Don’t let “founder’s syndrome” impede your succession plan

Are you the founder of your company? If so, congratulations — you’ve created something truly amazing! And it’s more than understandable that you’d want to protect your legacy: the company you created.

But, as time goes on, it becomes increasingly important that you give serious thought to a succession plan. When this topic comes up, many business owners show signs of suffering from an all-too-common affliction.

The symptoms

In the nonprofit sphere, they call it “founder’s syndrome.” The term refers to a set of “symptoms” indicating that an organization’s founder maintains a disproportionate amount of power and influence over operations. Although founder’s syndrome is usually associated with not-for-profits, it can give business owners much to think about as well. Common symptoms include:

• Continually making important decision without input from others,
• Recruiting or promoting employees who will act primarily out of loyalty to the founder,
• Failing to mentor others in leadership matters, and
• Being unwilling to begin creating a succession plan.

It’s worth noting that a founder’s reluctance to loosen his or her grip isn’t necessarily because of a power-hungry need to control. Many founders simply fear that the organization — whether nonprofit or business — would falter without their intensive oversight.

Treatment plan

The good news is that founder’s syndrome is treatable. The first step is to address whether you yourself are either at risk for the affliction or already suffering from it. Doing so can be uncomfortable, but it’s critical. Here are some advisable actions:

Form a succession plan. This is a vital measure toward preserving the longevity of any company. If you’d prefer not involve anyone in your business just yet, consider a professional advisor or consultant.

Prepare for the transition, no matter how far away. Remember that a succession plan doesn’t necessarily spell out the end of your involvement in the company. It’s simply a transformation of role. Your vast knowledge and experience needs to be documented so the business can continue to benefit from it.

Ask for help. Your management team may need to step up its accountability as the succession plan becomes more fully formed. Managers must educate themselves about the organization in any areas where they’re lacking.

In addition to transferring leadership responsibilities, there’s the issue of transferring your ownership interests, which is also complex and requires careful planning.

Blood, sweat and tears

You’ve no doubt invested the proverbial blood, sweat and tears into launching your business and overseeing its growth. But planning for the next generation of leadership is, in its own way, just as important as the company itself. Let us help you develop a succession plan that will help ensure the long-term well-being of your business.

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How profitable are your customers?

“We love our customers!” Every business owner says it. But all customers aren’t created equal, and it’s in your strategic interest to know which customers are really strengthening your bottom line and by how much.

Sorting out the data

If your business systems track individual customer purchases, and your accounting system has good cost accounting or decision support capabilities, determining individual customer profitability will be simple. If you have cost data for individual products, but not at the customer level, you can manually “marry” product-specific purchase history with the cost data to determine individual customer value.

For example, if a customer purchased 10 units of Product 1 and five units of Product 2 last year, and Product 1 had a margin of $100 and Product 2 had a margin of $500, the total margin generated by the customer would be $3,500. Be sure to include data from enough years to even out normal fluctuations in purchases.

Don’t maintain cost data? No worries; you can sort the good from the bad by reviewing customer purchase volume and average sale price. Often, such data can be supplemented by general knowledge of the relative profitability of different products. Be sure that sales are net of any returns.

Incorporating indirect costs

High marketing, handling, service or billing costs for individual customers or segments of customers can have a significant effect on their profitability even if they purchase high-margin products. If you use activity-based costing, your company will already have this information allocated accurately.

If you don’t track individual customers, you can still generalize this analysis to customer segments or products. For instance, if a group of customers is served by the same distributor, you can estimate the resources used to support that channel and their associated costs. Or, you can have individual departments track employees’ time by customer or product for a specific period.

Knowing their value

There’s nothing wrong with loving your customers. But it’s even more important to know them and how much value they’re contributing to your profitability from operating period to operating period. Contact us for help breaking down the numbers.

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Find the right path forward with KPIs

From the baseball field to the boardroom, statistical analysis has changed various industries nationwide. With proper preparation and guidance, business owners can have at their fingertips a wealth of stats-based insight into how their companies are performing — far beyond the bottom line on an income statement.

The metrics in question are commonly referred to as key performance indicators (KPIs). These formula-based measurements reveal the trends underlying a company’s operations. And seeing those trends can help you find the right path forward and give you fair warning when you’re headed in the wrong direction.

Getting started

A good place to start is with some of the KPIs that apply to most businesses. For example, take current ratio (current assets / current liabilities). It can help you determine your capacity to meet your short-term liabilities with cash and other relatively liquid assets.

Another KPI to regularly calculate is working capital turnover ratio (revenue / average working capital). Many companies struggle with temperamental cash flows that can wax and wane based on buying trends or seasonal fluctuations. This ratio shows the amount of revenue supported by each dollar of net working capital used.

Debt is also an issue for many businesses. You can monitor your debt-to-equity (total debt / net worth) ratio to measure your degree of leverage. The higher the ratio, the greater the risk that creditors are assuming and the tougher it may be to obtain financing.

Choosing wisely

There are many other KPIs we could discuss. The exact ones you should look at depend on the size of your company and the nature of its work. Please contact our firm for help choosing the right KPIs and calculating them accurately.

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Could captive insurance reduce health care costs and save your business taxes?

If your business offers health insurance benefits to employees, there’s a good chance you’ve seen a climb in premium costs in recent years — perhaps a dramatic one. To meet the challenge of rising costs, some employers are opting for a creative alternative to traditional health insurance known as “captive insurance.” A captive insurance company generally is wholly owned and controlled by the employer. So it’s essentially like forming your own insurance company. And it provides tax advantages, too.

Benefits abound

Potential benefits of forming a captive insurance company include:

  • Stabilized or lower premiums,
  • More control over claims,
  • Lower administrative costs, and
  • Access to certain types of coverage that are unavailable or too expensive on the commercial health insurance market.

You can customize your coverage package and charge premiums that more accurately reflect your business’s true loss exposure.

Another big benefit is that you can participate in the captive’s underwriting profits and investment income. When you pay commercial health insurance premiums, a big chunk of your payment goes toward the insurer’s underwriting profit. But when you form a captive, you retain this profit through the captive.

Also, your business can enjoy investment and cash flow benefits by investing premiums yourself instead of paying them to a commercial insurer.

Tax impact

A captive insurance company may also save you tax dollars. For example, premiums paid to a captive are tax-deductible and the captive can deduct most of its loss reserves. To qualify for federal income tax purposes, a captive must meet several criteria. These include properly priced premiums based on actuarial and underwriting considerations and a sufficient level of risk distribution as determined by the IRS.

Recent U.S. Tax Court rulings have determined that risk distribution exists if there’s a large enough pool of unrelated risks — or, in other words, if risk is spread over a sufficient number of employees. This is true regardless of how many entities are involved.

Additional tax benefits may be available if your captive qualifies as a “microcaptive” (a captive with $2.2 million or less in premiums that meets certain additional tests): You may elect to exclude premiums from income and pay taxes only on net investment income. Be aware, however, that you’ll lose certain deductions with this election.

Also keep in mind that there are some potential drawbacks to forming a captive insurance company. Contact us to learn more about the tax treatment and other pros and cons of captive insurance. We can help you determine whether this alternative may be right for your business.

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Back-to-school marketing ideas for savvy business owners

August is back-to-school time across the country. Whether the school buses are already rumbling down your block, or will be soon, the start of the school year brings marketing opportunities for savvy business owners. Here are some examples of ways companies can promote themselves.

A virtual “brag book”

A creative agency posts on social media a vibrant photographic slideshow of employees and their children on the first day of school. It gives the parents an opportunity to show off their kids — and creates a buzz on the agency’s Facebook page.

The brag book’s innovative design also demonstrates the agency’s creative skills in a fun, personal way. And it helps attract talent by showcasing the company’s fun, family-friendly atmosphere.

Promos for parents

In August, many parents are in the midst of desperately trying to complete checklists of required school supply purchases. To help them cope, a home remodeling / landscape business offers free school supplies with every estimate completed during the month.

Customers receive colorful bags containing relatively inexpensive items such as pencils, pens, pads of paper and glue sticks all stamped with the company’s logo. And even though every estimate won’t result in a new job, completing more estimates helps create an uptick in fall projects.

Freebies for students

During the first week of school, a suburban burger joint offers students a free milkshake with the purchase of a burger. Kids love milkshakes and, because the freebie is associated with a purchase, the business preserves its profitability.

Meanwhile, the promotion brings entire families into the restaurant — widening the customer base and adding revenue. The campaign creates goodwill in the community by nurturing students’ enthusiasm for the beginning of the school year, too.

Determine what’s right for you

Obviously, these examples are industry-specific. But we hope you find them informative and inspirational. Our firm can help you leverage smart marketing moves to strengthen profitability and add long-term value to your business.

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Material participation key to deducting LLC and LLP losses

If your business is a limited liability company (LLC) or a limited liability partnership (LLP), you know that these structures offer liability protection and flexibility as well as tax advantages. But they once also had a significant tax disadvantage: The IRS used to treat all LLC and LLP owners as limited partners for purposes of the passive activity loss (PAL) rules, which can result in negative tax consequences. Fortunately, these days LLC and LLP owners can be treated as general partners, which means they can meet any one of seven “material participation” tests to avoid passive treatment.

The PAL rules

The PAL rules prohibit taxpayers from offsetting losses from passive business activities (such as limited partnerships or rental properties) against nonpassive income (such as wages, interest, dividends and capital gains). Disallowed losses may be carried forward to future years and deducted from passive income or recovered when the passive business interest is sold.

There are two types of passive activities: 1) trade or business activities in which you don’t materially participate during the year, and 2) rental activities, even if you do materially participate (unless you qualify as a “real estate professional” for federal tax purposes).

The 7 tests

Material participation in this context means participation on a “regular, continuous and substantial” basis. Unless you’re a limited partner, you’re deemed to materially participate in a business activity if you meet just one of seven tests:

1. You participate in the activity at least 500 hours during the year.
2. Your participation constitutes substantially all of the participation for the year by anyone, including nonowners.
3. You participate more than 100 hours and as much or more than any other person.
4. The activity is a “significant participation activity” — that is, you participate more than 100 hours — but you participate less than one or more other people yet your participation in all of your significant participation activities for the year totals more than 500 hours.
5. You materially participated in the activity for any five of the preceding 10 tax years.
6. The activity is a personal service activity in which you materially participated in any three previous tax years.
7. Regardless of the number of hours, based on all the facts and circumstances, you participate in the activity on a regular, continuous and substantial basis.

The rules are more restrictive for limited partners, who can establish material participation only by satisfying tests 1, 5 or 6.

In many cases, meeting one of the material participation tests will require diligently tracking every hour spent on your activities associated with that business. Questions about the material participation tests? Contact us.

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4 tough questions to ask before expanding to a new location

Is business going so well that you’re thinking about adding another location? If this is the case, congratulations! But before you start planning the ribbon-cutting ceremony, take a step back and ask yourself some tough questions about whether a new location will grow your company — or stretch it too thin. Here are four to get you started:

1. What’s driving your interest in another location? It’s important to articulate specifically how the new location will help your business move toward its long-term goals. Expanding simply because the time seems right isn’t a compelling enough reason to take on the risk.

2. How solidly is your current location performing? Your time and attention will be diverted while you get the second location up and running. Yet you’ll need to maintain the revenue your first location is generating — especially until the second one is earning enough to support itself. So your original operation needs to be able to operate well with minimal management guidance.

3. How strong is the location you’re considering? Just as you presumably did with your first location, ensure the surrounding market is strong enough to support your company. The setting should complement your business, not pose potentially insurmountable challenges.

Also consider proximity to competitors. In some cases, such as a cluster of restaurants in a small downtown, proximity can help. The area becomes known as a destination for those seeking a night out. But too many competitors could leave you fighting with multiple other businesses for the same small group of customers.

4. Can you expand in other ways that are less costly and risky? You might be able to boost sales by adding inventory or extending hours at your current location. Another option is to revamp your website or mobile app to encourage more online sales.

Investments such as these would likely require a fraction of the dollars needed to open another physical location. Then again, a successful new site could mean a substantial inflow of revenue and additional market visibility. Let us help you crunch the numbers that will lead you to the right decision.

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Listening to your customers by tracking lost sales

“Sorry, we don’t carry that item.” Or perhaps, “No, that’s not part of our service package.” How many times a year do your salespeople utter these words or ones like them? The specific number is critical because, if you don’t know it, you could be losing out on profit potential.

Although you have to focus on your strengths and not get too far afield, your customers may be crying out for a new product or service. And among the best ways to hear them is to track lost sales data and decipher the message.

3 steps to success

A successful lost sales tracking effort generally involves three steps:

1. Get the data. Ask your sales associates to log every customer request and to question customers further to get at the heart of what they need. Train sales associates to record information such as the date of request, item requested and the reason the item was unavailable.

2. Crunch the numbers. Calculate how much you could sell if you had the new items in stock or offered the additional service. Naturally, you’ll need to bear in mind that meeting customer demand might involve spending money on equipment or personnel to expand your product or service line. Key data points to examine include:

• Estimated potential purchases,
• Potential sales losses, and
• Estimated gross profit losses.

Develop a report that lays out this and other information, so you can see it in black and white.

3. Talk about it. Run a lost sales report monthly and discuss the results with your management team. Seek to establish consensus on where your best strategic opportunities lie. Sometimes you’ll want to be patient and let trends develop before acting. Other times, you might want to strike early to seize an underdeveloped market.

A better grip

Lost sales are lost opportunities. By getting a better grip on your customers’ needs, you can build a stronger bottom line. Please contact us for help creating and maintaining a lost sales tracking system that best suits your company’s distinctive needs.

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ESOPs offer businesses tax and other benefits

With an employee stock ownership plan (ESOP), employee participants take part ownership of the business through a retirement savings arrangement. Meanwhile, the business and its existing owner(s) can benefit from some potential tax breaks, an extra-motivated workforce and potentially a smoother path for succession planning.

How ESOPs work

To implement an ESOP, you establish a trust fund and either:

  • Contribute shares of stock or money to buy the stock (an “unleveraged” ESOP), or
  • Borrow funds to initially buy the stock, and then contribute cash to the plan to enable it to repay the loan (a “leveraged” ESOP).

The shares in the trust are allocated to individual employees’ accounts, often using a formula based on their respective compensation. The business has to formally adopt the plan and submit plan documents to the IRS, along with certain forms.

Tax impact

Among the biggest benefits of an ESOP is that contributions to qualified retirement plans such as ESOPs typically are tax-deductible for employers. However, employer contributions to all defined contribution plans, including ESOPs, are generally limited to 25% of covered payroll. In addition, C corporations with leveraged ESOPs can deduct contributions used to pay interest on the loan. That is, the interest isn’t counted toward the 25% limit.

Dividends paid on ESOP stock passed through to employees or used to repay an ESOP loan, so long as they’re reasonable, may be tax-deductible for C corporations. Dividends voluntarily reinvested by employees in company stock in the ESOP also are usually deductible by the business. (Employees, however, should review the tax implications of dividends.)

In another potential benefit, shareholders in some closely held C corporations can sell stock to the ESOP and defer federal income taxes on any gains from the sale, with several stipulations. One is that the ESOP must own at least 30% of the company’s stock immediately after the sale. In addition, the sellers must reinvest the proceeds (or an equivalent amount) in qualified replacement property securities of domestic operation corporations within a set period of time.

Finally, when a business owner is ready to retire or otherwise depart the company, the business can make tax-deductible contributions to the ESOP to buy out the departing owner’s shares or have the ESOP borrow money to buy the shares.

More tax considerations

There are tax benefits for employees, too. Employees don’t pay tax on stock allocated to their ESOP accounts until they receive distributions. But, as with most retirement plans, if they take a distribution before they turn 59½ (or 55, if they’ve terminated employment), they may have to pay taxes and penalties — unless they roll the proceeds into an IRA or another qualified retirement plan.

Also be aware that an ESOP’s tax impact for entity types other than C corporations varies somewhat from what we’ve discussed here. And while an ESOP offers many potential benefits, it also presents risks. For help determining whether an ESOP makes sense for your business, contact us.

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Does your business have too much cash?

From the time a business opens its doors, the owner is told “cash is king.” It may seem to follow that having a very large amount of cash could never be a bad thing. But, the truth is, a company that’s hoarding excessive cash may be doing itself more harm than good.

Liquidity overload

What’s the harm in stockpiling cash? Granted, an extra cushion helps weather downturns or fund unexpected repairs and maintenance. But cash has a carrying cost — the difference between the return companies earn on their cash and the price they pay to obtain cash.

For instance, checking accounts often earn no interest, and savings accounts typically generate returns below 2% and in many cases well below 1%. Most cash hoarders simultaneously carry debt on their balance sheets, such as equipment loans, mortgages and credit lines. Borrowers are paying higher interest rates on loans than they’re earning from their bank accounts. This spread represents the carrying cost of cash.

A variety of possibilities

What opportunities might you be missing out on by neglecting to reinvest a cash surplus to earn a higher return? There are a variety of possibilities. You could:

Acquire a competitor (or its assets). You may be in a position to profit from a competitor’s failure. When expanding via acquisition, formal due diligence is key to avoiding impulsive, unsustainable projects.

Invest in marketable securities. As mentioned, cash accounts provide nominal return. More aggressive businesses might consider mutual funds or diversified stock and bond portfolios. A financial planner can help you choose securities. Some companies also use surplus cash to repurchase stock — especially when minority shareholders routinely challenge the owner’s decisions.

Repay debt. This reduces the carrying cost of cash reserves. And lenders look favorably upon borrowers who reduce their debt-to-equity ratios.

Optimal cash balance

Taking a conservative approach to saving up cash isn’t necessarily wrong. But every company has an optimal cash balance that will help safeguard cash flow while allocating dollars for smart spending. Our firm can assist you in identifying and maintaining this mission-critical amount.

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