PKF Australia

Accountants and Business Advisers

Consider an exit path before you crash land

Consider an exit path before you crash land

Posted 18 Feb 13 by Chris Davis

Remember how the flight attendant at the beginning of a flight shows you the exit path to use if an emergency occurs? Just as we need to be prepared for the worst as passengers, small business owners also need to know what their "exit paths" are.

Success in small business comes from hard work and plenty of blood, sweat and tears. Consequently, for many small business owners the value of their business is the major financial asset other than their family home. Despite that, while the majority of business owners will have an insurance policy to protect their family home, an alarming number will not have considered insuring the equity in their business.

"Eighty eight per cent of small business owners have bank loans with no insurance in place" (The Cameron Research Group, 2010). Most bank lending is secured by real estate assets and for the small business owner this is most likely the family home. A staggering number of small business owners could potentially lose both their family home and their business if they were to die or become disabled.

Another exit path to prepare is business succession as a result of death or disability. This should particularly be considered when preparing shareholder or partnership agreements. If a partner in your business suddenly died or become disabled, what would happen to your share in the business? Would you then be in business with their spouse? Or their children?

The risk for small business owners is real. For a four-partner business, the chance of one partner dying or becoming totally disabled before age sixty five is 77 percent (Australian Bureau of Statistics 2008 and Zurich Mortality calculator 2004). 

As part of their succession planning, business owners should consider:

  • Preparing a "business will", known as a Buy Sell Agreement
  • Including an agreed formula to value the business
  • Having an agreed formula for calculating how to pay for an exiting partner's share in the business

Without a Buy Sell Agreement, an agreed valuation method and a funding mechanism in place, the following are possible unfavourable scenarios:

  • The deceased estate may demand a payout of a size that will force your business to be sold;
  • The beneficiaries to the estate may insist on direct involvement in your business operations, even though they may lack the necessary skills. They may also have control! 

For as little as $1,500, a Buy Sell Agreement can be prepared with associated life policies to protect against death and disability of business owners.

To discuss your individual business needs, contact one of our Wealth Creation specialists.


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