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Cashing in your chips… are you ready to exit your company?
Alberta’s hot economy has enabled many entrepreneurs to quickly grow their companies. Then, in what seems like a blink of the eye, they have sold or merged their companies, in some cases, for large amounts of money. In most industry sectors, there’s been a dramatically-reduced turnaround time in the business cycle from start-up, through to exiting the business.
Like many entrepreneurs, you may be wondering if you can build on this momentum to capitalize on your own investment and hard work.
If so, now may be the time to evaluate if current opportunities mesh with both your short-and long-term business goals.
In addition to assessing your own personal situation, you will need to explore the various strategies for exiting your company as they pertain to succession, tax and other legal considerations.
Evaluating the next stages in your business life
The merits of exiting your company - versus the benefits of continuing to build it - are specific to your individual situation. Still, there are key considerations. Are you:
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Ready to retire or semi-retire?
Would you want to stay on as an active participant in the company for a few years after you sell it? In many situations, the price negotiated for the company hinges on the current owner remaining in the company for at least several years to help transition the business. This allows the new owners to capitalize on both the internal knowledge and the outside goodwill the former owner has already established. |
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Ready to start a new company?
For many entrepreneurs the real, and most satisfying, challenge is derived from starting a company, making it very successful, and then, moving on to create another company. If your exit plan involves starting up a new company, beware! You may be required to sign a non-compete agreement that could extend for a number of years. This could narrow your options for the new venture. |
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Planning to leave a legacy to your family?
Is your goal to pass on your successful company to the next generation of your family? If so, you will need to begin the succession process. This can be quite complex, as a well-thought-out succession plan must take into account the dynamics of both your family and your business to ensure a successful transition. You may also want to consult a lawyer early on in the process, since succession planning involves a number of integrated business, tax, human resources, estate planning and other considerations.
Once you have a good idea of both your short- and long-term plans, it is time to move on to the next step, evaluating the market potential for exiting your company. |
Determining the right exit strategy for your company
At present, there is a definite softening in the accelerated start-up-to-exit cycle in Alberta. This is particularly the case in the overheated junior Oil and Gas sector, where in recent years, the cycle has been reduced to a mere 18-24 months.
In most industries, the appetite for takeovers, mergers and purchase of assets has diminished, as potential buyers are taking a harder look at prospective companies before making the leap to new ownership.
As a result, it’s important for you to take a realistic look at your company and ask yourself: Is the market currently healthy in your industry? Where is your company in its business cycle? Does it need time to develop to be more attractive to potential buyers?
Many people have compared selling a company to undertaking a major home renovation: the process likely will take longer than anticipated, and be more emotional than envisioned. So, it pays to be realistic.
The following are but a few key strategies to consider:
The first decision you will have to make is whether you should structure your exit through:
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Outright sale of assets: This is a relatively straight-forward procedure. You sell all your equipment and inventory of widgets to the buyer.
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Selling shares: This is a more complex “corporate” strategy that can include a wide variety of mechanisms, including, but not limited to, being taken over by another company, a merger between your company and another company, or even taking your company public through an Initial Public Offering (IPO).
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Deciding which path to pursue can involve a lot of negotiation between you and your company’s purchaser since:
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As a business owner, it is to your advantage to sell shares to receive the benefits of capital gains treatment. This also enables you to avoid recapture of any depreciation claimed on the business assets in an asset sale.
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Conversely, it’s to the advantage of your buyer to only purchase the assets. By doing so, he can maximize his tax pools for future deductibility. In addition, by purchasing assets only, the new buyer avoids assuming the liabilities that rest with the company itself such as obligations for past taxes, environmental claims and potential lawsuits.
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A hybrid strategy, in which you sell some of your company’s assets and some shares, might be available and could satisfy both parties in the transaction.
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Shareholders in Canadian companies: Current tax legislation enables you to sell shares in your company to your company’s buyer. You can then take back shares in the buyer’s company as payment for all or a portion of the amounts paid to you without tax being immediately payable by you.
You can make a “rollover” tax election and defer most, if not all, of the tax you would otherwise have paid on the sale of the shares for cash until some point in the future when you decide to sell the shares in your buyer’s company. |
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This “rollover” transaction is particularly appealing if you receive shares in a public entity, and therefore, can opt to liquidate your position in the buyer’s shares at any time you choose. However, rollovers are not available if the buyer is a U.S. entity or a Canadian trust.
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A cautionary note! If your potential buyer is a U.S. corporation, this increases the complexity of the purchase and brings up other considerations. Here are a couple of strategies that could be to your advantage:
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Exchangeable shares: This is a cross-border strategy that involves the use of a subsidiary of the buyer and special shares. It works like this: your U.S. buyer creates a wholly-owned Canadian subsidiary (“Subco”). This company then issues a Subco share to you, which you can exchange at any time for a share in the U.S. parent company. By using this strategy, you can still defer the taxes payable on the sale of your shares until the point in time you exchange or sell the Subco shares. That’s because you have now exchanged your shares for shares in another Canadian company. |
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ULC: Another strategy may include an Unlimited Liability Corporation (“ULC”). A bit of a hybrid entity, the ULC, which is typically a subsidiary of the U.S. parent buyer, functions as a corporation for Canadian tax purposes, but as a flow- through entity for U.S. purposes. The use of this vehicle may provide additional tax advantages to the buyer which in turn may have a positive impact on the price the buyer is willing to pay. |
Mergers and takeovers
Another strategy is to merge two companies. This strategy may appeal to you, for example, if you want to make your company more competitive by having a greater market share, creating economies of scale or offering more products and services.
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Mergers: Also commonly referred to as an amalgamation, all of the rights and liabilities of both your company and the company with which you merge, continue on in the new company. The merger doesn’t need to be between companies of equal size or revenue. Tax consequences generally play a significant role in the parties’ consideration of adopting this method. |
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Takeovers: A cousin of a merger, in this strategy the buyer purchases all of the shares of your company. |
With both mergers and takeovers, you could hold shares in the new company and/or receive cash. You can also often negotiate if you want to continue to serve in some management role with the new company.
Going public
Some business owners view going public, also known as an initial public offering, as an attractive alternative to exit their company, particularly if they want to remain with the company for a period of time.
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In essence, you can sell part of your shares, capitalizing on your years of hard work, while you continue working in the business. |
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Given that the investing public is basing its decision, at least in part, on your continued involvement, this method is seldom a viable option in circumstances where you wish to sell out entirely. |
Income trusts
Changing business and political environments must be taken into consideration. You may find that strategies once considered viable may no longer be attractive options. For example, the recently-announced changes in the tax structure of Income Trusts may cause you to seriously re-evaluate this type of buyer. Due to the current uncertainty surrounding Income Trusts, this category of buyer is not being included in this article.
Maximizing your investment
Exiting your company requires the same dedication, commitment and high energy that you have devoted to ensuring its growth and success. This is a critical time in the life of your business, as well as your personal life.
Tax considerations, succession issues (including sensitivity if this is a family business), regulatory requirements and human resource responsibilities, are only a few of the complexities you will encounter as you search for the right strategy for your particular situation.
Further, your exit strategy may be phased-in over time, and could involve a combination of strategies. As such, you may want to consult your legal advisor at the outset to advise you of your options in order to maximize the return on your investment.
Borden Ladner Gervais LLP is among Canada’s most respected full-service national law firms. With more than 700 lawyers, intellectual property agents and other professionals in six offices across the country, BLG provides corporate legal services to a wide range of clients nationally and internationally in virtually every area of law. For more information, visit www.blgcanada.com.
This e-newsletter is not intended to be a complete statement of the law or an opinion on the subject. Although we endeavour to ensure its accuracy, no one should act upon it without a thorough examination of the law after the facts of a specific situation are considered. No part of this publication may be reproduced without prior written permission of Borden Ladner Gervais LLP.
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