Does retirement always have to mean selling your small business? For many small business owners, their business provides great meaning in their life. It provides a sense of belonging, a sense of purpose, of community, social connections, identity, legacy, passion, and pride.
I believe we need a new roadmap for helping small business owners manage their personal and financial lives in “retirement.” Rather than leaving their business altogether via sale, why not have a flexible exit and succession plan that enables you to maintain the benefits of ownership, while managing work on your own terms as you approach retirement?
Imagine that you have developed enough wealth outside your business that you and your family don’t need any money from the business to successfully retire. You have achieved the freedom to make the choice of whether you stay or go without consequence.
You have the privilege of being able to work less, work the schedule you want, and adjust your schedule as you see fit or as your desire to work changes. You can continue in your business on a day-to-day basis doing what you love the most. You also can sleep well at night knowing that your family’s needs are taken care of without the pressure of having to sell something that provides so much meaning in your life.
Consider Sam, a successful small business owner who came to me for a business valuation. Sam started his construction company in the 1970s. Today, he employs eight people and grosses just under $1 million in sales every year with a net income of roughly $200,000.
When I asked him what he planned to do after exiting his business, he said, “Oh, no, I don’t want to leave. Things like golf and travel are kind of boring to me. I only work three days a week most of the time, but I don’t know what else I would do to keep busy without my business.”
He went on to say that a longtime friend of his died in his sleep the other day, and he just wanted to have a plan for what happens with his business in case that happens to him.
Through the years, Sam had purchased and paid for the commercial real estate that housed his business, and the business next door. He had paid off his personal residence and had developed a decent-sized investment portfolio.
Sam easily could retire on his other investments, even if he never sold his business. Sam was in an enviable position, having the choice to stay or go because he was no longer financially dependent on the business or proceeds from the sale of his business to establish a secure retirement.
At our firm, we call this highly successful group of business owners “The 2 Percent Club” because only 2 percent of business owners achieve this level of financial independence. Let me share some of the common steps we learned from the 2 Percent Club.
Members of the club understand business valuation. They purchase commercial real estate for their businesses. They establish and maintain a standard of living that enables them to invest 50 percent of their income. And then they join the 2 Percent Club by realizing total financial independence.
Here’s some elaboration on each of those points for you to consider:
Understanding business valuation: Cash flow drives valuation, so take steps to increase your cash flow. To create maximum value, you have to maximize profit and cash flow. Around 94 percent of all U.S. businesses are worth just five years of their profits. It doesn’t matter where you’re located, how nice your office is, or how many awards you’ve gotten. All of these things are only worth the present value of the future cash flow they create. The 2 Percent Club members are focused on increasing profit to create increased value and excess cash flow to invest.
Purchasing commercial real estate for your business: While businesses sell for the equivalent of five years of business profit, commercial real estate normally sells for about 12 years’ worth of real estate profit. If you buy it for 12 years’ worth of profit and keep it for 40 years, you can see you have come out way ahead. Rents from commercial real estate can represent one of the most powerful sources of wealth, a benefit stream that never ends. Commercial real estate is a powerful asset in the 2 Perfect Club business owner’s portfolio of investments, most frequently measuring about one-third of their total wealth.
Maintaining a standard of living that enables you to invest 50 percent of your income: Entrepreneurs are famous for “showing their success” with bigger houses, nicer cars, and more toys. Frequently, their standard of living increases continually and consumes all of the available income from their businesses. In contrast, 2 Percent Club members typically have a standard of living less than half their income level, which enables them to invest 50 percent or more of what they make, allowing them to purchase commercial real estate, pay off their personal residence, and build investment accounts.
Joining the 2 Percent Club: The best plan for exiting or keeping your business is not to need any money from the business sale in order to retire. You’ll still be prepared to get a good value from your business, but there won’t be any pressure to do so immediately. Exiting a business is easy when you’ve achieved the choice of whether to stay or go. And with careful planning, you’ll set yourself up for a huge windfall going into retirement if you do decide to leave some day. Certainly an enviable position, one that is achieved by just 2 percent of all business owners.
As you think about retirement, consider maintaining the benefits of ownership and the meaning your business provides in life. Working, but working less, may be an attractive option to consider. And even if you love your business and going to work every day, it’s a good idea to have a formal exit plan in place before you actually need it. You’ll sleep better at night and enjoy your work more.
Tom Griffiths is a principal in Griffiths, Dreher & Evans PS, CPAs, of Spokane, and provides tax, investment, business valuation, and exit planning advice to small business owners. His book, “The 10 Steps of Successful Small Business Owners: Your Roadmap for Joining the 2% Club,” is available
at Amazon.com.