When I meet with business owners, it seems they want to talk primarily about their investment portfolio. What I often discover, however, is that their current investment portfolio is a fraction of their potential net worth, unless they’ve already had a liquidity event and sold their business.
For most entrepreneurs, their greatest potential for dramatically increasing net worth will not come from improvements in their investment portfolio. It will come from a liquidity event when they transition their business.
Yet, most business owners tolerate far more risk for their business and their equity than they would ever tolerate from their investment portfolio. Most of the time, unfortunately, they don’t even recognize this risk.
Perceived risk is different for differing people. Most business owners are successful because they have a high tolerance for a certain kind of risk. They display an indomitable disposition that consistently sees the cup as half full. They have very high confidence in their values, work ethic and ability to manage their business. If they didn’t have this mind-set, they would not be successful.
But this same mindset puts their greatest asset, and by extension their greatest potential to increase net worth, at far more risk than is necessary. Far too many entrepreneurs do not take simple steps that would substantially increase the likelihood of the best possible liquidity event.Here is a story of a business owner who entertained more risk than he should have and the lessons learned that I know will benefit business owners everywhere.
The soft drink king
Just to be clear, I have changed the facts in this story to protect the identity of the individuals.
George was a young executive with a minority share of equity in a soft drink company. William, the founder of the soft drink company, had run the business for several years and taken it as far as he could. He hired George, a younger executive with a lot of energy, to help him move the company to the next level. George was so successful that William made him an equity partner with a minority share.
Within two years, William’s health began to fail. George did not realize that he was about to be in a partnership with the founder’s wife and children, who knew next to nothing about how to run the business. Because William retained a majority share, his heirs could make decisions contrary to the best interests of the business and George could do nothing about it. George’s equity was about to be at risk.
The indomitable spirit of entrepreneurs is both their greatest strength and their greatest weakness. There are many things that business owners cannot control and there are the inevitabilities of life. If your business structure, operating model and exit plan do no accommodate these factors, your business and your net worth are probably at greater risk than you realize.
Here are just some of these risks and the accompanying questions you should be asking yourself.
- What happens to my ownership interest if I die? Do my loved ones have the ability to convert my business equity into liquidity? Will my family be taken care of?
- What happens if my partner/s die? Who will I be in partnership with? Will my partner/s family members seek to liquidate their equity? What are the implications for me and for the business?
- What happens if I become disabled?
- Will the company be willing and able to fund my income and replace my role?
- What happens if my partner/s become disabled?
- How will the company fund their income and replace their role?
- If I want to retire from the business, who will buy me out?
- What if my partner wishes to retire? How will the company fund his retirement?
- Who will replace his role in running the business?
Third Party Sale or Transfer:
- What if I am approached by a third party buyer?
- Do I have the ability to sell?
- Can my partner sell his interest to a third party without my approval?
What should you do if you face these risks?
Many of these risks can be mitigated with proactive planning and properly structured legal agreements. Some, but not all, of these risks can be mitigated with insurance products. There are certain risks you’ll just have to live with.
But the most important thing is to understand where you and your family are at risk and then to assess options. This is usually best accomplished with the guidance of a third-party expert who has experience in these areas.
The majority of Americans who have accumulated substantial wealth have done so not only because they owned a business, but also because they maximized the equity in that business, often from a liquidity event.
If your business does not recognize some of the factors noted here, you may never get a chance to join the ranks of the wealthiest Americans. One of my goals is to help every business owner I serve maximize every possible source of net worth. If you feel your business is at greater risk than you would like, let’s have a conversation.
Whitnell is not an insurance firm and does not sell insurance products or represent insurance companies. You are urged to consult the services of an insurance organization concerning your unique situation.
Whitnell is not a law firm and does not give legal advice. The information contained herein should not be construed as legal advice or a legal opinion on any specific facts or circumstances. The contents of this article are intended for general information purposes only, and you are urged to consult a lawyer concerning your own situation and any specific legal questions you may have.