Insights & Info

Insights > Family Buyouts – The Challenges of Cashing Out Family Members

Family Buyouts – The Challenges of Cashing Out Family Members

By Generational Equity

family buyout

In the course of my daily readings I came across a tremendous article covering the downside and risks associated with intra-family buyouts and succession. Penned by John A. Davis, senior lecturer in the Entrepreneurial Management unit at Harvard Business School, the piece examined one tragic story of family transition gone bad, using it to point out some of the pitfalls of family succession and how NOT to manage it.

I am sure many of you have read about the Market Basket story in the past. I remember following it several years ago as it worked its way through the legal system. In his article entitled “Managing the Family Business: Market Basket’s Lessons About Buyouts,” this is how Mr. Davis introduces us to the sad story:

Buyouts of family owners rarely happen—even when it is clearly a good option.

Market Basket, a highly respected supermarket family business in New England, learned this lesson the hard way last summer [summer of 2014]. In this real Greek American tragedy, two branches of the Demoulas family warred for 30 years, in and out of court, over legitimate grievances involving a lot of money and, of course, over control of the company …

The founder, Arthur Demoulas, had two capable sons, Mike and George, who joined him in his little store, took it over, and then built a great supermarket business. The founder died, then George unexpectedly died, and Mike took over.

I highlight the tragedy above because it points out the first mistake many business owners make; having no clear, written succession plan. When tragedy occurs without a plan, the consequences can be devastating to not only the family but sadly also even more so to the business, its customers, employees, and suppliers.

The ramifications of an unexpected turn can be far reaching. That is why it is vital for business owners to have a clear succession plan in place long before something unplanned occurs. No one likes to face issues like this, but if you do, you prepare your family and company in advance in case one of the big D’s – Death, Disability, Divorce, Disinterest, and Disagreement – occurs. I have highlighted this last big D because the story of the Market Basket transition now takes a disagreeable turn for the worse:

The brothers had an agreement that the surviving brother would take care of the other brother's family, but instead, George's branch accused Mike's branch of defrauding them out of their shares in the company. The two branches went to war.

A buyout was proposed, but the two sides were far apart on price. In 1990, they went to court. After a few years of expensive, embarrassing, and exhausting battling in court, a judge awarded George's branch with 50.5 percent of the company's shares. Problem resolved?

No. Another buyout was proposed but couldn't be agreed on. The battle moved to the board.

A key point that we often make to business owners we meet with is this: Selling your business with your relatives in the best case scenario can be extremely emotional, even more so if you are expecting your relative(s) to buy you out at a fair market value.

We meet with business owners regularly who tell us horror stories about the “buyout” they had in place (usually based on nothing more than a handshake around the family dining table during Christmas dinner) that never came to pass because the agreement with the cousin, nephew, brother, sister, aunt, uncle, etc., failed to materialize because of valuation differences. This is why we advise folks that it is far better to find a third party to acquire the majority of the business, cash out any owners that need or want to exit, and retain current owners that wish to stay. This is far cleaner and allows the family to avoid nasty trials over internal valuations.

The Heartbreaking Situation Deteriorates

Sadly the Market Basket story gets even worse. According to Mr. Davis:

Mike's branch wanted to invest aggressively in the business; George's branch wanted more dividends. Mike's branch kept a slim majority on the board until 2014, when George's branch obtained control and fired the CEO—who happened to be a cousin, Arthur T. Demoulas. Management was outraged, and the employees walked out in support of their CEO.

The company lost tens of millions of dollars as shoppers largely honored the wishes of workers. Eventually, the Mike-Arthur T. Demoulas branch bought out their cousins with the help of outside investors.

The good news is, as I discussed above, outside investors stepped in and bought out half the family and the issue of ownership was alleviated. However, this didn’t happen before the business was severely impacted by the loss of customers, goodwill, employees and ultimately millions of dollars in income. Do you think that affected the ultimate price the investors were willing to put into the business to buy half the family out? You can bet it did. Keep in mind that the original litigation started in 1990, but half the family was cashed out in 2014. In the intervening 24+ years, you can imagine the impact this horrid situation had on sales and income.

Mr. Davis goes on in his fine article to outline key reasons why intra-family buyouts are generally not successful. One of his points we encounter all too often: Expecting family members to have the financial wherewithal to be able to actually afford to cash you out. Even if you can come to some agreement on valuation, the reality is if your business is worth $10 million, and your half is then worth $5 million, odds are high that your partner family members will not have that much cash laying around to buy you out.

So what happens? You agree to a long, long, long earn-out – in some cases for years – in the HOPEthat your family members will be able to grow the business so that throughout the next 5-10 years they can eventually pay you the $5 million they owe. Look closely at your next of kin that are running the business with you. Do you really think that cousin Larry has the DNA to become a great CEO? It matters not that he has been working in the mailroom for 30 years; he may not (and most likely will never) have the skill set necessary to run a multi-million-dollar business.

Avoid the Intra-Family Buyout Tragedy

I use Mr. Davis’s article and the Market Basket story to illustrate one key point: In most cases, it is far better to look for outside investors/buyers from the start rather than waiting until the business is tanking due to a family disagreement.

At our M&A seminars we spend a great deal of time discussing the various methods of creating working succession plans including ESOPs, family member buyers, outside investors, high net worth individuals, corporate strategics, etc. The point being – not every solution fits every business. However, to avoid situations like Market Basket’s, we strongly recommend looking at outside folks for help.

Most family business owners are concerned about two issues simultaneously and they sometimes see them as being polar opposites:

  1. Maintaining the family legacy in the business AND
  2. Becoming financially solvent.

The great news is that both can be accomplished even in an outright 100% sale of the family company.

In most cases, because of brand recognition, buyers will retain the original company name and often will take great pride in recounting the 100-year history of the business going all the way back to the founder. And, just as importantly, key long-term employees are usually retained in order to maintain business continuity. So in most cases, the legacy of your firm in the industry and local community will continue on for years.

But most importantly, you and your partners will be relieved of the financial burden of running a company and the risk associated with that, and you will be able to maintain good familial relations throughout the process, which is perhaps ultimately the greatest benefit of all. Just take a look at what happened to the Demoulas family!

If you find yourself in a position where a succession plan is needed to ensure the longevity of your family business, I suggest that you and your partners attend an educational Generational Equity exit planning workshop. As I mentioned, these are designed to help your family see the benefits/risks of all methods of succession. While there you and your partners will be able to meet one-on-one with our exit planning team and confidentially investigate if our services might be a good fit for your family’s situation. 

And above all else, as you and your family look for transition methods that make sense, remember to realize that at the end of the day, all you have is family. If you destroy those relationships bickering over valuations and buyouts, you have more at risk than just money; you have family ties that go back generations that could be destroyed.

Carl Doerksen is the Director of Corporate Development at Generational Equity.

© 2021 Generational Equity, LLC. All Rights Reserved.

Make an informed decision

The best decisions in life are informed decisions. We release educational business insights like this every week. Subscribe to make sure you don’t miss the latest news, views and analysis.

Success

Success, you have been added to our list.

Generational Equity’s assistance was invaluable in compiling and marketing our business.
Bil MacLeslie, CEO, ipHouse
After attending a conference with GE, I decided that the value they bring would be worth the expense and as soon as I started working with them, I realized that was the right decision. When we started to get LOIs, Fred Zweifel took the lead on the communication and supported negotiations throughout the process, which got tricky as we moved forward. I learned that it can be common for companies to make a great offer then work to erode that price with their discoveries, but Fred and the GE team kept that from happening.
Caroline Connelly, CEO, OptoTest
I quickly recognized that Don was working for Sharpe Mixers above all else, and held our interests above others.
Jay Dinnison, Owner of Sharpe Mixers
The help you provided us during each step of this process made us feel very comfortable and confident we were selecting the right approach to transition our Company.
Andy Graham, Vice President, Modern Heating & Plumbing
Generational Equity educated and informed us – so that we could be on the upside of a good decision (to sell).
Bil MacLeslie, CEO, ipHouse
The most important contribution I think Ahmad made was with his personality and work ethic. He is sincere, efficient, and very hard working. He was available to me at all times, whether it was for specific detail of the negotiation or just to talk through the bigger picture. He listened, advised, and recommended, but never forced his idea or opinions. In the time we worked together, he became a valued colleague and also a friend.
Salvo Stoch, Founder and CEO of Sleeping Partners
We had the pleasure of working with Mr. Ahmad Behjati Managing Director, M&A, for Generational Equity during our acquisition of Papa's Dodge in late 2021. Generational Equity and Mr. Behjati represented and marketed Papa’s Dodge. As our primary contact, Mr. Behjati was professional in every facet of this acquisition process, conveying valuable advice most times and assisting us in every step of the process.
Rick Greene of Dobbs Equity Partners LLC
I wanted to take this opportunity to thank you for all that you have done for us. Not only did you take care of all the aspects of the sale but took extra care to make sure we knew what it looked like every step of the way. I will definitely recommend your company to anyone that is in a position to or looking to exit their business.
Shane and Johanna Kline, Owners of Vision Upfitters
Michael worked tirelessly, He followed every lead meticulously and urgently to make sure nothing was missed.
Robert Evans, President and CEO of Mealtracker Dietary Software
I need to say an immense thank you to Don Ho for his stellar work ethic, attention to detail, and tireless effort. Also thank you to the whole crew at GE! Without you, Don could not do such a phenomenal job. We were shooting for closing and funding before the end of 2020, due to the uncertainty of the political landscape and taxes. I am happy to report we closed last week and will be funding tomorrow.
Dr. Caty J. Catron PhD, RN, VA-BC – Owner, Vic The Picc, LLC
Greetings Mike. Thank you for the captivating and compelling presentation you made at the Phoenix presentation last week. Over many years in business yours was the most informative and well-presented presentation, on any subject, that I have ever attended! Your energy and enthusiasm combined with your concise and captivating support of your positions with easily understood examples and data was compelling.
Pete L.
Thank you again for all your guidance and support. Any company will achieve what they intend, if they have you on their team!
Rick Nowak, President/CEO, Kurz Electric Solutions, Inc.
Your wisdom and experience were invaluable to me during this once-in-a-lifetime transaction.
Ralph Noblin, President of Noblin & Associates
We are very happy with the end result, and are very happy to be able to move forward with all of our future growth plans.
Rick Nowak, President/CEO, Kurz Electric Solutions, Inc.
We were represented by Michael Goss with Generational. The due diligence was grueling and exhausting, but Michael propped us up and kept us motivated throughout the process. Debi and I continued to ask each other how we could possibly make it through this process without the assistance of Michael. Michael's professionalism and knowledge is absolutely amazing, and we are so blessed to have had him by our side as we made our future dreams come true.
Bob and Debi Lee, Owners of BL Technology, Inc and BL Tl Services, LLC
I decided to attend the conference and hopefully receive some guidance on how to structure an exit plan of my business. Upon arriving at the conference, I was so impressed with the presentation given by Generational Equity that I set a future appointment that week to discuss the possibility of selling my business with their Senior Managing Director David Robinson.
JoAnn Ellis, Owner of Fondren 5 Star Kennels
We thank you Eric and Generational Equity making our dream come true.
Larry Moore, Owner, A Company Portable Restrooms
We knew it would be a difficult task to have someone really understand our business and our market, prior to researching a possible buyer, so it was imperative that we found someone of your caliber, with definite proven experience in this area.
Rick Nowak, President/CEO, Kurz Electric Solutions, Inc.
I would like to thank you and your firm, Generational Equity, for being our valued advisors in our journey.
Bil MacLeslie, CEO, ipHouse
The professionals at Generational Equity then helped develop a roadmap for enhancing the value of the firm and an evaluation report. This was completed by June 14, 2021. We then developed the Confidential Information Memorandum and put Taylor Studios, Inc. on the market by July.
Generational Equity’s professional staff helped me every step of the way. Their network and professionals are the only reason I sold my company this quickly. For me this is a once in a lifetime sale and I was unfamiliar with the process. I was able to lean on them with questions and concerns.
Betty L. Brennan, President, Taylor Studios
We were happy to see the interest in our company and what we cherished has not just a valuable company but an important company to the communities we served in.
Larry Moore, Owner, A Company Portable Restrooms
I am pleased that I was able to work with Andrew Byrd throughout this experience. From the first meeting we had in Minneapolis I felt that I was in good hands. His knowledge and expertise is second to none. He guided the process consistently throughout. I feel lucky that I was pared with Andrew and could not be happier that I chose Generational Equity to handle this major life event. Thank you Andrew and GenEq for everything!
Eric Erlandson, Owner, Action Fastenings, Inc.
I wanted to write you a quick letter to express our appreciation and our delight on the outcome of helping us through the process of our recent sale. We are very happy with the end result, and are very happy to be able to move forward with all of our future growth plans.
Terry D. Wickman, President, Keytroller
I must say that I have never worked with a more driven, competent and focused individual as Don Ho.
Jay Dinnison, Owner of Sharpe Mixers
T.D., thank you so much! You are a great leader! I love how you are using your gifts and talents to better others. You are clearly a GREAT COACH! This 3 day session undoubtedly changed the future of our business, and very well may have been the sole catalyst to save my company, my health and my marriage! A genuine “thank you” from the bottom of my heart.
Bryan D. Horn, Owner, Over Under Clothing
Through the sale process, Generational brought in several interested buyers and we closed in about 6 months. I am so glad I accepted that invitation to the conference and could not be happier with the whole process. The team at Generational coupled with their knowledge and guidance was so valuable that in the end, I know I could never have done this on my own!
JoAnn Ellis, Owner of Fondren 5 Star Kennels
I couldn’t have asked for a better team than Michael and Deborah. We couldn’t have done it without them.
Robert Evans, President and CEO of Mealtracker Dietary Software
Thanks to you, the entire GE team and especially Michael Goss for driving a great valuation, coaching me and driving the process across the finish line. Please let me know if there is anything I can do to support GE going forward.
Tom Currier, Former President & CEO, Rackmount Solutions
The process was much more involved than I expected and your help, experience and advice was a big factor in making the negotiations go as smoothly as possible.
Terry D. Wickman, President, Keytroller