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Presented by: Chuck Burkett, CA, CFP, TEP Mark Grey-Dreaper, CACBV, CMAP Business Succession Planning.

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Presentation on theme: "Presented by: Chuck Burkett, CA, CFP, TEP Mark Grey-Dreaper, CACBV, CMAP Business Succession Planning."— Presentation transcript:

1 Presented by: Chuck Burkett, CA, CFP, TEP Mark Grey-Dreaper, CACBV, CMAP Business Succession Planning

2 2 Introduction Succession planning is a process – not an event Most businesses do not have a succession plan Existence of a Succession Plan

3 3 Succession Planning… Stakeholders in the succession process Customers Employees Suppliers Competitors Family You

4 4 Establish a team of advisors… Banker Financial Advisor Lawyer Accountant Business Valuator

5 5 Succession Options… Transfer to a successor Organize a management buy-out Sell the business to a third party Close and liquidate

6 6 Selling to a successor… Often a family member Could be a key employee Plan for the successors development Communication is very important

7 7 Management buy-out… Involves a group of key employees Ensures retention of key employees Often the management team lacks financial resources If vendor is providing financing, he may feel there is less risk in selling to management than to a third party Building a cohesive team is key in a successful MBO Communication is very important

8 8 Selling to a third party… Buyers may include a competitor, an industry consolidator May require the vendor to stay on for a period of transition Consider things that can be done now to enhance the value of the business in the future

9 9 Close and liquidate… Often the result of not having a succession plan Normally results in the least amount of value being realized

10 10 Understanding Value… The value of a business is a function of: Ability to generate future cash flow The risk of those cash flows Value of underlying assets Presence of purchasers in the market Determined at a specific point in time

11 11 Components of Business Value… Tangible Assets Intangible Assets Goodwill Asset Approach Cash Flow Approach (CCF / DCF)

12 12 Identifying Goodwill… Commercial (Transferable) Individual (Semi-Transferable) Personal (Non-transferable)

13 13 Capitalized cash flow formula… Value is a function of Cash Flow, Risk, and Growth Where: CF 1 represents expected cash flow for the next period. R represents the required rate of return to investors. G represents the level of long term growth in the core business. Value = Cash Flow orV = CF 1 Risk – GrowthR – G

14 14 Example Appraisal Practice…

15 15 Normalizing Adjustments…

16 16 Adjust for taxes and SCR…

17 17 Building up cost of equity…

18 18 Develop overall cost of capital…

19 19 Capitalize Cash Flow…

20 20 Rule of Thumb (careful!)…

21 21 Using Market Comparables…

22 22 Three Types of Sale… Sale of assets Proprietorship Partnership Corporation Sale of shares Corporation Sale of partnership interest

23 23 Consideration may consist of… Cash Bank financing Vendor take back (VTB) (3-5 years) 1/3 - 1/3 - 1/3 Non-competition agreement Earnout where goodwill is uncertain

24 24 Tools in Succession Structuring… Vendor financing Tax strategies Estate freeze

25 25 Vendor Financing… Often necessary, particularly where significant goodwill is being sold. A vendors willingness to offer financing will depend on the % of the transaction to be financed, amount of equity invested by the purchaser, and the vendors assessment of the buyers ability to be successful Issues include: security, interest rate, repayment period, recourse in event of default

26 26 Sale of the assets of the corporation A purchaser will generally prefer an asset purchase Generally a more straight forward transaction Purchaser does not assume contingent liabilities of the selling corporation Purchaser gets to bump the tax basis of the assets to what was paid for them Income Tax Issues…

27 27 Sale of the assets of the corporation Generally will result in a higher tax liability to the vendor Which assets are included in the sale? Are any liabilities being assumed? Accounts Receivable Prepaids Tangible Capital Assets (equipment, land, buildings) Goodwill & other Intangibles Income Tax Issues…

28 28 Sale of assets of the corporation After-tax proceeds remain in the corporation Additional personal taxes are payable on distribution Income Tax Issues…

29 29 Asset Sale – Planning Allocation of the purchase price Timing – CCA and recapture Retiring allowance if company is being wound up Owner-manager remuneration planning –Individual Pension Plan –Salary vs Dividends –Capital dividend elections Income Tax Issues…

30 30 Sale of the shares of a corporation Calculation of capital gain / loss Tax is payable by the exiting shareholder Individual Holding company Income Tax Issues…

31 31 Strategies to reduce tax on a gain of sale of shares Sale of any unrealized losses in the year Use net capital loss carry-forwards Minimize income from other sources in the year Claim Capital Gains Exemption Make RRSP contributions Claim a reserve for deferred proceeds (max. period 5 years) Income Tax Issues…

32 32 Capital Gains Exemption Lifetime limit of $750,000 of exemption available The exemption is more properly described as a deduction. (the gain is reported and included in total income, then a deduction is claimed to offset the gain) The deduction is only available to individuals, not where there is a sale of shares by a holding company Income Tax Issues…

33 33 Capital Gains Exemption The company sold must qualify Must be a Canadian Controlled Private Corporation At the time of sale, ~ 90% of the fair market value of the assets must be used in an active business 24 months prior to sale, 50% or more of the fair market value of assets must have been used in an active business Income Tax Issues…

34 34 Capital Gains Exemption All or some of your claim will be denied if If you have previously used all of your $750,000 lifetime limit If you have claimed an Allowable Business Investment Loss if the past If you have a cumulative net investment loss balance Income Tax Issues…

35 35 Planning for Capital Gains Exemption Ensure you are eligible Ensure the company qualifies If the company has non-active assets, consider strategies to remove these assets Income Tax Issues…

36 36 Estate Freeze Used very often in family successions Can be a tool in an arms length sale Generally structured to be a tax-free transaction Income Tax Issues…

37 37 Pre Freeze Dad & Mom Opco Common Shares ($1mm) Estate freeze illustration…

38 38 Steps in the Estate Freeze The company creates a class of preferred shares A valuation is prepared to determine what the existing common shares are worth The corporation makes an exchange with the common shareholders. The common shareholders receive preferred shares that have a value equal to their former common shares The successor can then buy common shares for nominal value since all of the corporate value belongs to the preferred shareholders Preferred shares are redeemed over time Estate freeze illustration…

39 39 Post-Freeze SuccessorDad & Mom Opco Preferred Shares ($1mm) Common Shares Estate freeze illustration…

40 40 Enhancing Value Prior to a Sale… Appropriate management and staffing structure Contracts and non-competition agreements with key staff Up-to-date Information Systems Labour-saving Technology Processes and Training Systems to improve efficiency and reduce required level of skill and judgment Transactions at economic rate Efficient operations and stable margins Upgrades well in advance of sale

41 41 Other Planning Prior to a Sale… Eliminate or separately ID non-commercial Related Party Transactions and Redundant Assets Books and legal affairs in order Up-to-date Business Plans Resolve / Identify and quantify high risks and contingencies Appropriate tax structure and leverage Realistic view of value and transaction structuring Hire your Buyer!!

42 42 Valuation Summary… Valuation issues are key to any succession plan The issue should be addressed early and revisited as time passes Value is not static; it is an on-going process Value can be enhanced through strategic planning

43 43 Other resources… Canadian Association of Family Enterprises (CAFE) Canadian Federation of Independent Business (CFIB) Others..

44 44 Thank You for Your Time! Questions? Mark Grey-Dreaper, CA-CBV, CMAP XPS Group Inc. Ph: Chuck Burkett, CA, CFP, TEP Burkett & Abercrombie Ph:


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