Business Succession Planning Tips for Roofers

Business succession isn’t as simple as choosing someone who will run your roofing company after you decide to hang your contracting hat up — or an unfortunate event cuts your time as the owner of your business short. Business succession requires you to put into place a plan that will ensure the success of your company after you’ve moved on. Business succession planning is time consuming, complicated, and dependent upon your business’ structure. It is therefore wise to begin thinking of what you want to do with your business long before you will need your plan.

One of the more obvious questions that need to be answered in business succession planning in the roofing industry is who will be the successor. Do you plan on training an employee to take over the company? Is it best to keep the company in the family and to name a family member as the successor? Are there multiple owners and succession will remain within the company? The answer to this question will vary from roofing company to roofing company. For some companies, they may already have a family member who is an employee, making the decision relatively simple. Some newer companies may not have the option to appoint a family member as a successor because the family member is too young or not willing.

Business succession planning is complex, but it can still be broken down into manageable segments to help owners better understand the process. Some of the common components of business succession planning include: buy-sell agreements; gifting; merger and acquisition transactions (M&A); employee stock option plans; key-man life insurance; and management buyouts. A basic understanding of these components will give roofing contractors a good place to begin their business succession planning.

Buy-Sell Agreements

Buy-sell agreements are especially useful in a multi-partner business to ensure there is an agreed upon plan in the event a partner dies or there is a dispute. Also known as buyout agreements, these types of agreements have control over when someone can sell their interest in a business, who can buy that interest, and the amount which is paid for said interest. What triggers a buy-sell agreement varies, but typically an event such as retirement, bankruptcy, disability, or death will be the triggering event that creates an automatic offer to the current owners of the company to buyout the departing members’ interest in the company.

A good example of a buy-sell agreement is the cross-purchase agreement where owners typically purchase insurance policies on one another. Different triggering events (death, incapacitation, age, or something similar) cause the Agreement to go into effect. In a hypothetical cross-purchase agreement arrangement, Owner B, who owns 30 percent of the business, would carry insurance equal to 70 percent of the business value. This allows the remaining partners to continue business as usual without the need to fill the vacant position within the company’s ownership.

Gifting (Family Succession)

Before the recent tax overhaul, if your estate was above the $5.6 million ($11.2 million for couples) estate and gift tax exclusion, then gifting was an incredibly powerful tool. However, in 2018 the IRS announced that the 2018 federal estate and gift tax limit has been elevated to $11,180,000 for individuals and $22,360,000 for couples, which makes gifting helpful for a smaller subset of business owners. It should be noted that there are some 15 states that impose estate taxes at a lower level than the federal government, and a prudent business owner should consult a professional to see if his or her state enforces their taxes in such a manner.

Depending upon the vehicle chosen and size of your company, taxes will vary from unaffordable to little or nothing. If family succession is the vehicle chosen, states have varying amounts of money which can be gifted without being subject to a gift tax. Certain trusts also allow you as a business owner to transfer in the neighborhood of $10 million without being subject to a gift tax. The amount of taxes due when succession takes place will depend on you and your company’s finances and your state’s tax laws.

Merger and Acquisition Transaction

A merger or acquisition transaction with a competitor or company or individual is another method of maximizing the value of your company and retirement as you look to transition away from your business. Oftentimes you won’t know if the person that you are handing control of the roofing company over to is going to maximize the value of the company once you leave or if they’re going to run the business into the ground and leave your former employees out of a job in the process. By merging with or selling to a larger, proven roofing company with similar culture to your current business, an owner can assure that his or her business will continue to thrive, albeit with a different name, and continue to serve both employees and clients suitably.

Some professional business owners often encounter issues that force them to make the tough decision to sell his or her roofing company and decide that the time has come to pursue other ventures. A sale would allow him or her the freedom (and cash) to pursue other business opportunities, and if he or she so chooses, he or she could still retain a minority ownership in the business so that if the business measures fail, he or she still has a profitable asset in the form of his or her minority position.

Employee Stock Option Plans

An employee stock option plan is also an excellent method for monetizing your business outside of its traditional cash flow and often gives you time to transition out of the business over the course of several years. An employee stock option plan, also known as an ESOP, is a tool that business owners can create to incentivize current employees, all while planning for a smooth transition once the owner exits the business. In its most basic form, an owner seeking to transition out of his ownership role sells the company to a trust (the ESOP), designating key employees (hard-working managers, promising family members, etc.) as beneficiaries, and receives full payment for the business as a loan from a lender (who now controls the ESOP). Over time, the company can make tax-deductible payments to the principal on the loan, which slowly releases equity control from the ESOP to the employees who are listed as beneficiaries.

Management Buyout

A management buyout occurs when the management group of a business purchases the roofing company directly from the owner or parent company. The management group typically acquires a loan for the full value of the company, which compensates the transitioning owner for full value of the company without having to liquidate the company’s assets. The typical management buyout scenario occurs when an owner is ready to transition control to a group of committed managers, but also wants to ensure that he or she can provide for a spouse or child upon sale of the company. These acquisitions are particularly intriguing for many business owners, as they can be assured that those taking over the company have knowledge of the business and share the departing owner’s vision.

Key-Man Life Insurance

Finally, company paid key-man life insurance can be a good tool to ensure that the company can afford to redeem your share of the company upon your death. This provides cash to your heirs while helping you sleep better at night. Key man life insurance operates in a similar fashion to your run-of-the-mill life insurance policies. The company takes out a life insurance policy on a key member of the business (often an owner) and names itself as the beneficiary. The company pays the premiums on the policy, and when the owner dies, the company receives the applicable monetary disbursement. In a succession-planning context, you often see key-man life insurance policies utilized in situations where an owner is quickly aging or in poor health and wants to ensure that his family is financially stable upon his or her death, but does not necessarily want his family to take control of the company’s operations upon the owner’s death. When packaged with a management buyout, key man life insurance gives the owner the ability to do just that. It ensures a smooth transfer of control to a group of trusted employees and guaranteed compensation for the family upon the owner’s death.

As it should now be clear, business succession is necessary, time consuming, and requires a number of difficult questions to be made. If you do not have a business succession plan in effect, or you’ve come to the realization that your business succession plan isn’t as reliable as you believed, the time is now to start planning for the future of your roofing company.

About the Author: David Kronenfeld is an attorney at Cotney Construction Law who focuses his practice on a broad range of transactional matters. Cotney Construction Law is an advocate for the roofing industry and serves as General Counsel for FRSA, RT3, NWIR, TARC, TRI, WSRCA and several other industry associations. For more information, visit www.cotneycl.com.

Author’s note: The information contained in this article is for general educational information only. This information does not constitute legal advice, is not intended to constitute legal advice, nor should it be relied upon as legal advice for your specific factual pattern or situation. Regulations and laws may vary depending on your location. Consult with a licensed attorney in your area if you wish to obtain legal advice and/or counsel for a particular legal issue.

Tough Questions

I spent Father’s Day in a less than optimal spot — visiting my dad in the local hospital.

My father is 87, and a fall down the stairs resulted in life-threatening injuries. As I headed to the intensive care unit that first night, I didn’t know what to expect. However, I did know what my father’s wishes were regarding his care.

My dad is an attorney, and he prides himself on his estate planning, which is guided by two principles: taking care of his family and not paying a penny more in taxes than he has to. My brother, my sister and I know the details and who to contact when he passes away. But when my mom passed away unexpectedly more than a decade ago, we realized we didn’t know what her wishes were regarding critical care or even her funeral.

We learned from those mistakes. Our family discussed not only dad’s estate plan but his preferences for a funeral service (less funeral home, more Irish wake) and his thoughts about being kept alive by artificial means (no). I have a durable power of attorney in my briefcase and a form designating me as his patient advocate.

I was able to concentrate on the most important thing: making sure my dad got the care he needed. With the help of some talented and dedicated health care professionals, he’s doing much better now; he’s in a rehab unit and back on his feet. Hopefully we won’t need to look at his estate plans for a long time to come.

I can’t imagine going through the experience without that preparation. I thought back on the article about exit and succession planning in our last issue by Angie Lewis titled “Leaving Your Business Legacy.” In it, she details the advice of business planning experts Kevin Kennedy and Joe Bazzano of Beacon Exit Planning, who spell out retirement strategies. They also stress the importance of contingency planning — preparing for an unexpected illness or death.

If you haven’t read that article yet, I strongly urge you to do so. You can also log on to view an on-demand webinar on the same subject sponsored by Atlas Roofing.

Contact your attorney and get advice specifically tailored for your situation. Then talk to your family members and ask some tough questions. Take it from me, these conversations are not easy, but asking tough questions now can make difficult times a lot easier.

Atlas to Host Webinar on Exit and Succession Planning June 18

Atlas Roofing is hosting a free webinar on exit, succession and contingency planning Monday, June 18 at 10 a.m. Eastern. Learn why roofing contractors need an exit or succession plan, as well as common mistakes made during the process and the best strategies for success.

Hear from business-planning experts Kevin Kennedy and Joe Bazzano about how to get all of the proper financial and legal arrangements in place to preserve your business legacy and secure your financial future.

Kennedy, CEO of Beacon Exit Planning, specializes in exit and success planning for private business owners. He uses the experience of selling his 63-year-old roofing business — including the mistakes he made — to help others navigate the process more smoothly.

Bazzano, COO of Beacon, is a certified public accountant, certified valuation analyst and certified business exit consultant with more than 25 years of experience. He shows business owners how to increase the value of their companies and save on taxes.

With their knowledge and expertise, these professionals can guide contractors around the potential pitfalls of leaving a roofing business — either by choice or circumstance.

To register, visit https://register.gotowebinar.com/register/8050003304757158147

Expert Advice on Exit, Succession and Contingency Planning

Images: Beacon Exit Planning

When the time comes to retire from your roofing business, will you have all of the proper financial and legal arrangements in place to avoid being clobbered by taxes or ending up in costly litigation?

Planning for your exit or succession requires a series of complex strategies that can take many years, so don’t waste any time getting started! Sit down with a knowledgeable, professional advisor who can guide you through the process of preserving your business legacy and securing your financial future.

Business-planning experts Kevin Kennedy and Joe Bazzano explain why roofing contractors need an exit or succession plan, common mistakes made during the process and best strategies for success. They also stress the importance of a contingency plan, which covers you and your business in case of life-changing events such as injury, illness or death.

Kennedy, CEO of Beacon Exit Planning, specializes in exit and succession planning for private business owners. He has firsthand experience with the challenges that come with selling a business after he and his two co-owners sold their 63-year-old roofing company to the business’ fourth-generation team. Making a few financial mistakes during the sale, and realizing he didn’t have a solid understanding of the technical aspects of exit planning, Kennedy put himself through two years of school to learn everything he could. Now he helps others avoid the same mistakes.

Bazzano, COO at Beacon, is a certified public accountant, certified valuation analyst and certified business exit consultant. His areas of expertise include financial reporting, consulting, business valuations, mergers and acquisitions, exit strategies, and tax planning and compliance for individuals and businesses. Bazzano shows business owners how to increase the value of their companies and save on taxes.

Exit Planning

An exit plan helps you control and visualize the process of transferring and monetizing your business, while also gaining a better understanding of all the financial aspects involved in the transaction.

In most situations, business owners have 70 percent of their wealth tied up in their illiquid business, which means the company and its assets cannot easily be converted into cash.

Images: Beacon Exit Planning

If you’re fortunate enough to sell your roofing business, you could pay up to 60 percent or more in taxes, depending on which state you live in. And if you can’t sell your company, you will essentially have to liquidate it, which could leave you with only 10 percent of your wealth.

During the exit-planning process, Bazzano says they look at the three basic circles of a business owner’s life: business planning, personal planning and financial planning.

The business-planning circle is about protecting the business — determining valuation, planning for succession, evaluating tax ramifications and managing buy/sell risk. The personal-planning circle involves the emotional side of the business and considers the owner’s emotional attachment to the business, whether he or she is ready to leave it and if family members are involved. The financial-planning circle includes identifying the liquid assets business owners need to survive and maintain their lifestyle.

Contractors have several options for exiting their business, including:

  • Selling to an outsider (e.g., consolidator, investor)
  • Selling to employees/ESOP (employee stock ownership plan)
  • Selling to managers (manager buyout)
  • Selling to family
  • Gifting the company

Kennedy says the most common type of sale for a roofing business is a manager buyout, which can take from eight to 12 years because the company pays for everything.

“They don’t go to the bank and get the big loan,” Kennedy says. “The company can’t afford to do that. What they do is take their profits, and the profits pay for the owner’s stock, which is then given to the managers.”

Common mistakes during the exit-planning process include issues with entity structure, taxes, not planning for catastrophic events, being underfunded with buy/sell agreements, and inaccurate valuations.

Bazzano says lessening your dependency on the business as an income source after you leave is a particularly important strategy to keep in mind.

“It doesn’t always happen because business owners grow and reinvest in their business,” he explains. “But there’s nothing worse than being 65 years old and realizing that 92 percent of your wealth is in this business. Basically, you’ve reinvested everything and you’re completely dependent on monetizing this business as you try to retire. That’s pretty risky, as opposed to somebody who’s got maybe 20, 30 or maybe even 50 percent of their net worth in the business. So taking some chips off the table really helps.”

Having a good understanding of your options early on can help you generate more value in your company and lessen your financial risk down the road.

At Beacon Exit Planning, Kennedy and Bazzano use a proprietary process — known as DAD — that covers three phases of actions needed for a successful exit plan:

  • Discovery. Interviewing owners to get an understanding of their business, personal and financial goals.
  • Analysis.Looking at underlying documents such as wills, trusts, buy/sell agreements, financial statements, tax returns and entity formation, and evaluating whether they support the owners’ intentions and goals.
  • Design. Putting together a blueprint to solidify goals, going over findings from the analysis phase and presenting alternatives owners can use to exit their business.

The DAD plan can range from 50 to 120 pages. “It’s like being fed with a fire hose,” Kennedy says. “But we always tell our clients that we when we deliver the plan, it’s not the end — it’s the beginning.”

Succession Planning

In contrast, a succession plan prepares your company to succeed without you by moving your managers into leadership roles, then into ownership and eventually establishes the new CEO.

Exit planning focuses on replacing your wealth, but succession planning focuses on replacing yourself, Kennedy explains.

“In a broader sense, it’s about building value — creating a culture of continuous improvement that focuses on educating the next generation of owners so they can protect the future of the company,” he says.

Fewer than 30 percent of all private companies ever transfer to the second generation, according to Kennedy. This means that 70 percent fail. The statistics are even worse for transferring from the second generation to the third generation, which has a 90 percent fail rate. The odds that company founders will transfer their business to their grandchildren are less than 3 percent.

When Kennedy and his partners sold their roofing company via a management buyout, the process took seven years and $250,000.

“Our company overspent millions of dollars in taxes that were unnecessary because of the cookie-cutter advice [we received] from our advisors,” he explains. “They weren’t specialists. It wasn’t a coordinated plan, they didn’t have the right advice, and they didn’t understand the laws, so we were put in a taxed position.”

Succession plans can take anywhere from three to 10 years, depending on the maturity of the management and how much the owner is working. The process requires more time than exit planning because of the learning curve required for new managers.

“At any given time, 40 percent of U.S. businesses are facing the transfer of ownership issue,” according to the Small Business Administration (SBA). “The primary cause for failure is the lack of planning.”

Some 75 percent of a typical business owner’s net worth is tied up in the company, Kennedy adds, citing data from the SBA, and only 22 percent of owners report planning for their succession or exit.

“Wise people plan early and implement slowly,” he says. “I like to see people going through the process of visualizing their financial future at least 15 years out. That would be ideal because it may take three or four years to set the plan in motion.”

Succession planning may be complicated more when family is involved. Children or other family members who think they’re entitled to the company can be poisonous to the process, especially when owners don’t hold them to the same standards and accountability as other employees.

Another issue business owners face is that they can’t see their financial future and are dependent on their business for their day-to-day lives, Kennedy says. “If they don’t relinquish what duties they have so they can build new leadership, they tend to get stuck in their businesses.”

Bazzano shares three important steps for a successful succession:

  1. Have a good financial plan so you can understand the future income needs for the company.
  2. Get a business appraisal so you understand if you have a value gap. In other words, if you have not saved enough money for retirement, the shortfall is going to come from the sale of the business.
  3. Put a good management team in place so it can support you in generating the income the business will need to pay you out. This step typically takes the longest — anywhere from two to 10 years.

“The great news about succession is it always adds to the bottom line, not just the financial value,” Kennedy says. “The key is to start early because succession takes time. It’s a complex process. The exit plan will get you started and the succession plan will bring everything together to allow a graceful exit from your business and protect your wealth.”

Contingency Planning

Regardless of your exit strategy, your plan should also include preparing for the unexpected.

What would happen to your business if you were diagnosed with a life-threatening disease or were critically injured in an accident — or worse? Having a contingency plan for “just in case” can help to cement the future of those you love.

One of the most important parts of a contingency plan is a buy/sell agreement. This document governs what will happen if one of a company’s multiple owners and/or shareholders dies or experiences divorce, disability or voluntary/involuntary departure.

“A buy/sell agreement should have the appropriate documentation and appropriate wording to support the owner’s intentions,” Bazzano says.

This type of agreement allows co-owners to decide who else can buy into the company and how the process will work. It also provides an opportunity for owners to discuss potential scenarios ahead of time to avoid ending up in pricey litigation down the road.

Despite the importance of creating a buy-sell agreement, more than 70 percent of business owners do not have documented succession plans for senior roles, according to the 2014-2015 U.S. Family Business Survey conducted by the consulting firm PwC.

Contingency plans and buy/sell agreements are living, breathing documents and should be started as soon as the business is established, according to Bazzano. They should also be reviewed regularly to account for changes in the company’s structure or value, or an owner’s intentions.

The most difficult event to plan for, of course, is death. The loss not only puts an emotional burden on a family, it can also create a financial one. Without a proper contingency plan in place, a family could lose its income stream and experience financial turmoil.

One of the most common mistakes Kennedy and Bazzano see in contingency plans is improperly structured documents. For instance, the owner of a roofing business may think everything is in place because he/she has a will, trust and insurance — yet each document was set up by different people, none of whom talked to each other during the process.

Another issue in contingency plans is that companies are underfunded with their buy/sell agreements and insurance, Bazzano says, which often includes issues with valuation that prevent a widow from receiving the full worth of the company.

Business owners can also fail to understand how to manage their risk. Bazzano says business owners need to do a better job of protecting their wealth and the companies themselves, which involves understanding insurance requirements and asset protection, and knowing how to structure their estate and the business to limit exposure to frivolous lawsuits and creditors.

Planning to leave your roofing company — whether to retire, pursue another interest or because something unexpected happens — can be an overwhelming and confusing process. However, enlisting the services of an exit-planning professional can help you avoid big headaches and save you countless dollars in taxes.

To find a consultant you can trust, ask questions such as:

  • What is your training in exit planning?
  • How many exit plans have you delivered?
  • How much have you saved your customers in taxes?
  • Do you have any referrals from existing clients?

To learn more about Kevin Kennedy and Joe Bazzano, and for access to more in-depth information about the exit planning process, visit www.BeaconExitPlanning.com.