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By Wayne Rivers, CEO Family Business Institute

At a recent speaking engagement for family business owners, the attendees were very concerned about knowing how and when implement a strategic exit strategy. During the discussion regarding the necessary steps in business exit planning, it became incredibly obvious that this particular group of small business owners had set aside very few retirement assets for themselves.

The typical family business owner (FBO) invests and reinvests in his business over time. Many entrepreneurs and closely held business owners practice a policy of self-sacrifice, pay themselves relatively low wages, and hope for a day when the business is profitable and they will be able to take out substantial money in order to have the kind of lifestyles and retirements they dream about.

They see certain nobility in putting the business needs ahead of their own personal financial needs. The fact that many of the attendees in this group had followed the path of self-sacrifice and not socked away money outside of their companies meant that they couldn’t exit without remaining financially bound to the companies.

Though these were family businesses, many owners weren’t confident turning the business over to their children because so much of their personal net worth was locked up in the business, and they feared the children’s lack of experience, lack of a successful track record, youthful enthusiasm, etc., would cause the business to crash and burn, thereby jeopardizing their retirement security.  These business owners had no confidence in or idea of proper succession planning.

Many in the group seemed to be holding out hope (unrealistic hope in the vast majority of the cases) that a deep pockets buyer would waltz in upon the FBO’s attaining age 65 and cash them out the old fashioned way by simply buying the business and all its assets.

My question for the group was why wait to fund an eventual exit? Where is the advantage in waiting? I encouraged them to PAY THEMSELVES FIRST! Assuming the business has positive cash flow, there’s absolutely no advantage in leaving the money trapped inside of a C corporation or in a tax paid account inside an S corporation beyond the normal needs of business finance. FBOs must pre-finance their ultimate exits from their businesses by taking their money out now!

The concept was first revealed to me by a friend who’s a dentist. Based on the recommendation of a mentor, this dentist takes 10% of the cash receipts out of his practice each week as a personal “entrepreneur’s risk premium” and invests it. People in the investment community would call this sort of behavior “dollar cost averaging” which simply means taking a fixed amount of money at fixed intervals and investing it in assets outside the core business. The dentist’s discipline in paying himself first has allowed him to put aside significant assets not directly related to his business thereby vastly increasing his chances for a secure retirement.

Every municipality and government entity which borrows money uses the same approach. For example, let’s say your city decides to build a new water treatment plant. The city borrows the money using a bond issue. Since they know the bonds will require interest payments for the next thirty years and will be redeemed at a certain specific point in time, they engage in a practice called pre-refunding. Pre-refunding simply means they create a sinking fund to sock away enough money now in order to be able to pay the future financial obligation. Your exit from your family enterprise is a future financial obligation just as much as the municipality’s repayment of utility debt. Why not pre-refund your eventual exit?

An enterprising entrepreneur recently acquired a company from the founder. Her exit point is nebulous right now, but as an initial step she created an ESOP (Employee Stock Ownership Plan) soon after purchasing the company. She’ll have the company make tax-deductible contributions to the ESOP for the next few years and then use the accumulated cash in the ESOP to buy back his stock in a tax preferred way. The moral of his story is that the entrepreneur is not waiting for some ill-defined event to take place; she took matters into her own hands and created her own exit vehicle coincident with purchasing the company.

Whether you plan to retire at 55 or 80, your exit is inevitable. Start now to pre-refund your exit by systematically harvesting a fixed amount or percentage of money each week or month for your family company. Put those dollars aside in some alternative investment, pay yourself FIRST, and you’ll be able to exit your company one day with financial security and be blissfully independent of your children or successor managers in your golden years.