We’re selling a business right now in which several members of the management team hold minority shares in the company, with some holding less than one percent of the business. Management salaries are below market, but their compensation plan includes a percentage of the profits.
As business sales continue to grow, their compensation has increased significantly, meaning total compensation is far above market standard. For an owner, this arrangement is a great way of controlling your business’s fixed costs in slow times and sharing the success in good times.
But as for this management team, once the company is sold they may no longer have an opportunity to take part in profit sharing. They’ll get a payout from the sale, but that one-time payment may not weigh favorably against years of continued dividends. The challenge, then, is to figure out how to encourage management to cooperate in the sale process.
If key employees are aware the business is on the market, but they don’t want the business sold, they can do a lot of damage and put off buyers. I have actually seen key employees take a deal hostage, demanding a higher salary and benefits because they thought they were being slighted in the sale.
To avoid any negative maneuvering, I strongly recommended that the board of directors make a written resolution specifying management bonuses to be awarded on the successful completion of a sale. The board agreed to a $1 million incentive, and now these team members have a direct, monetary reason to support the sale.
That $1 million might have felt like a pretty hefty investment to some of the other shareholders, but at the end of the day it was only four percent of the expected value. My gut says the business will get an additional million or two in value because the management team is on board and wants to make the deal work.
A business transition can create a lot of uncertainty and anxiety for employees. Even valued managers may wonder if they’ll be let go after a sale. Or, once news of an impending sale hits, they may feel the timing is right to pursue new opportunities—rather than put themselves through the uncomfortable process of an ownership change.
Retention bonuses are designed to protect the company during times of change. In the example above, the management team will get part of the bonus once the company sells and the remainder after a certain amount of time has passed. By splitting the bonus into two payments, management has an incentive to stick around for a smooth transition.
Buyers will pay a higher price for a business when they can eliminate perceived risks. A proven management team who will maintain key operations and relationships can help a buyer achieve projected performance targets.
That’s why we consistently advise sellers to develop a strong, empowered management team who can run the business. Buyers may pay a premium if they know they’ll have an experienced team to not only maintain the business but take it to the next level.
Similarly, some transition negotiations will include an employment agreement for key staff members. This establishes that certain severance payments are to be made if an employee is terminated after a sale. This is a way for the business owner to protect his or her employees and discourage management from seeking new jobs.
Normally, we advise business owners to keep the sale process strictly confidential. Again, if employees become aware of a pending sale, they may look for other positions rather than risk the uncertainly of a business transition.
But sometimes certain team members must be included in the sale process, particularly when the owners are no longer active in day-to-day operations.
For the business I mentioned at the outset, everyone on the management team was informed of the pending sale, weeks before we actually put the business on the market.
Some of the employees were shocked and concerned. But once the president explained what they were trying to accomplish, and outlined the bonus opportunity that was on the table, everyone rallied.
Now the employee shareholders are excited for themselves and for the other owners, because they know they’ll be getting nice payout in the end. Instead of anxiety over the unknown, they can focus their efforts on maintaining a profitable business operation, ready to see what new owners, with a new infusion of cash and ideas, can do for the business.