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The New EBITDA: Emotions Before Interest Taxes and Depreciation by Tom Deans, Ph.D.
Sitting in the departure lounge at LAX, I couldn’t help but overhear a conversation between an investment banker and his younger associate. I learned two things. First (and most business travelers can relate), it is amazing how cavalier people are about discussing confidential details in public places. The second confirmed something I had been thinking about family businesses for some time.
The older of the two bankers was whining about how he thought the slam-dunk deal they had just presented was now probably never going to happen. On and on he grumbled about the time he had spent running the numbers, lining up partners and generally bringing the deal to a crescendo, only to have the business owner change his mind about selling.
The investment banker was completely perplexed about why the offer, the numbers, the multiples that looked so good weren’t enough to entice the owner to do the deal of a lifetime.
It took everything I had to stop myself from leaping into the conversation and selling him a copy of Every Family’s Business (it wouldn’t have been the first time). But I exercised extraordinary restraint and settled back and listened to him talk about the clever structure of the deal, the tax that could have been saved and the instant wealth the owner would have secured if only he had been smart enough to take the deal.
Emotions are Squishy – Not the Stuff of Deal-Makers in Suits
The funny thing about listening in on a conversation is that the longer you listen the harder it is enter the conversation. So I bit my tongue and instead simply wondered how many other business brokers, M&A professionals and investment bankers expend such effort trying to bring deals to fruition only to have sellers back out. I wondered how an entire industry of intermediaries could so badly underestimate the emotional connection that owners have to their businesses, and also fail to understand how these emotions can scupper so much good work and extraordinary planning and lead the owner to ultimately destroy the business’s value.
When really bright finance experts hear the word “emotions” you can so often see their eyes roll back and the calculators shut off. Yet students of the greatest financiers of all time – deal-makers like Warren Buffett – know that these people get deals done by running the numbers and then engaging business owners in the one corner of their life where most number crunchers don’t go – their family. It is the rare rainmaker who has both the left and right brain firing on all cylinders.
Buffett and other great deal-makers know that the sale of a business will typically result in a “liquidity event” that will leave owners with more wealth than they feel comfortable consuming. Most business owners accumulate wealth precisely by denying themselves consumption. Sellers will often kill deals, blaming a low bid price, but there’s almost always much more at play.
Reducing An Owner’s Life Work to a Number is Depressing
Most deal-makers underestimate the guilt and remorse sellers feel when they reduce their life’s work to a single number. It feels so crass and empty and hollow to imagine that decades of risk-taking, relationships and earned status in their community will end the day a check is cut and control is relinquished.
That’s why so many business owners don’t do their last deal. That’s why so many let their death be the event that triggers the transfer of controlling interest of their business to family – typically ill-prepared family members uninterested in continuing the business.
With universities, associations and institutes granting so many awards dedicated to perpetuating family businesses at any cost, it’s the duty of intermediaries to serve family business owners with a counterbalancing narrative that places the preservation of capital at the center of more intelligent estate plans.
Preserved capital from the sale of a family business – capital a former owner can then deploy for philanthropic endeavors and for funding the next generation’s own businesses – and not an operating business that’s well past its shelf life is what pays homage to the most enduring legacy: family and community.
Buffet is Both Psychotherapist and Financier
I really wanted to tell the two guys in the airport that Buffett’s best deals had come after he cemented his own family business succession plan. Buffett can easily look into the eyes of any family business owner and talk with authenticity. He can empathize with a business owner’s struggle and can explain why selling the business is the key to securing their greatest and most enduring legacy – their family and their philanthropy.
I didn’t have the guts to chime in and say, “Fellas, I’ve really been enjoying your conversation but there’s way more to doing deals than running the numbers.” Deals get done based on trust and respect earned by intermediaries paying homage to the things in a business that transcend money. Intermediaries who approach this emotional subject like one more thing to check off on their due diligence list will be outed before the coffee is poured. Business owners can feel the disingenuous long before they actually hear it.
For most owners, the sale of their business represents the end of their professional careers and a major overhaul of who they are and where they fit in. Anticipation of the disappearance of their status as business owner, employer and boss often means the sale never gets completed.
Intermediaries who can honor the risk-taking that has gone into creating a business and connect that risk to something more enduring, like family and philanthropy, will themselves be participating in something that transcends money. A guy like Buffett, who is still driving hard deals while giving away half the wealth earned from those deals, tells you precisely what motivates him and his family.
Wealth with purpose: scoff at this soft, simple idea, diminish its importance in closing deals, and you’ll be the one sitting in an airport lamenting the one that got away.
PS: Most people wearing earphones in airports are only pretending to be listening to music.
Connecting with successful children is key to legacy planning
A Family Wired For Perpetual Dependence by Tom Deans, Ph.D.
When the sale of a family business is all about a founder becoming wealthy and their children losing their jobs, you can see why so few ever put themselves in play and sell.
The CEO – the Chief Emotional Officer (Mom, and increasingly Dad) – just can’t stand to see the family pull itself apart. Killing the business with love has always felt like a better plan.
With a wave of aging business owners trying to figure out how they’ll fund their retirement, you can understand the temptation to simply throttle back on their day-to-day involvement and draw a salary while Junior runs the business until the final curtain falls.
Of course, as I’ve discussed in previous articles, with owners living longer, it’s improbable that Junior is going to hang around the business into his or her 70s, when Mom and Dad finally reach their 90s and hand over the reins of control – not operating control, I mean real control, control of the voting stock transferred when the last parent dies.
How About an Exit Where Everyone Makes Money?
But what if an advisor could frame the exit of the controlling shareholder as the day when all family members become wealthy? Far too often, death is the triggering event for the transfer of stock. Few children are offered an opportunity to risk their capital to buy the stock of their parents’ business at an early age. I recommend that when a child is 14, the parents and advisors begin the process of implanting the idea that the family business will be bought, not gifted, and that employment is different from ownership.
For a variety of reasons, the majority of parents signal that there’s no real or pressing need to recycle dollars in the family: “Hang around long enough, Junior, and all this will be yours – for free.”
Of course we know that nothing is ever really free and that while the ownership question is left hanging, there are as many underpaid children working in family businesses, as there are overpaid children. My experience on the speaking circuit is that few overpaid children ever risk their capital to buy out their parents. Why derail the gravy train? Parents who use their business to purchase and control family harmony do more harm than good and always pay the greatest price of all – a family wired for perpetual dependence.
Family Business Math
The dysfunction around the issue of compensation percolates and festers because the stakes have always been high. When Junior complains about low wages, some parents simply say, “If you don’t like what you’re paid, leave.” Emotionally and financially, it’s never been easy for a child to quit a parent’s business.
Child Quitting Over Compensation + Aging Business Owner = Less Inheritance For Junior.
You can see how family business math becomes really interesting when only one child working in the business quits and one or more siblings stay and toe the family line. Trimming the family tree, hacking off a limb, call it what you want, the family business too often becomes the fault line in relationships and turns financially advantaged families into emotionally bankrupt ones.
The equation for this scenario looks like this:
The Value of the Family Business When Child Leaves Over Compensation = More Money for Remaining Children
The Link Between Compensation and Wealth Protection Is Profound
What if the mathematics of a great exit has always been rudimentary? What if advisors could convince clients that all family members, both inside and outside the business, can build a great exit plan collaboratively? What if the key to this plan is asking children to risk capital and perpetuate the business for the right reason – because they think they can grow it and make money? Now there’s a novel idea.
For this to be successful, family members working in a business need to be paid for the value they add. There are significant risks to an owner’s successful exit when compensation for family members is too low or too high. Getting compensation right is one of the pre-conditions for leading a business to be sold to someone, either inside or outside the family – but sold nevertheless.
Dynastic Families Understand This Equation
Business Owner Paid Appropriately + Children in Business Paid Appropriately + All Other Relatives Outside the Business Not Paid at All by the Business = Business Sold, Wealth Protected, Happy Family
It’s simple addition – so simple it’s often overlooked. Treat your family business like a drive-thru ATM and pay family members not involved in the business for work not done, and your exit will be a tad complicated and painful. Keep treating your children as indentured laborers and you’ll get to the same place. If you’re a business owner, all of this can seem difficult. It is, but it’s not impossible and it’s definitely worth getting compensation right.
If you are an advisor, are you really prepared to leave your spreadsheets in your briefcase and talk to clients about important issues like compensating family members appropriately? Can you see the link between compensation and protecting your client’s wealth is an emotional issue? Can you see that the hard emotional issues are where advisors earn client trust?
Long Odds That Family Is Best Suited to Lead Your Business – Tom Deans, Ph.D.
It was on the 18th green that a friend who owns a successful executive search firm answered a question about family business leadership that had challenged me from the very first day I sat down to write Every Family’s Business. Finally the penny dropped.
As he stared at his improbable 60-foot putt he opined that his chances were about as good as filling a CEO position in only a week. His comment got me thinking about how difficult it must be to find the very best talent for the most important position in a firm – the CEO.
Picking up the conversation after he completed his painful third putt, I asked him how many candidates he would interview for a CEO position. His response surprised me. He explained that his staff would typically review more than 1,000 resumes, creating a shortlist of 100. A fresh set of eyes would then whittle that list down to 25 and subsequent telephone interviews would narrow the field further to 10 to 20 candidates selected for face-to-face interviews.
When I think about a process that starts with more than 1,000 candidates in a non-family business and compare that with a family with, say, four children, often with only the eldest male destined (ordained) for the corner office, the math seems a little lopsided.
You don’t have to be an expert in probability theory or regression analysis to discern that non-family businesses have the best chance of finding the very best talent. One only need look at the hyper-growth in the number of family business institutes and consultants obsessing over the grooming of talent to understand the magnitude of the problem, if not the futility of trying to hire the CEO exclusively from within the family.
The Family Still Needs to Oversee the Professionals
When the management gene pool in a family is shallow, you’d think that the obvious solution would be for the controlling shareholder to sell the business and protect family wealth to fund his or her long, expensive retirement and the financial future of the heirs. Instead, it has become fashionable these days for well-intentioned consultants to pander to the founder’s lust for legacy and to recommend that the family hire professional managers, thereby creating space and time for junior to grow into the position.
The juniors I meet in my audiences – who are often in their 40s, 50s, 60s and even 70s – tell me their hired-gun CEOs are there to stay – permanently.
The fatal flaw with this plan lies in the question of who will manage the hired gun. Thrusting the succeeding generation into positions of oversight when they have, or more precisely because they have, failed to demonstrate success in the leadership of the firm has got to be one of the most dangerous threats to a family’s wealth.
When a family has concentrated its wealth in one stock – the family business – you can see how high the stakes become. And just like a 3-putt, there can be no joy in placing children in positions of leadership and oversight for which they are ill suited.
Leadership succession planning is often confused with ownership succession planning – whether a leader is hired from within or from outside the family, the risk to wealth does not abate. The concentration of family wealth in one business remains a clear and present danger.
As a trusted advisor, how would you caution a family business client about their leadership choices, especially when it’s obvious that when the odds of landing the very best CEO are 1 in 1,000 with a proper search, the likelihood of finding that “one” when the search is limited to just the family is about the same as hitting a hole in one.
Top 10 Reasons You Should Never Write a Will by Tom Deans, Ph.D.
1. You have spent a lifetime working, saving and generally deferring consumption to fund your retirement. Now that your money has outlasted you, it will be awesome to see how the government divides your assets. Governments always make amazing decisions about other people’s money.
2. The idea that a Will simplifies matters for your family after you die is so overrated. Why deny your family that special moment when they gather at your funeral and one relative whispers, “I wonder how the jewelry will be divided” and another relative answers, “What jewelry?”
3. All lawyers are loaded – they make a fortune writing Wills. The rumor that they make more money representing families who battle in court when there’s no Will is simply hearsay.
4. When you write a Will and then share it with your intended beneficiaries, expectations may be set high. It’s much better to keep everyone in the dark, especially the one child who’s providing the bulk of your late-in-life care. Strong, dynastic families are built on secrets and pitting children against each other after you have died intestate. Fighting toughens children up and prepares them for the real world.
5. If you write a Will and share your dreams and aspirations with your intended beneficiaries, they will likely never work another day in their lives. People usually don’t work because they want to. Even billionaires who continue to work and start new businesses are usually faking it.
6. Some say a Will is important when you have young children because the issue of guardianship is addressed – you know, naming the person who will actually be entrusted with raising and caring for your children when you can’t. This is a tough decision – maybe the toughest decision of all, which is why you’ll want to avoid it at all costs. Let Lady Luck – and the courts – work their magic. Your kids will understand.
7. When you write a Will you appoint an executor who is responsible for carrying out your last wishes. But this denies your family the opportunity to debate the merits of burial versus cremation. This can be a lively debate, especially when everyone is grieving. Great families thrive on chaos, anger and regret; clearly communicated Wills and last wishes undermine this principle.
8. Wills often include Advanced Health-Care Directives and clearly outline the kinds of medical interventions you’d like when you can’t communicate. But here again a Will denies your family the opportunity to play one of the most satisfying guessing games ever invented. It’s called Resuscitate – Do Not Resuscitate. This game is best played at the hospital in front of the doctors, who will be fascinated to see who wins.
9. If you die (I say “if” because you may be the first to live forever) the grieving process is enriched when family hunts through your personal files and possessions in an attempt to figure out what you owned. This is like a scavenger hunt but with more zeros. After the hunt, some might say they’d like to bring you back from the dead and kill you themselves – but they’re just having fun. This is a game the whole family can play. In truth, it’s a game the whole family will play because everyone wants to make sure others get more.
10. Studies show that people are superstitious – and they should be. When you write your Will, you’ll almost certainly die shortly thereafter. The same applies to writing books on the subject of Wills. Having written Willing Wisdom I’m practically uninsurable. Just like eating fruit and vegetables and getting regular exercise, writing a Will is extremely bad for your health.
Dr. Tom Deans is the author of Every Family’s Business and Willing Wisdom. An author, a full-time professional speaker and the founder of the Will to Will Campaign, Deans starts conversations but rarely finishes them, leaving that to the trusted advisors and charities that bring him to their community to speak. To learn more about his live event presentations about transitioning a family business or transitioning family wealth, simply click here.
For centuries, “comprehensive planning” for most families has consisted of two elements: financial and estate planning. And for centuries, 90% of that planning has failed when measured by the objective of helping the family to retain both their family unity and their assets for more than two or three generations.
This is not a recent phenomena. Since ancient times, the majority of inheritance plans have failed. Two thousand years ago a Chinese scholar penned the adage: ”fu bu guo san dai,” or “Wealth never survives three generations.” In thirteenth century England they said “Clogs to clogs in three generations,” and in nineteenth century America the expressions became ”From shirtsleeves to shirtsleeves in three generations.” And, over 200 years ago, Adam Smith – of “specialization and division of labor” fame – summed it up in “The Wealth of Nations” when he said: “Riches, in spite of the most violent regulations of law to prevent their dissipation, very seldom remain long in the same family.”
The basic principles of most of the Inheritance Planning today were put in place by King Henry VIII nearly five hundred years ago
This three generation cycle is not news to financial and legal professionals. Ask a room filled with advisors how many have seen families torn apart by issues surrounding money and inheritance, and you will see every hand shoot up. And yet, traditional, two-element planning continues to be the dominant framework within which most people prepare for their futures. (By the way, when we say ‘traditional,’ we mean it: the basic system of inheritance planning used in the Western world today is not much different than it was in 1540, when England’s King Henry VIII pushed his Statute of Wills through Parliament and set in motion many of the processes and procedures we use to this day!)
Change comes slowly in the world of planning. The most significant changes since the 16th century have come about in just the past quarter century. In the mid-1980’s, Bob Esperti and Renno Peterson formed the National Network of Estate Planning Attorneys with a goal to “Change how America Plans” to use Living Trusts and avoid probates in even modest estates. Within 10 years, the Network had grown to over 1,500 members, and Living Trusts were becoming the norm in all estate plans. The National Network of Estate Planning Attorneys helped change the way America did its estate planning; which was a wonderful accomplishment.
But, they still did not transform how America plans. That is the goal of heritage planning, and the increasing number of advisors, non-profit officers and educators around the world who are introducing the 3rd Element of Planning to their constituents.
Family Business Governance: Family Succession
Introducing the concept of a Collaborative Will
by Tom Deans
At a farm convention in Chicago, I was approached by an audience member who explained that gifting a working farm to her children was preferable to selling and leaving them each $5 million. When I pressed her for more details – such as – “what do your children think of your plan?” She snapped her head back and proclaimed, “why would I tell them?”
I have to confess it wasn’t the first time that I had heard someone say that silence was going to be the key ingredient of their estate plan. It got me thinking how many beneficiaries – children especially — truly know the contents of their parent’s wills?
When I put the question to my audiences, “how many people hold a copy of their parents’ wills?” Only 10% on average acknowledge they do. The more interesting question is: “how many in the audience will play a lead or significant role in providing care for an aging parent?” The response — an average of 75% — agreed they would. I find the disparity between these two pieces of data, striking.
The relationship between inheriting money and the provision of health care is an issue moving into the media and cultural spotlight for two major reasons – we’re living longer (a lot longer) and the cost of health care and assisted living are rising faster than inflation and saving rates.
For some who live much longer than the average age of 76 for men and 81 for woman, many will turn to family for financial support and care when their savings are fully depleted – the same family from whom secrets were kept when a surplus seemed assured.
Why do so many people keep secrets from those who will likely be providing them with late in life care? How do secrets serve beneficiaries or add to relationships before we become old and dependant? Talk to enough estate planning professionals and they’ll tell you it almost always comes down to a lack of trust and a debilitating fear of death.
For those who view their money as an absolute source of power and control you can see how the aging process and the concomitant relinquishing of power and control makes dying and death such a wretched, fearful experience. Compare that to individuals who seriously prepare family, friends and charitable organizations to receive not just their wealth but their wisdom and you’ll find some extraordinary relationships built purposefully over a lifetime – even when years outstrip savings.
Sharing the contents of a will requires judgment – some might call it wisdom nurtured over time. A wisdom both taught and harvested through conversations with intended beneficiaries not in the last year of life, when death seems imminent, but precisely the opposite, when death is a distant abstraction.
A will doesn’t need to be seen as a solo “end of life document” but rather a collaborative work of art monumentally improved by living in relationship with our intended beneficiaries.
It is the act of collaboration, supported through frequent and deliberate conversation about the future that we leave something more valuable than just our money. This is, in part, how our fear of death recedes when we know with confidence that our beneficiaries—our emissaries — will take our ideas and perhaps our surplus assets at death and live purposeful lives themselves.
Have you shared the contents of your will with your intended beneficiaries – the ones likely to be providing late in life care for you?