividend), a C corporation can reduce its income tax liability without greatly increasing the income tax of the recipient. Dividends are taxed at a lower maximum rate than salaries (15% for dividends and 35% for salaries) so the allocation may be adjusted for maximum benefit for the corporation and the shareholder. S corporations can save their owner-managers self-employment or Social Security and Medicare taxes by allocating profit amounts between wage compensation and dividend payments (the self-employment tax is paid only on the share allocated to wage compensation). Occasionally the Internal Revenue Service challenges the allocation of a corporate salary on the ground that it is not a reasonable allowance for salaries or other compensation for personal services actually rendered.

Generally, with owner-managers, an S corporation is motivated to pay as small a salary as might be deemed reasonable (reducing the self-employment tax to be paid by an owner-manager), while a C corporation is motivated to pay as large a salary as might be deemed reasonable (to increase the wage deduction against corporate income). An owner who is not a manager does not have the option of receiving funds from C corporation profit as wage compensation. An owner who is not a manager will be deemed to have received profit distributions from an S corporation when the funds were not paid. The decisions made governing payment of salaries and wage compensation and the amount of dividend payments will affect the net amount realized after tax differently based on whether the shareholder is an owner or an owner-manager.

On an after-tax basis, it is difficult to accomplish equivalent payments of profit to owner-managers and owners. Because these decisions are complex, unequal tax treatment may occur even though it is unintentional. The tension created between the parties will increase in proportion to the inequality. The best way to prevent this problem is to organize ownership so that there are classes of ownership and each class is treated appropriately with respect to the other classes. For instance, having two classes of stock in a C corporation would allow two different rates of dividend payments to be made to an owner-manager class and an owner class. While an S corporation cannot have two classes of stock, ownership percentages might be adjusted to accomplish equality in net payments of profit from the S corporation. If necessary, voting and nonvoting classes can be used (even with the S corporation if voting is the only difference between classes) so that control issues are alleviated. Organizing entities so that the net distribution from the business is accomplished in a fair and equitable matter removes a source of tension and prevents disputes between owners and owner-managers.

Fair Value or Fair Market Value?

noreply@blogger.com (Rick Riebesell) — Thu, 01 Mar 2012 21:36:00 +0000

Fair market value is a standard typically used for real estate valuation, certain tax issues, and employee stock ownership plans. Fair value in a legal context is a standard typically used for business interest valuation for estate tax and business litigation. Fair value in a financial reporting context is appropriate for the preparation of financial statements. The terms fair market value and fair value are typically used in business-owner buy-sell agreements without proper consideration of the confusion these terms can cause.

Fair market value is defined by the Internal Revenue Service as the price at which a property would change hands between a willing buyer and a willing seller when the former is not under any compulsion to buy and the latter is not under any compulsion to sell, both parties having reasonable knowledge of relevant facts. It is implicit in the definition of fair market value that the sale is consummated as of a specific date and the title pass from seller to buyer under the following conditions: buyer and seller are typically motivated, both parties are well-informed or well-advised, each participant is acting in what they consider their own best interest, a reasonable time is allowed for exposure of the business in the open market, and payment is made in terms of cash. Compare this to a typical negotiated transaction where differences from the market value conditions may occur in the sophistication of the parties, the information available to the parties, competing offers, tax implications, time to complete the transaction, and payment terms. Negotiated prices occur at fair market value only by coincidence. Investment value is the value to a particular investor for a specific transaction based on individual investment requirements and expectations. Fair market value, which emphasizes average buyers and sellers that are equally well-informed, is derived from multiple negotiated investment value based decisions on a comparison basis.

The Financial Accounting Standards Board (FASB) defines fair value as: The price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Under many state statutes fair value is the standard of value used to determine the cash price dissenting and oppressed shareholders will received in exchange for their shares of stock. Although much debated, this standard of value is widely understood to mean the proportionate value of the whole value of the business. Courts increasingly have interpreted fair value to be a pro rata share of the value with respect to the owner rather than the value a share (typically a minority share) might bring at market. While the general trend in many states is not to allow or limit the use of minority and marketability discounts to a proportionate share, some states still allow the discounts either by precedent, a court's discretion, or special circumstances.

A contractual agreement may specify a value, a formula, or a standard to be used to determine value. If a standard is specified, the agreement may further define the standard and the application of the standard to specify the price for the transaction.

Where business owners enter into a buy-sell agreement, valuation is initiated on the value of the entire business. Then the business owners must struggle with the determination of value of each of their respective interests under varying circumstances. The value for each interest should be the value of the proportionate ownership interest in a going concern. While that value may be the fair market value of the entity multiplied by the percentage of proportionate interest owned, it is not that value further reduced by marketability and minority interest (or lack of control) discounts. While a third-party buyer (someone not currently involved in the business) might pay for certain intangibles (good will or know-how) valued in the fair market value of a business, it is unlikely that owners buying entity interests from one another would be willing to pay for those intangibles they already possess. Moreover, the price will vary with the trigger event, and the payment terms for the interest will vary with the circumstances of the triggering event for the transaction.

The funding for the operation of the buy-sell agreement generally will come from the business that is the subject of the buy-sell agreement. One very practical test for the value standard and procedure for setting the price of a buy-sell valuation is to ask if the business is capable of generating the funds to enable payment of the price. In judging capability, not just the price but also the terms become the critical issue in determining whether the buy-sell strategy can be supported. For example, the death trigger will often cause an immediate payment to become due, whereas a disability trigger may cause a series of payments over time to complete the purchase. With these considerations in mind, the buy-sell agreement must specify in detail the the standard of value and the application of the standard of value. Use of the terms fair market value and fair value will not sufficiently define the value or the process used to specify the price for the transaction.

Conversations Enable Planning

noreply@blogger.com (Rick Riebesell) — Tue, 14 Feb 2012 18:40:00 +0000

The primary obligation of owners of a business is to provide the direction or the strategic plan for the business – to set the goals, provide for the execution of action plans, and accomplish the goals of the business. Where more than one person owns the business, there will be conflict among the owners unless there is a good conversation among the owners about the goals, and, for the most efficient communication, the goals and the plan should be in writing (the strategic plan).

This process starts with a good conversation. A good conversation is where the participants share their points of view by articulating values-based thinking about the business and listening to what other participants say. Values-based thinking and articulation is an accurate reflection of the participant's thoughtful review of that participant's personal values as applied to the business. Most owners will be only vaguely aware of the standards and concerns that compose their personal value systems. Most unthinkingly embrace an array of normative standards to which they assume most caring and intelligent people adhere. Few have consciously attempted to resolve the tension that inevitably arises when those standards and concerns conflict. If a participant’s value system is to serve effectively as the framework for the formulation of a conversation, the participant must first clarify and prioritize its components.

To bring clarity and order to the owner’s personal value system, the owner should reflect on the circumstances and experiences that have informed and shaped the owner’s hopes, fears, and perspectives. The product of this reflection should be memorialized in writing. The writing should be reviewed and altered from time to time to reflect changing circumstances and perspectives. Applying this definition of personal values to the planning of the business will create an awareness and will foster an articulation of how personal values apply to the business. Where this articulation occurs there is no posturing, spinning, or manipulation; rather there is a direct communication of the participant's thinking.

In my experience with businesses with multiple owners, often planning does not occur because the owners cannot have this kind of good conversation. There may be issues of trust or credibility. Sometimes an owner does not wish to think about core personal values as they relate to the business, and, for that reason, cannot engage in a good conversation. Most of the time owners are capable of having good conversations that lead to effective planning, but they must learn the skill of having these conversations and have not given that necessity much thought.

The skill of having a good conversation about planning includes abilities to anticipate an important conversation and prepare for it, to listen patiently to all the other owner has to say, to have defined personal values so that the articulation of these values can be done effectively when it is that owner's turn to speak, and to control emotions so that inflammatory messages, often involving assumptions or fault statements, are not sent. If, as a business owner you do not have these abilities, you should make every effort to acquire them.

The result of a good conversation is often a resolution of the conflicts that exist in the personal values of the owners. If these conflicts are not resolved in planning, they will cause conflicts at a later time when the manifestation of the conflict will have much more serious consequences.

Story of the Business

noreply@blogger.com (Rick Riebesell) — Wed, 01 Feb 2012 15:00:00 +0000

Story of the Business
Every business has a story. It is in the hearts of the founders and often on the walls of offices in the form of photographs and newspaper articles. It is often a story of entrepreneurial hard-work, inspiration, meeting customer or client demands, and pride of accomplishment. Often the story conveys a very favorable view of the business. Yet, often the story is not told.

There are a number of reasons for telling the story of a business. Telling the story lets the customer or client understand some of the motivations for the business. Many times employees do not know the story of the business and are inspired and directed when they hear it. Most importantly, the story reminds the owner of the initial goals and values of the business and compels a comparison with the present status of the business and contemplation of what the business should be.

Those involved with a business, owners, employees, vendors, and customers or clients, are interested and motivated by whether the business has integrity, proceeds credibly, is concerned about its customers or clients, and is insightful. It is one thing to state directly that the business has integrity and is not only motivated by profit. It is more persuasive to tell a story that lets them perceive through their own understanding and interpretation of the story that the business is not only about the money. Saying to a customer or client, "Our business cares about its customers (clients)," is, perhaps slightly better than not saying anything at all, but hardly convincing. On the other hand, tell the business story that conveys the inspiration and work it took to get the right product or service to the customer or client, and the hearer will receive an understanding about insight and integrity from the story. Telling the business story is a much more effective way to convey a values message than merely claiming values in a statement.

Employees need to hear the story of the business in more venues than orientation at the initial day of work. In fact, employees need to hear the story, absorb it for all the right reasons, and then be able to tell the story to customers and clients in such a way that it sincerely conveys the values message of the business.

Strategic planning provides guidance and direction for the business. It needs to be based on and convey in dynamic terms, meaningful in its most recent application, the essential integrity of the founding of the business. This founding inevitably consisted of entrepreneurial insight, development of a product or service fitting the needs of customers or clients, and continual adherence to monitoring and meeting the needs of the customer or client. Strategic planning involves setting goals, defining actions to meet those goals, monitoring through milestones the progress of those actions, and revision of the plan as necessary. The story of the business should affect every stage of this process.

Listen again to the story of the business. How is it told? Does it convey the insight, strength, hard work, and grit that it takes to initiate and maintain a business? Does it convey the concern of the business for its customers or clients? Does it convey the integrity of the business? Does it convey the concern of the business to meet the changing needs of its customers or clients? If not, formulate the telling of the story in a succinct, but efficient fashion. Tell that story to co-owners, employees, vendors, and customers or clients.

Stress Testing the Owner-Managed Business

noreply@blogger.com (Rick Riebesell) — Mon, 16 Jan 2012 16:37:00 +0000

Conducting a thorough stress test on an owner-managed business will determine strategic planning deficiencies and enable the success of the business. A stress test for a cardiac patient consists of monitoring the patient on a treadmill to see how well the heart reacts when placed under the stress of sustained exercise. A stress test for a structure involves placing it under a higher than expected load to see if it is as strong as engineering predicts. Financial regulators place banks under stress tests by using sophisticated software models that allow the testing of certain stresses alone and in combination with other events to see if banks have sufficient capital. These testing procedures consist of the initial inquiry, the application of the stress situation or situations, and an analysis of the performance under stress. It is not necessary to construct a complicated piece of equipment or a sophisticated computer model to accomplish a stress test on an owner-managed business.

The inquiry is to ask “What if . . .?” The application is to follow through the consequences of the event. If a probable event could occur in the marketplace, the application of the inquiry would be to forecast the business experience in the year after the event occurred. If the occurrence of the event will cause the business to lose money without recovery, the application of the inquiry causes the business to fail the stress test. If a business has three owners, the inquiry could be “What would the business experience in the year after the death of one of the owners?” Depending on the role of each in the business, the application of the inquiry would have a different result depending on which owner died. Would it make a difference if a certain owner quit owning because of disability instead of death? Most definitely, for example, if the buy-sell agreement is funded with life insurance, in the case of disability there would be no immediate funding from a life insurance policy. Would it make a difference if the owner left the business? Most definitely, for example, if the owner left to compete with the business and reduced the foreseeable revenue for the business. Would the application of the inquiry cause the business to fail the stress test under any of these inquiries?

While a computer model is not needed, there must be a way to project the economic activity of the business. Generally this can be the profit and loss format of the business accounting on a spreadsheet showing month-to-month performance for a year and allowing for adjustments. With some businesses it may be more meaningful to use a cash-flow format rather than a strict profit and loss format.

Where a probable event in the market will cause the business to lose money without recovery such that the application of the inquiry causes the business fails the test, the analysis and action required will be to anticipate that event with action to create new products or services for the market or find different markets for existing products and services so that the event no longer will cause a failure of the business. If the business cannot generate as extra cash the amount required to make payment to an owner pursuant to existing buy-sell arrangements within the term of time required for the payment such that the stress of one owner leaving the business in a certain way will cause the business to fail the test, the analysis and action required is to adjust the payment and terms of the owners' agreement to more realistically reflect the reality of the business so that the owner can be paid and the business continue.

An important part of the review of a strategic plan for an owner-managed business is to start the stress test procedure by asking “What if . . .?” Do this many times. The more thorough the stress testing procedure, the better the plan will serve the future success of the business.

Creating and Implementing a Marketing Plan

noreply@blogger.com (Rick Riebesell) — Tue, 03 Jan 2012 19:43:00 +0000

The first of the year is an appropriate time to implement a marketing plan. The marketing plan is the primary base for the business – without customers or clients there will be no business. A marketing plan has the same process as any other strategic (long-term) plan: set goals, determine an action plan to implement and realize the goals, and reassess the effectiveness of the action taken. If you have never made a marketing plan before (or a strategic plan of any kind), the important thing is to get something on paper and start implementing. The plan can be supplemented, corrected, and assessed after it has been implemented, but before implementation it is nothing and of no help. Do not let paralysis of analysis delay action.

Set reasonable, specific, and measurable marketing goals in the relevant areas of concern. Identify and describe an ideal customer or client. Do this from recent experience and from what is apparent about the marketplace. The relevant areas of concern for a marketing plan are current customers or clients, centers of influence for referrals, networking, and principal customer or client recruiting.

Generally, consider the dynamic of the marketplace. What is the nature of the demand for your service or product? Is it elastic, where there is competition and price has a great effect on sales, or is it inelastic, where an increase in price does not decrease sales proportionately. What has changed in the last year? Have customer or client needs changed? Determine the demographic for the ideal customer or client and describe it in detail. What centers of influence exists for the ideal customer or client? Identify all referral sources from the last year. Does the description of the ideal customer or client suggest that there are referral sources that are not sending referrals to the business? If so, identify these referral sources.

With respect to customer or client referrals, consider a goal to increase the percentage of customers or clients that refer you business. What is the present percentage of customers or clients that refer business? Set a goal based on past results and devise a method of monitoring the accomplishment of that goal.

Centers of influence are resources that can provide a sustainable source of new clients. Consider a goal of establishing a relationship with a definite number of centers of influence in the next year. Who are the centers of influence relevant to your marketing? With how many do you have a relationship? Set a goal based on past results and devise a method of monitoring the accomplishment of that goal.

Networking includes Internet and face-to-face interaction designed to present the business and its management as a competent and responsible member of the business community. The activity of networking allows information to be shared in the business community that can be beneficial to the business through the establishment of its competency and integrity as a matter of general reputation. Consider a goal of effectively participating in community and informational activities that enhance the reputation of the business. Devise a method of monitoring new business activity attracted or enabled by networking activities.

For a potential customer or client who is known, consider a goal of gaining the business of that customer or client within a set period of time.

For each goal, list the actions to be taken to realize the goal. For example, for customer or client referrals, consider the development of a referral process utilizing thank-you cards, surveys, or meetings; use special events (dinners or social occasions) to keep in contact with customers or clients and create opportunities to introduce friends or relatives to the business; or provide information through scheduled notices or newsletters. For centers of influence, consider specifying events to attend where new centers of influence can be met, joining associations where centers of influence are active, offering to speak to gatherings or write for publications involving centers of influence, and using social networking sites to reach out to and identify centers of influence. For networking, consider developing effective marketing collateral including business cards, capability brochure, information about the business and its story, product or service sheets and capability brochure or information; advertising in appropriate venues; using direct mail as is appropriate; hosting a television or radio show; writing articles for Internet and local publication; hosting public workshops or educational courses; writing press releases on a regular basis; building a website that clearly conveys the capabilities of the business and provides educational resources to prospective and current customers and clients; developing informational and relationship content through blogs, podcasts, webinars, and videos; joining and contributing to social networking sites such as LinkedIn, Twitter and Facebook; implementing a Google Ad Words campaign or some similar variation; and participating in online directories and referral sites. For principal customer or client recruiting, consider sending direct mail to targeted customers or clients, initiating social activities with the potential customer or client, and providing informational resources to the potential customer or client.

To budget the plan, list the goals with the actions to be taken in the left-hand column of a spreadsheet. List the months of the year in the top row of the spreadsheet in the succeeding columns. For every month in which an action is to be taken, place an x for that activity. After that has been done for all activities, replace the x in each month with the cost of that activity. For example, if one activity is to join the Chamber of Commerce, the initial month may contain the cost of the annual dues, and the succeeding months may show estimates of incidental costs involved with attending certain activities. Once all the x's are replaced with numbers, the columns for each month should be totaled and a total column run for each activity row.

To implement the plan, create a marketing calendar setting forth the days of the month when activities should be initiated and completed. Estimate dates as necessary, remembering that what is being created is really a checklist not a calendar. Monitor the plan by making sure that customer or client information is collected to ascertain the source of new clients. On a monthly basis review the implementation of the plan and the monitoring of its effectiveness.

Now that the critical strategic plan for a business, the marketing plan, the success of the plan will depend on adherence to the plan and revision of the plan as monitoring shows what actions are most effective to realize the goals of the plan.

Measuring the Value of a Business Between Owners

noreply@blogger.com (Rick Riebesell) — Mon, 19 Dec 2011 20:47:00 +0000

The concept of the value of an owner-managed business is best understood considering the perspective of the marketplace. Fundamental to the understanding of business value is that the value will change depending upon the marketplace – more precisely, value will change with the circumstances that create the nature of the market.

Buyers who are involved with the business will not pay for the “know-how” or “good will” of a business that a buyer outside the business would consider purchasing. Generally, an inside sale (where the market consists of buyers involved with the business) will not have as high a purchase price as an outside sale (where the market consists of buyers not involved with the business). The term “fair value” is used in legislation and court decisions to indicate the value of business interests between owners of a business. The term “fair market value” is used to indicate the value of a business to those purchasing the business and not involved in the business. Fair value, the value between business owners, results in computation of an overall business value that is less than a presumed fair market value. A minority interest in a closely-held business will be highly devalued for lack of control by a market consisting of buyers not involved with the business, while a market consisting of buyers involved with the business might place a premium on an interest that when acquired would merge with an existing interest to become a majority interest.

Owners will have as a goal the increased value of the business, but when it comes to measuring the value of the business and then incorporating the value concepts into an owner's agreement which contains buy-sell provisions, the concepts often become convoluted. It can get worse because there are more complications, those involving terms of sale and circumstances motivating the sale.

There is an old saying among negotiators: “If you give me my terms, I will give you your price.” Simply put, if all the proceeds of the sale are not paid immediately then the time involved before payment will decrease the present value of the sale. If the purchaser is not going to pay the entire purchase price immediately, the time factor involved in the payment discounts the value of the price. If purchasing owners do not have the funds to buy out another owner, it is still preferable to have a sale with payment of part of the purchase price deferred. (Usually this means that the future success of the business will determine whether the selling owner is paid.)

If the owner selling the business interest is dead, there are circumstances that create the nature of the market which will cause potential buyers to offer less. If the owner selling the business interest is disabled, there are circumstances that create the nature of the market that may cause a discounting of the price a buyer will offer. If the owner is selling because of a dispute with other owners, especially if the departing owner is going to compete with the business, there are circumstances that create the nature of the market which will cause the discounting of the value of the business interest. Note that none of these circumstances potentially affect the essential worth of the business interest over time – they are market causes for a decrease in purchase price for a certain transaction.

Owners want to enter into buy-sell agreements to avoid the potential result of circumstances that create the nature of the market – that death, disability, separation from the business, or a number of other events could cause a diminution in the value received for their business interest. Where there is an effective agreement, the owners of a business form the market place and agree to buy one another's interests in the event of certain triggers initiating a purchase and sale of interest. However, owners generally do not enter into effective agreements because they underestimate the complexity of the determination of a price in a given circumstance.

One of the most frequent mistakes in buy-sell agreements is confusing fair market value with fair value. By definition, a buy-sell agreement deals with fair value (between co-owners) not fair market value (applicable to a purchase of the business by one not an owner). If the basis for value discussion is some concept of fair market value (derived from an appraisal or a comparison transaction price) during the course of a transaction when enlightenment occurs, there will be an attempt to break the agreement. As an example, where two owners each own equal shares and agree to purchase the others interest at the first death of an owner, there will be a purchase for fair value of a one-half interest that will result in the surviving owner having all of the business valued at fair market value. This situation is often described as a windfall and has been the subject of much litigation, but a careful analysis results in an understanding that there is no windfall and that the purchase and sale was for an appropriate price. If this understanding is not properly documented for the benefit of the parties, related parties, and affected parties (as well as their lawyers), litigation is likely to undermine the efficacy of the buy-sell transaction.

Similarly, where the triggers for the transaction vary, some will try to apply the same value, ignoring the concept that the market reacts to circumstance. When buy-sell agreements offer different prices and terms given different triggers and the rationale for this treatment is not appropriately documented, the consulted lawyers, parties, related parties, and affected parties often advise and initiate litigation.

Generally attempts to simplify this complexity with a formula are also problematic, because conditions will change more quickly than will the formula.

When owners consider a buy-sell agreement and desire an effective agreement, the understanding of value must be approached with appreciation of its complexity. The owners should agree on fair market value and then understand that fair value will be the basis of their agreement. For each trigger of anticipated, potential circumstance, there must be a consideration of the price and terms of each transaction reflecting the marketplace issues. The agreement should specify the rationale and procedure for each transaction. Stakeholders (spouses, potential owners, and key personnel) should be advised to the agreement and understand the relative concepts of fair market value and fair value.

Competition Can Help an Owner-Managed Business

noreply@blogger.com (Rick Riebesell) — Wed, 07 Dec 2011 14:56:00 +0000

The owner-manager of a business may not readily recognize the benefits of having competition. Many owner-managers would say they want no competition at all. In the economy of the United States, and in most free market economies, a market with perceptible demand will be served by more than one business. Given that competition is inevitable, it is helpful to understand how to benefit from competition. Generally, the benefits of competition are in market analysis, employee acquisition, and sale of the business.

The function of a business is to meet the needs of its customers or clients. The critical question for every business is: what does the customer or client want? If the consumer is asked directly, the information derived is likely to be inaccurate. The actions of consumers provide more reliable information than their words. From the perspective of understanding the market for your business product or service, ask: why does my competitor have customers or clients? In other words, why have my competitors' customers or clients made the decision not to be consumers of my business? Gathering this information involves data about consumers who decided not to buy your product. This information can be difficult to obtain but the effort will be worthwhile. This inquiry will lead to an examination of the competing products or services and an analysis of the consumer decision. For example, if your product or service is better, than the consumer is not receiving enough information from your business before the buying decision is made. If the competing product is of inferior quality but is sold at a lower price, this is valuable information about the elasticity of demand for the product or service. This information will help you make better decisions about the nature of your product or service and how it is marketed.

Training an employee is a significant cost to a business. Attracting new ideas and learning different methods of conducting the business is extremely valuable to the business. Sometimes competing businesses can cooperate, often through trade associations, in the education and training of employees. From time to time, the opportunity to assimilate new ideas and methods can come from hiring a former employee of a competitor. Often, the former employee will not be fully aware of the value of the employee's experience to a competing business. It can be very advantageous to the business for the owner-manager to be aware of the employment activity of a competitor.

In a situation where there is a need to find a buyer for your business, the first choice is frequently a competitor. From the competitor's point of view, it is easier to expand market share by buying the customers than by convincing customers to change their buying habits. From the business owners' point of view, a competitor is already aware of the value of the business and is interested in the business. If there is already a relationship in place, it is easier to approach a competitor about a sale. In some situations, competitors have been able to enter into agreements providing for purchase and sale of competing businesses given certain owner events such as death or disability.

Competition need not be fierce. Competitors can benefit by sharing information and cooperating on educating the marketplace. Where a market is defined into categories, one business may be the acknowledged provider in one category, while another business may be the acknowledged provider in another category. Many times there are ways competitors may benefit through cooperation in raw material supply, marketing efforts, and training. For example, restaurants have discovered that having more than one restaurant in an area benefits all the restaurants located in the area.

Owner-managers of businesses can benefit by analyzing events at competing businesses and communicating with the owner-managers of those businesses. The result of such attention can result in benefits for market analysis, employee acquisition, and opportunities for the sale of the business.

Implementing the Buy-Sell Agreement in a Closely-Held Business

noreply@blogger.com (Rick Riebesell) — Tue, 15 Nov 2011 15:28:00 +0000

There are owners of closely-held businesses who become disabled or must terminate their employment at the business and fail to realize a meaningful value for their business interest. There are owners, not holding a controlling interest, who will have nothing to say about the outcome of certain business transactions or their departure from the business. There are owners, failing to recruit new owners, who have no one to buy their business at their death. There are owners, failing to extricate themselves from management, who demean the value received for the business because they are an essential part of the business and can no longer be involved to insure profitability. There are many and all varieties of examples of owners not receiving maximum value from their business interest. All of these owners should have implemented a buy-sell agreement in their closely-held business to have received maximum value for their business interest.

Most businesses do not have a buy-sell agreement among the owners because it is quite difficult to negotiate a buy-sell agreement between the owners of a closely-held business. Often the subject matter is difficult to discuss, and the pressures of operating an owner-managed business make it difficult to find the time needed to accomplish this task. As with most complex and difficult tasks, it is best to use a segmented approach and address the various issues one at a time.

The issues that must be discussed and agreed upon can be generally described. The business entity type of the business should be understood in terms of liability and tax consequences for each owner. The group of individuals or entities that own the business should be defined and appropriate restrictions put in place. The governance of the business, including who will make policy and who will be the chief executive, should be clearly defined. The events (triggers) that will cause one or more owners to transfer interests in the business should be defined. The procedure of the transaction occurring after each type of trigger, including funding and payment, should be provided for in detail. For each transaction, the price of the interest transferred should be defined. If the business will act as a buyer in certain procedures, then the means of the business accumulating the funds for the transaction should be provided for in detail. The final task is the consolidation of the decisions into one coherent written document.

There should be a meeting of the owners and appropriate stakeholders to discuss each one of these general issues. For each issue there should be a separate meeting. The meetings should be held at regular intervals. The results of the meetings must be documented in writing. Where issues are technical or outside resources would be helpful, they should be utilized. The documented agreements resulting from these discussions as consolidated into one coherent document will constitute a succession plan.

The succession plan is the basis for the drafting of the buy-sell agreement, a written, legally-enforceable document. Even though there is a written plan to which the owners have agreed, each owner must have separate counsel to review and advise each owner concerning the buy-sell agreement. The exercise of creating the plan will save legal fees overall, but that agreement cannot remove the necessity of each owner reviewing the buy-sell agreement with that owner's lawyer with the perspective of the best interests of that owner as the primary concern.

There are three general phases in the life-cycle of an owner-managed or closely-held business. The first phase is the startup, where the value of the entity is initiated. The second phase is continued profitability, where the business stabilizes, earns a profit, and the owner changes from a producer to a manager. The third phase is where the owner participates only in policy-making and hires management. In the third phase the owner will receive highest value for the business interest because the owner's participation in the business will not be a requirement for the business's continued profitability. An implemented buy-sell agreement can contemplate and assure the transactions necessary to attain the third phase of the business life cycle. Moreover, if the inevitable transfer of the owner's interest happens before the third phase, an implemented buy-sell agreement will provide value for that interest that will be more than would be otherwise received.

Although it is difficult to implement, the buy-sell agreement will provide maximum value for a hard-earned business interest.

As a subscriber to the web site Business Transitions Letter you may download an E-book on Implementing the Buy-Sell Agreement, which treats this subject in a more detailed outline format. Log on and proceed to the download page.

Why Is Values-Based Planning Effective?

noreply@blogger.com (Rick Riebesell) — Wed, 26 Oct 2011 14:04:00 +0000

Why Is Values-Based Planning Effective?

An effective strategic plan is one which benefits the stakeholders of an owner-managed business by stating and accomplishing goals acceptable to each owner of the business. Ineffective plans conflict with an owner's values and cause tension and conflict between owners. If there is no strategic plan or if the plan is not effective, the progress of the business toward its goals will be encumbered to the point that the success of the business may be jeopardized. In drafting the strategic plan, the work that is done in forming goals acceptable to all owners is essential to the effectiveness of the plan and success of the business.

For each owner to agree with and support a strategic plan (express or implied), the goals of the plan should appear to that owner to enhance the owner’s sense of well-being, including a sense of self fulfillment. This comes from the axiomatic observation that if one exercises personal choice in the management of resources in harmony with core values, one will likely experience a sense of self-fulfillment and personal well-being. For a plan to accomplish that sense of personal well-being and self-fulfillment for each owner, that owner must perceive that the plan has been formulated in accordance with that owner’s values.

Where values are not defined or articulated, owners will still have a sense of what they are. Plans (express or implied) which conflict with the owner's values will not seem right and not be satisfying to the owner. Most owners are only vaguely aware of the standards and concerns that compose their personal value systems. Most unthinkingly embrace an array of normative standards to which they assume most people adhere. Few have consciously attempted to resolve the tension that inevitably arises when those standards and concerns conflict with the expressed or unexpressed goals of the business.

Generally owners spend very little time discussing goals, instead there are assumptions declared: "we all want to make as much money as we can" or "this is what we have always wanted." Most owners, even if they develop a strategic plan, are not able to articulate values statements that will communicate what are acceptable goals. The formulation of effective goals comes only after a candid discussion between owners who are articulating their values with clear value statements and through that process accomplish the formulation of strategic goals acceptable to all owners.

The ability to engage in a discussion to set strategic goals resulting in an effective plan depends on whether the owners can define their values and then articulate their values in values statements.

To define values each owner should think about the core values that are important to the owner. A core value is a normative principle that informs and shapes thoughts, desires, feelings, choices, and behavior. A core value is not a preference, but an enduring and essential attribute of character. The following are words describing commonly-held core values and examples of words describing attributes within a core value: integrity – honesty, sincerity, authenticity, dependability, stewardship, and personal responsibility; security – self-reliance, self-determination, self-actualization, prudence, health, education, comfort, acceptance, power, and prestige; and beneficence – philanthropy, gratitude, respect, tolerance, generosity, compassion, service, and justice. A values statement provides information about conduct based upon the core values.

To bring clarity and order to the owner’s personal value system, the owner must reflect on the circumstances and experiences that have informed and shaped the owner’s perspective of life, including hopes, fears, and resolutions. The product of this reflection should be discussed with others as is appropriate and memorialized in writing. The writing should be reviewed and altered from time to time to reflect changing circumstances and perspectives.

For the group effort of the owners to plan based on values, each owner must be able to articulate values statements. To be clear, the owner is not enabling strategic planning if the owner announces that the business should be conducted in an ethical manner. While this is a values statement, a values statement more relevant to strategic planning is: “I have made a commitment to my spouse to be out of the business in five years.” This is a complex and important values statement that must be articulated in the planning process. If the business plan includes a provision to retain the present ownership for ten years, there will be a conflict for that owner, and there will be resulting tension between owners.

Each owner should define that owner's value system and articulate that value system with values statements in conversations regarding the conduct and ownership of the business. These conversations will result in increased understanding about the values and feelings of the other owners. These discussions will indicate whether the owners should be in business together and what the strategic goals might be that are acceptable to all owners' values. The plan emanating from this process will receive the full support of all owners and be effective.

Practice Humility to Become an Effective Business Leader

noreply@blogger.com (Rick Riebesell) — Fri, 30 Sep 2011 20:28:00 +0000

Many, asked about effective chief executive officers, think about “Neutron Jack” terminating the under-performing ten percent or a college dropout becoming a billionaire on the basis of a technological discovery. Of course, some may also think of the methods of General Patton or the “my way or the highway” athletic coaches as models for business leadership. In fact, research shows that in the most successful businesses the chief executives shared a trait considered by some as a weakness and commonly not recognized as important – humility.

Jim Collins, after five years of research, in a seminal article in the Harvard Business Review (January 2001) entitled Level 5 Leadership: The Triumph of Humility and Fierce Resolve , concluded that having a leader who was an individual with humility and resolve was critical to business success. This research was the basis for Collins' book Good to Great, published in 2001. According to this research, executives who possess “extreme personal humility with intense professional will” are “catalysts for the statistically rare event of transforming a good company into a great one. ” These leaders are “a study in duality: modest and willful, shy and fearless.”

The trait of humility involves acknowledging one's own weaknesses, recognizing the contribution of others, and having the will to serve for the common good. The humble chief executive will recognize, take responsibility for, and absorb mistakes, failures, and personal shortcomings. The humble chief executive will solicit and recognize the contribution of others in the business. Where the will to serve those in the business eclipses any self promotion, the authenticity of humility will be established, and mutual trust will develop along with an abiding sense of loyalty. This is the essential environment for effective team performance.

None of this means that the humble executive is without conviction, but the humble executive is not arrogant. The process of making good decisions requires extensive information, review of comparable decisions, consultation with those experienced, and consultation with those required to execute. The executive practicing humility is superbly positioned to engage in effective decision making and make more good decisions than bad decisions. The humble executive is also superbly positioned to analyze and question a decision as it is being executed upon and is not prevented by pride from acknowledging the need for revision. From this comes a firm and overriding conviction, not only on the part of the executive but on the part of the team (who has been involved in the decision-making), that the path is right and success will be forthcoming. The discipline of the executive's humility forges the tensile strength of the conviction of the team. With this strength, the humble executive can be quite aggressive.

What is done in the exercise of the discipline of humility? Other contributions are appreciated and recognized. Others are not judged inappropriately, and attribution of blame is avoided. Praise is redirected to those who have contributed. Knowledge is not flaunted, but displayed at appropriate times. There is a recognition of the need to teach and train to the greatest extent possible. There is a perception and acknowledgment of errors. There is a culture of listening that encourages communication.

Far from being weak, the humble executive will be strong. The humble executive practices a discipline enabling good decisions and creating the will and resolve for the business team to succeed.

Using the Income Statement

noreply@blogger.com (Rick Riebesell) — Fri, 16 Sep 2011 18:44:00 +0000

The income statement or profit and loss statement shows how much the company earned or lost during a specified period. While the balance sheet shows the fundamental soundness of a company by reflecting its financial position at a given date, the income statement shows the record of its operating activities for the period covered by the statement. The record for a series of periods is more important than the figure of any one period of time, therefore, it is customary to include two or more periods in the statement.

An income statement matches the amounts received from selling goods and services and other items of income against all the costs and outlays incurred in order to operate the company. The most important source of revenue will be the first item on the income statement. With most companies it is net sales. It represents the primary source of money received by the company from its customers for goods sold or services rendered. The net sales item covers the amount received after taking into consideration returned goods and allowances for reduction of prices.

In a manufacturing business, cost of sales represents all the costs incurred in the factory in order to convert raw materials into finished products. These costs are commonly known as product costs or cost of goods sold. Product costs are those costs which can be identified with the purchase or manufacture of goods made available for sale. There are three basic components of product cost: direct materials; direct labor; and manufacturing overhead. Direct materials and direct labor costs can be directly traced to the finished product. For example, for a furniture manufacturer, lumber would be a direct material cost and carpenter wages would be a direct labor cost. Manufacturing overhead costs, while associated with the manufacturing process, cannot be traceable to the finished product. Examples of manufacturing overhead costs are costs associated with operating the factory plant (plant depreciation, rent, electricity, supplies, maintenance and repairs, and production foremen salaries).

In a service business, similar numbers may be stated for the cost of providing services.

Gross margin is the excess of net sales over cost of goods sold. Also called gross profit, it represents the residual profit from sales after considering product costs. Gross margin divided by net sales yields gross profit margin – expressed as a percentage.

Operating expenses generally consist of depreciation and amortization expenses and selling, general and administrative expenses (including overhead expenses such as wages and salaries, rent, and supplies and excluding interest on money borrowed and taxes). Subtracting operating expenses from gross margin results in an operating income or loss for the period. This is also called earnings before interest and taxes (EBIT). Dividing that by net sales yields operating profit margin or EBIT margin and is an effective way to measure operational efficiency. If this number is low, raise revenues or cut costs. With some businesses it may help to break these numbers down to customers or clients to see which are the most profitable.

Return on assets (ROA) measures how much profit a company is generating for each dollar of assets. Calculate ROA by dividing the net sales figure from the income statement by assets from the balance sheet. Calculate return on equity (ROE) by dividing the net sales figure by equity from the balance sheet. The number derived will be sales generated for each dollar of equity.

Since the income statement shows performance over a time period, it is meaningful to compare the current period to immediately past periods to determine trends. For example, if the profit margin increases from period to period, the business has become more profitable, this may occur even if the business does not grow. Comparing other ratios from period to period may help determine the problem areas of the business.

Cash Flow Management

noreply@blogger.com (Rick Riebesell) — Mon, 29 Aug 2011 21:46:00 +0000

A dangerous situation occurs when the manager of a business does not understand that the balance of the business bank account is not the cash balance of the business. Even if the financial statements of the business show that the business is profitable, the business still may not have enough cash to continue operations. If a business is making last minute moves to create more cash, such as emergency loans (usually at a higher interest rate), out of the normal course of business collection efforts, or, worse, laying off employees, there is a good chance the manager is managing cash flow from the business bank account not the actual cash balance of the business.

The bank balance and the cash balance are two different forms of cash. Rarely will the two ever be the same. Reconcile the bank balance, do not manage from it. Cash flow from normal operations is sales revenue less cost of goods sold, other costs and taxes. Knowing the cash balance of the business requires up to date and accurate accounting. Moreover, an effective manager must predict the cash needs of the business in time to prepare for liquidity problems.

Here are some processes to put in place to establish effective cash management:

1. Create a cash flow analysis spreadsheet. Set up a spreadsheet to predict potential cash needs in advance. The spreadsheet should have a date for each column, generally the day you plan to pay bills. Dates are typically weekly for the next six weeks and monthly out to 12 months. The rows consist of: beginning balance for the sheet and a formula for each column; an array and total for cash receipts (include revenues and cash from outside sources such as loan proceeds and capital contributions); an array and total for expenditures (expenses, capital expenditures and loan payments); ending balance formula (balance transferred by formula to beginning balance of the following column). Limit the number of rows in major categories to keep making a projection manageable. Typically there are 3 to 5 cash receipts lines and 10 to 20 expenditure lines. Accounts receivable and accounts payable reports are considered with receipts and expenditures that do not go through these systems. This will show the cash balance now and the cash balance projected at milestones out to 12 months.

2. Develop budgets. Under best practices there will be a strategic plan containing projected accounting statements. From these statements and from the operating plans created to realize the goals and mile stones of the strategic plan, there should be budgets based on a realistic review of past performance and reality using the general principle of underestimating revenue and overestimating expenses. These budgets, once the cash flow spreadsheet indicates the budget is unrealistic, will need revision as will the strategic plan. The budget must establish the profitability of the business – revenue must exceed expenditures. Having cash on hand does not guarantee profitability. Expenditure decisions should begin with a forecast of profitability – not a quick look at the bank account to see if there is enough cash at that moment.

3. Manage account receivables. Make sure the basic processes are in place: receive payment before or on performance if possible, bill on or before performance, consider discounts for early payment, verify the receipt of billings or invoices (confirming payment will follow), mark a follow-up date if payment is not received and on that date contact the customer for payment arrangements, deposit checks immediately, and be very careful about extending credit to customers (analyze each extension of credit with current information and document contracts against an established credit policy).

4. Manage account payables. Pay bills on time to avoid finance charges or penalties. Ask vendors for terms longer than 30-day terms rather than be late. When cash is tight, weigh each payment’s importance and delay those that are least essential to your business. Examine payment options such as paying at the end of a term with a credit card so that the cash expenditure is delayed for up to 60 days.

5. Manage inventory. To have good cash flow, there must be sufficient products and staff for customers’ needs, but not at excessive levels that consume too much cash. Use vendor and supplier terms and financing (for example, 90-day inventory floor financing). Make informed decisions about how much of a certain item to order - and when. Inventory that is not being transformed into cash is useless. If you have out-of-date inventory, the best strategy is to sell it for the best price you can.

6. Working Capital Cycle. Working capital is a financial metric which represents operating liquidity available to a business. Along with fixed assets such as plant and equipment, working capital is considered a part of operating capital. Net working capital is calculated as current assets (including inventory) minus current liabilities. Since the three major elements of working capital, accounts receivable, inventory and accounts payable, can all be expressed in days, they can be collectively expressed as the working capital cycle. The working capital cycle is equal to the average days of an account receivable plus the average days of an inventory item minus the average days of an accounts payable. While the working capital cycle number will varies from industry to industry, it should remain fairly constant within the business and should not vary much seasonally. When business slows, the dollar balances of accounts receivable and accounts payable should drop significantly but inventory dollars may drop more slowly. To keep the working capital cycle constant and cash flow healthy, manage collections aggressively, plan ahead to reduce inventory before a slowdown, and extend payments to offset slower inventory turns.

7. Maintain marketing. Marketing and advertising are the last budget items that should be cut in dire circumstances. Marketing efforts should be a constant of business operations.

8. Establish credit lines. Many business owners underestimate cash needs by assuming future profits will occur. Work with bankers to establish long-term, low-interest loan access for more credit than you need when times are good.

9. Establish a reserve. Prepare for the future by maintaining a reserve in interest-bearing accounts. Some businesses accomplish this by saving a certain percentage of revenues as a matter of course.

Managing cash flow requires current and accurate accounting information placed in an understandable spreadsheet that allows the business manager to know the current cash balance and projected cash balances. Managing cash flow from the business bank account leads to dangerous, if not fatal, liquidity problems for the business.

Implementing the Strategic Plan

noreply@blogger.com (Rick Riebesell) — Sun, 14 Aug 2011 12:46:00 +0000

Why is it that once the strategic plan is documented (written), nothing seems to happen until there is a discussion about the plan not working? Successfully implementing a strategic plan requires the frequent and intense monitoring of milestones, the systematic questioning of the plan, and the revision of the plan as necessary.

The concept of business planning is familiar. Goals are perceived, action plans are formulated, and milestones are set. What also is familiar is that not much happens after the formulation of the plan. When nothing happens, frequently the error is revealed when recent history shows the planning process has been experienced as chapters, with each chapter featuring a new plan.

The correct paradigm leads to implementing the written plan by initiating action, monitoring milestones, and asking, as is appropriate, “Why isn't this working the way it was planned?” Most of the time the plan will not get it completely right. No one has a perfectly clear crystal ball. When the plan is wrong, it needs revision – on the fly. Change the plan, change the milestones, but achieve the goals. If the goal cannot reasonably be achieved, change the goal to one that can be achieved.

One of the most unproductive endeavors in business is to attempt to determine if the failure to reach a goal is due to an error in strategy or a failure to implement the strategy. If the milestone monitoring indicates that strategy is not capturing reality, then revise the strategy. Do not let impractical or unrealistic strategy become the basis for an excuse for failure to reach the goal. If the milestone is not reached because of conditions other than strategy, then the action plan should be revised so that the next milestone can be met.

Once there is a strategic plan in place, if it is being properly implemented, there will not be a need for a new strategic plan. With best practices, the strategic plan in place will be constantly revised. The revisions should be considered with a decision-making process comparable to the development of the plan. The revisions should be written and communicated – meaning that the failures causing the changes also are documented and communicated. The milestones should be considered essential guidelines on business performance on an individual and group level.

When milestones are intensely monitored, the question will continually be raised, “Why isn't this working the way it was planned?” Do not allow this to be an idyllic inquiry. Determine why, make the necessary changes, and ask the same question at the next milestone. The benefit of creating the plan is to have the perspective to ask that question, over and over, when implementing the plan.

Control of a Business with Multiple Owners

noreply@blogger.com (Rick Riebesell) — Tue, 02 Aug 2011 13:49:00 +0000

The presence of other owners can greatly affect the actions of a majority-interest owner of a business. Usually an owner of a majority interest in a business ultimately will be able to control the business; however, there can be significant problems relating to having other owners holding minority interests.

Majority owners often want to allow a key employee, a spouse, family member, or an investor to become a minority-interest owner. The reasoning often includes a belief that if the employee has a stake in the future of the company the employee will be more motivated to enhance the best interests of the business, a desire to reward past performance, a strategy to avoid paying interest on a loan, or a meeting of an investor's requirement. Usually, notwithstanding the transfer of some ownership interest, the majority-interest owner intends to maintain control (including the ability to sell the business, control compensation and make all important decisions).

Generally speaking, in the absence of a relevant written agreement between the owners, the laws of most states provide certain rights to a minority owner. Upon the sale or dissolution of the business, the minority owner is entitled to a proportionate share of the proceeds remaining after all debts are paid. If there is a distribution of profits, the minority owner is entitled to a share of the distribution. The minority owner may demand an accounting of the business, usually a limited right to examine the books and financial records. If the majority owner oppresses the minority owner, typically by failing to observe one or more of the aforementioned rights or engaging in fraud, the minority owner may have the right to sue for breach of fiduciary duty. The remedies for such a legal action could include receivership (where the business of the company is taken over by a court-appointed receiver) and dissolution of the business. Imagine an angry minority owner, vindictive over some real or alleged slight, initiating a legal action asking that the business immediately be controlled by a receiver and over time be liquidated. While the majority-interest owner may ultimately prevail, all owners will have lost because of the damage to the business caused by the proceeding.

No matter what the business entity, certain business decisions will require a super-majority interest agreement. Some important corporate decisions will require a two-thirds or three-fourths majority, and many limited liability company decisions require unanimous member (owners) consent. A dissenting minority interest could affect the majority-interest control on these issues.

In the absence of a written restriction to the contrary, a minority owner could sell the minority interest to a third party (perhaps a competitor).

Where a minority owner is present, the action of the majority owner will be limited by considerations of fiduciary duty and concerns with voting requiring a super-majority for action. Certain actions of the minority-interest owner (such as selling the interest to an undesirable party) should be restricted.

Where there are several owners, the majority-interest owner will be controlling only if that owner has the right to obtain minority interests from the minority-interest owners upon the occurrence of certain events. These events, where a minority-interest owner is likely to be dissident, are readily foreseeable and are those where the majority-interest owner's control could be affected. For example, a written agreement between the owners could provide that in the event of a termination of employment, the minority ownership interest of the employee must be sold back to the business. Such an agreement between the owners also can deal with foreseeable issues regarding the death or disability of the majority owner, management involvement of the owners in short-term operating decisions and in critical business decisions (funding of the business or sale or merger of the business), payments to owners based on equity, and compensation payments to employees.

For both the majority and minority interest holders, issues of value and control in certain foreseeable situations should be the subject of a written owners' agreement. This agreement, depending on circumstances, is sometimes referred to as a buy-sell agreement or shareholder agreement and should be based on the written succession (strategic) plan of the business.

What CEO's Do to Deserve High Compensation

noreply@blogger.com (Rick Riebesell) — Wed, 20 Jul 2011 14:11:00 +0000

Chief executive officers of businesses are among the most highly compensated in the United States economy. Why is this? How can one individual be worth many times more compensation than a typical worker in the business?

One cynical answer is that CEO's have the power and influence to get their sticky fingers on the cash of the business and hang on to it until it is in their pockets. But directors who represent shareholders and elect CEO's (as well as determine their compensation) are not idiots. These directors are required by law and their own self-interest to find and properly compensate effective CEO's. Once a successful CEO is found, there is usually a good reason to compensate that CEO very well to maintain effective business performance. There is a good reason why CEO's are compensated the way that they are.

Simply put, successful CEO's have a demonstrated ability to communicate a goal and then get a group of people to engage in action to accomplish the goal. Public companies are the most visible example of this ability. The board of directors sets a policy – a strategic plan – for the CEO to execute. A CEO of a public company will determine a forecast (set a goal) through discussion with the board of directors and communicate that goal to the investing public through the financial press and to the workers of the company through internal company communications. Within a year and periodically through the year, usually at the end of a designated quarter, the performance of the company will be evaluated. If the forecast and the preceding mileposts are met, then investors are reassured and continue to hold or purchase the stock. If the mileposts and forecast are not met, investors may decide to sell the stock and fewer investors will be motivated to buy the stock. For a public company, a CEO who can deal successfully with this process of setting and meeting a goal will provide a much higher rate of return for the shareholders of the company than will a CEO who fails to meet the forecasts.

An excellent example of this is in the book, Who Says Elephants Can't Dance? In the book Louis V. Gerstner, Jr. tells the story of the turnaround at IBM while he was CEO. Gerstner had the initial perception that IBM did not need a long-term strategic vision, but needed to become a market-driven and profitable business. With the Board of Directors support, he was able to communicate these goals and cause the business to accomplish them. On Gerstner's watch, the owners received a substantial return on whatever compensation he was paid. In 1993 the return on stockholder's equity for IBM was -35.2%, in 1994 it was 14.3%, and in 2000 it had increased to 39.7%. What Gerstner did was to communicate the goals and monitor actions taken to accomplish the goals.

Taking this example to the private company, a CEO who can consistently accomplish goals will be moving the business in a predetermined and desirable way. While boards of directors in the public sector are forced by shareholder reaction to terminate CEO's who fail to realize forecasts, boards in private companies (if they exist as viable entities) are often dealing with the owner as CEO. This fact explains why it is quite unusual to find unsuccessful CEO's in public companies, and not at all unusual to find unsuccessful CEO's in private companies.

The value of an effective CEO in a private company can be very high. With an appropriate strategic and operational goals to accomplish, the CEO's actions can determine whether a business reaches those goals. CEO's who accomplish appropriate goals create wealth for the owners of the businesses they lead. A successful CEO deserves a high level of compensation.

Owning and Controlling a Business

noreply@blogger.com (Rick Riebesell) — Thu, 07 Jul 2011 15:12:00 +0000

Owners know that if an owner is an indispensable part of the management of the business, the business will be less valuable to a sophisticated buyer. Owners fear that a relinquishment of management activity will mean a loss of control. By appointing the appropriate policy makers over time the owners can control policy, but not necessarily immediately affect operations which are directly controlled by executive officers. The challenge for many business owners wishing to obtain maximum value for their business is to delegate the management role without losing control.

Generally, the owners of a business appoint policy makers and hire executives to manage producers and carry out the policy. In the traditional governance of the business corporation, the owners are the shareholders, the policy makers are the directors (elected by shareholders) forming the board of directors, and the policy is carried out by the executive officers (president, vice president, secretary, and treasurer elected by the board of directors). The additional element of the business is the production of the product or the provision of the service. During the formation of a business, frequently all of these elements are directly accomplished by founding owners. As the business grows, owners typically decrease their participation in the production role, but often owners have difficulty in withdrawing from executive roles.

Owners becoming policy makers fear that the creation of policies in the form of a plan, even if it is in writing and well determined, will not be enough to keep the business on track or prevent costly blunders. Often, these owners as managers have operated without strategic plans, defined goals, and milestones. These owners have not seen how policy makers can control a business.

Where the board of directors provides a written plan with clearly defined goals and milestones, but only annually reviews performance and makes revisions to the plan and the execution of the plan, there is a lapse of control. But where the board reviews performance monthly and effectively communicates its performance review to management, there is control. If the execution of the policy has no milestones except for a reevaluation of the policy at a later time, the control of the owner is diminished. However, if there are milestones for policy execution and requirements for policy reevaluation in short-term intervals, the owners' control is enhanced.

Just as the competent manager defines projects, sets goals with appropriate milestones, monitors consistently, communicates performance reviews with producers, and revises expectations to deal with reality, the owner as a policy maker can control the executive managers and ensure the appropriate performance of the business. The owner as a policy maker must not only see to the creation and documentation of a well-determined plan, there must also be a clear and consistent communication of goals and milestones with frequent reviews and analysis of the execution of the plan, the need to revise the plan, and the need to implement changes in the way the plan is being executed.

Founding owners who have delegated the production element of the business can meet the challenge of delegating the management element of the business by understanding and effectively utilizing the policy-making element of the business. Meeting this challenge will enhance the value of the business.

Changing From Owner-Manager to Owner Realizing Maximum Value

noreply@blogger.com (Rick Riebesell) — Sun, 19 Jun 2011 15:26:00 +0000

As a business owner you should recognize that you will receive more for your business interest if you are not a manager in your business. If now you are a manager, your interest is worth less. Also, you should know that if the business had to transfer now because of your illness or death, the amount your family would receive would be much less than if you were not a manager.

You know an owner approves policy and allows others to execute the business operation. As an owner-manager you should delegate management activities. You know you should find a chief executive officer to run the business. You know you will not be able to run the business forever. You know you could die or become disabled and may be forced to transfer the interest at any time. You know you have competitors with younger owners with new ideas and looking to lower your profit margins.

Why haven't you acted? You say you have taken this management role for the sake of the business. You created the business and this role. You have not found anyone else who can do what you do to create the success. Are you comfortable that these are valid reasons for not getting maximum value for your business interest? Could it be that you are afraid of losing control? Are you flattering yourself that there is no one else who could do what you do?

You are not alone. Many founders, even though they know they could fail to realize maximum value from their business interest, continue to be owner-managers instead of owners. If you want increased value and wealth for you and your family, stop your management activity. Here is how to make that change.

First, gather the resources and information you need. Assemble the information by listening to business stakeholders and those operating the business. Seek out those who have accomplished the change and find out how the change was accomplished. Do not be reluctant to ask for help and advice.

Second, create a written plan with the other owners and the stakeholders of the business. State the goals clearly and establish mileposts for performance.

Third, understand that change cannot occur where discipline and focus are weak. If you are not disciplined against the seduction of the irrational notion that you are the only one who can do the management work in the business and if you do not continually focus on finding one or more people to do the management tasks you are now doing in the business, the change will not occur.

Fourth, Take the change in steps over a time period that allows for the complete process to come into place and be effective. Since you founded the business or the position you have, the right person with the right set of skills may be hard to find, or it may be necessary to refine job descriptions so that more than one person does those duties. Do not think that you can do it all at once, that it will be easy, or that it will be immediately successful. Citing early difficulties as failures to stop the change process is a failure of discipline – a way to go back to the fallacy that you are indispensable to the business success.

Fifth, be accountable. Make a written plan with the other owners. Let the other stakeholders in the business know what are the goals and how they are to be accomplished. Allow the other stakeholders in the business to help, but understand that if the process fails, it is you who are accountable for the failure. Owners often procrastinate or derail management change based on fear that they will no longer be able to control the business. This is less likely to happen where stakeholders are aware of the process.

The change from owner-manager to owner creates wealth for the owner and the owner's family. It is not easy, but neither is founding and maintaining a successful business. Generally, owners have created a successful business and are quite capable of executing this change to create increased value in the business interest. To realize maximum value from your business interest, change from being an owner-manager to being an owner.

What Can I Get For It?

noreply@blogger.com (Rick Riebesell) — Mon, 30 May 2011 11:57:00 +0000

To receive maximum value from a business interest an owner must experience highest possible profits during the operation of the business and the greatest possible amount of proceeds from a transfer of the business interest. It is one thing to operate a business and accomplish the highest possible profit, and it is another to accomplish the sale of a business interest for the greatest possible amount of proceeds. When the owner focuses on the transfer of the business interest and how to receive the greatest amount of proceeds from that transfer, the first question is often: “What is it worth now?”

The value of a business interest can be described through an appraisal, which is one perspective of worth or value. The information obtained from an appraisal will be relevant and interesting, but it will do little to verify the proceeds to be received from a transfer simply because there is no transfer. There are in many appraisals information about comparable transfers, replacement value of assets, and the balance-sheet accounting of the business. None of these things will tell the owner the answer to the most important practical question: “What can I get for it?” Of course, the final answer comes after the completed sale.

The dilemma for the owner is that an involuntary transfer of the business interest can occur at any time. The involuntary sale could be caused by the owner's death, disability, or various unintended legal actions (bankruptcy or divorce, for example). The intelligent owner then will also ask: “In the event of an involuntary transfer, what can I get for it?”

Planning for a business interest transfer involves consideration of the concepts of inside and outside sales of the business interest. An inside sale of a business interest is a sale to another owner who is already involved and knowledgeable about the relevant business. This inside buyer will not pay extra for “know-how” or “trade secrets” of the business, since the buyer is aware of them, but the buyer will pay for the benefits of the business organization and other valuable assets of the business that the buyer would have to acquire to create a new independent business. An outside sale of the business interest is to a buyer not involved in the business and not in possession of the “know-how” and “trade secrets” of the business. This buyer must purchase more to have a business that can operate. An outside sale will yield more proceeds to a seller owner than will an inside sale. Therefore, an owner seeking maximum value from sale of a business interest will have the goal of accomplishing an outside sale. If the outside sale cannot be accomplished (such as in the case of an involuntary transfer), an inside sale is better than no sale at all.

The hedge of the inside sale can be confirmed between owners by the use of an owner's agreement which provides for the purchase or sale of the relevant business interest between owners triggered by certain events usually relating to those that cause involuntary transfers of the business interest. This agreement is commonly referred to as a “buy-sell agreement.” The agreement establishes a market with the owners constituting parties who depending upon circumstances could be buyers or sellers at certain established values. The market established by a buy-sell agreement is respected by the courts and the IRS and answers the owner's question: “In the event of an involuntary transfer, what can I get for it?”

With this important question answered, the business owner can plan to maximize proceeds from the sale of the business interest to an outside party for maximum value by developing a business which is not dependent on any owner for production or management. The sale to an outside party will provide maximum proceeds for all owners. Until that sale can occur, the buy-sell agreement hedges the value of each owner's interest.

Business Transition Consulting LLC enables owners to create a succession plan which can be the basis for an effective buy-sell agreement assuring an inside sale and preparation for an outside sale for maximum value.

Why Do It?

noreply@blogger.com (Rick Riebesell) — Sun, 15 May 2011 12:25:00 +0000

The owners of a business will have one overriding goal – even considering lifestyle and independence concerns. They are in business to make the most money they can from the business they own. Yet many owners fail to accomplish that goal because they fail to fully develop the business to receive maximum value from the business.

Owners make money from a business in two ways. First, they make a profit from the operation of the business. Second, in the event of the sale of the business, they receive value (the net sale proceeds) for the business. To make the most money from a business, the owners' strategy must include the goals of highest possible profitability and receipt of maximum value as a result of any sale of the business. Many owners forget that an involuntary transfer of the business, which can occur upon an owner's death or disability, could happen at any time. Moreover, in a given time frame, more money can be derived from selling a business than operating it.

A savvy business owner will derive maximum value from the business by developing the business to be attractive to buyers at the highest possible price. Selling a business for maximum value is an established wealth-building transaction. Yet, most business owners have businesses that do not attract buyers and will not sell at maximum value. What can a business owner do to attract buyers willing to pay maximum value for a business?

Generally a reasonably intelligent buyer will pay a price based on the contemplated return on the buyer's investment. The value derived by the seller (the price level) will be directly related to the profitability of the business and the phase or stage of the purchased business in the normal private business cycle.

The normal business cycle has three stages. The first stage is the start up, where the owner-founder produces and manages the business. The second stage is where the owner-founder becomes an owner-manager, ceases production activities for the business, and manages the business. This second stage is usually characterized by the consistent making of profit. The third stage is where the owner hires others to manage the business.

A third stage business will derive a greater value to the seller than will a business in the first or second stages. If the seller is an owner-manager and integral to a business in the second stage, the seller must either remain after the sale as a highly paid employee or be replaced by a highly paid employee thereby reducing the return on the investment to buy the business. If the business is in the first stage, the problems on realizing a return on the purchase investment compound: the business is new and may not be consistently making a profit and the role of the owner-producer will probably have to be assumed by the new owner.

Most business owner-founders have the strategy to get to stage two by making a profit as soon as possible and maintain that status. For a variety of reasons, many businesses stay in the second stage and the owner remains a manager of the business. To maximize value derived from a business, the business should become a third stage business (with the owner not managing the business) as quickly as possible so that the opportunity of a sale for maximum value is available.

Business Transition Consulting enables second stage businesses to transition to third stage businesses.

If Congress Does Not Act, Tax Increases are on the Way

noreply@blogger.com (Rick Riebesell) — Fri, 16 Jul 2010 17:27:00 +0000

On July 14th, 2010, approximately 30 legislative days before the fall elections and less than six months before significant portions of the tax code expire, the Senate Finance Committee held the first substantive hearing on the implications of allowing the Bush tax cuts to expire.

The tone of the majority of the witnesses and comments by the Chairman suggest this hearing was designed to anticipate higher rates next year. Most of the Bush tax cuts enacted in 2001 and 2003 went to middle- and low-income Americans, not the rich. So the pending tax hike is going to impact regular families in a very real and harmful way. With just 30 days of legislative session left before the elections, even a well intentioned effort to extend those tax policies may fall short.

Also, the hearing demonstrated the lack of a plan for what happens beyond 2010. Even if Congress extends some or all of the 2001 and 2003 tax cuts, something more comprehensive is needed.

Senators Jon Kyl (R-AZ) and Blanche Lincoln (D-AR) yesterday evening introduced an amendment to make permanent changes to the estate tax. The estate tax is not in effect in 2010 but unless action is taken will return in 2011 with a top rate of 55 percent and an exclusion of $1 million (in 2009 the exclusion was $3.5 million). We may go from a system that taxed the sale of assets at low capital gains rates or allowed the carryover of basis on inherited assets to one where the capital gains rates will raise, the exclusion be reduced, and the allowance of a carryover basis restricted. Conceivably this could be one of the largest tax consequences in United States history.

The Lincoln-Kyl proposal is designed to mitigate this harm and uncertainty by making permanent a middle ground on taxing estates. Key provisions in the bill include: reducing the top estate tax rate to 35 percent; increasing the exclusion from $1 million to $3.5 million; and allowing the estates of deceased taxpayers to choose between no estate tax and limited carryover basis or the provisions included in this plan for 2010.

Missing from the proposal are any revenue increases or spending cuts to offset the revenue loss of the lower rates and higher exclusion. The selective pay-go rules adopted by Congress earlier this year would have allowed Congress to extend 2009 estate tax without offsets (which was not done), but any reduction in the estate tax beyond that would have to be offset or face a 60-vote Budget Act point of order. This problem appears to be unresolved.

The question now is whether there is enough time in the legislative calendar for this or any other proposal to be adopted. The most likely outcome is that no proposals will pass. The result will be significant tax increases for business owners.

Do You Care What the Supply Curve is for Your Market?

noreply@blogger.com (Rick Riebesell) — Sun, 11 Apr 2010 22:33:00 +0000

In the last email we discussed that the supply and demand curves create an equilibrium market price for a product. Understanding the demand curve for the market for your business can be beneficial with respect to making decisions about price, production, and understanding consumer satisfaction. Trying to understand the supply curve helps focus on decisions our market competitors may make.

Unlike the demand curve, which moves inversely to price, the supply curve moves directly with price (as price goes up, the production of the product increases).
This reflects the willingness of producers to produce more products as long as the consumer is willing to buy at a price that is greater than the cost to produce. In a market place where prices is high because consumers cannot find all the product they want, competitors will be attracted to the market to increase the supply.

When we try to construct a supply curve for a market, we are trying to understand what choice is now available to the consumer and what that choice might be in the immediate future. These are important determinations in the strategic planning for a business. Critical to this inquiry are two factors. Is the market one which is difficult to enter? Is our product different from other products, by brand identification or quality, that its utility to consumers cannot be easily duplicated?

In a market with history, we will know what the equilibrium price is – that is the current price. By constructing demand and supply curves on a graph, we attempt to portray with an objective numbering scheme our perceptions and forecasts about the market. Next time we will talk more about this and putting production information into the analysis.

Do You Care What the Demand Curve is for Your Market?

noreply@blogger.com (Rick Riebesell) — Sat, 30 Jan 2010 01:34:00 +0000

Economic theory tells us that supply and demand create an equilibrium market price for a certain product. There is a benefit for an owner-manager of a business to understand the demand curve for the market for that business. Understanding the demand curve can help with price decisions, production decisions, and documenting consumer decisions (enabling effective response to changes in consumer interests).

When we try to construct a demand curve for a market, by necessity we are defining a market and then seeking to understand the value equation of the consumer. These are very worthwhile and rewarding things to do. We are trying to determine at what price the consumer will buy more or less of our product or services. To do this we must obtain from the consumer information about the effect of price on a decision to buy. Generally we know the higher the price, the less likely the purchase of additional units.

If we obtain the consumer information by survey, we may find various responses from consumers which may be listed in spreadsheet columns. The sample responses can be used to derive information about the amount consumers would purchase at certain prices. Usually these responses become columns of information on a spreadsheet (price and quantity) which then can be used to create a graph (price on the y axis and quantity on the x axis). In a market which is highly competitive and the products very similar, the demand curve will tend to be flat (parallel to the x axis) because price will be a determinative factor and production will be increased until the marginal cost of the last unit produced equals the revenue produced by that unit. On the other hand where unit is very differentiated from other units by quality or design, the demand for a particular unit will be much less affected by price and the demand curve will tend to be vertical (parallel to the y axis of the graph). In this type of market, price will be increased until production is at the point where the marginal cost of the last unit produced equals the revenue produced by that unit. The slope of the demand curve generally will indicate whether we sell many units at a lower price (high competition), fewer units at a higher price (differentiated products), or something in between.

Once you have developed a demand curve for the market, there are a number of different ways to use this information and the graphical portrayal of the information to analyze and make critical business decisions. More about that next time.