Planning the retirement of the MD or another major shareholder in a family business is often an emotional, complex and time consuming affair. It is normally, but not always in the case of death, a long term project spanning a number of years. The challenges and risks are often more intense in a family business than in a non family one and these have already been discussed in previous blogs in this series.
One challenge that has not been discussed is how does the family business plan for this important liquidity event, without seriously damaging the company’s cash flow and profitability? The MD or major shareholder will need to finance his or her retirement and the company needs to carry on trading with the possibility of a major capital withdrawal damaging prospects.
The best solution for the business is for the incoming or promoted family member to purchase the shareholding plus potentially a portion of goodwill of the exiting member, with new capital from his/her own outside resources. In this way there is a balancing flow of money coming in and out.
This may involve the liquidating of existing personal assets, or taking out a second mortgage on a personal property, or even using capital from a self invested personal pension (SIPP). Before taking any of the above steps independent tax advice should betaken.
In many cases, however, the individual may not have the required personal funds to finance the purchase of all or part of the shares required.
The company itself may have to purchase the exiting members shares, either in whole or in part, or exchange them for an agreed annual payment into a a personal pension plan. An ongoing consultancy agreement may also be part of the mix.
How does a family business raise the necessary funds? In this sort of exercise one should look at raising funds from both existing assets and from raising new capital.
In making use of existing assets to raise finance one should always be careful not to use funds that are needed to run the business from day to day, or to add too much to the indebtedness of the company.
The 3 traditional sources of existing assets are:
• The debtor ledger
• The asset register of existing plant and machinery
• The existing premises if owned by the company
If you are not already using invoice discounting or factoring then the debtor ledger is a quick and easy way to raise funds. You will need expert advice on which provider to choose and what type of invoice discounting or factoring you may require. Most contracts are for full ledger facilities but more and more providers will let you exclude chosen accounts from the facility and many will now allow you to only discount single or selective invoices. Always make certain that you negotiate a six month cancellation clause into any contract.
Sale and Leaseback: If you own outright any plant and machinery or cars and lorries, even if they are now totally written of on the balance sheet, then it may be possible to release any residual capital tied up in them by selling them to a leasing company and leasing them back.
If the company owns their own offices or factory then a second mortgage may be an option.
Raising new capital may not always be possible but areas that should be considered are:
• Commercial loans from your bank or independent providers.
• Government backed EFG loans
• Debt Crowdfunding.
• Trade and stock finance could also be used to free up existing cash flow commitments
If you are hoping to raise any type of external funding it is always sensible to approach your own bank first, they will normally be cheaper and will hopefully already understand your business. But if the bank says no, then there are many independent sources of finance that LGBA are able to introduce you to.
Please remember that any type of borrowing today will require the directors to give personal guarantees. It may be useful to consider personal guarantee insurance. Contact us for more details.
Always seek the advice of an independent specialist to help you be properly prepared for fundraising and to introduce you to the best providers for your needs. UK Business Advisors has access to 100s of different sources of funding.