Bringing the next generation into your wine business? Some considerations.
For many winery owners nearing retirement, the idea of passing the business down to their children is a compelling succession plan—it keeps the winery in the family. However, this is not a decision to be made lightly. Here are some key factors to consider as you face this significant transition. Get ready for some frank, valuable conversations!
Is it a good fit?
First off, you need to make sure that your child has a genuine interest in running the business, and also and that he or she has the skills needed to do so. If taking over the winery business is not what they truly want, you should probably explore other exit strategies for your business.
If it is just skills they lack while the desire is there, consider how to get them the skills they need. Can they go to school or take courses while they work alongside you? What other paths are there for them to acquire the skills they need, whether in wine production, marketing, or business management? Are there other partners, key employees, or outside vendors/contractors you could bring in to help round out the skill set?
Always at arm’s length
When looking at making ownership changes, you need to make sure that your books are impeccable. You should always strive to keep business operations at arm's length from family relationships. Proper accounting practices and accurate financial statements set the stage for an accurate business valuation, equitable treatment for all stakeholders, and better decision-making and harmony all around.
If the winery business is a separate entity from family-owned assets like land, buildings, or vineyards, ensure the winery is paying fair market rent for these resources.
Also consider owner compensation. All owners should be compensated appropriately for their work: owners in an S-Corp should receive a W-2 salary, while those in a partnership should receive Guaranteed Payments for their work. Owners of single-member LLC’s should consider the owner draws they take from the company and think about how this compensation approach may need to change if you add new partners or shareholders.
What’s the price?
It's essential to clearly identify what components of the business you plan to transfer. This could range from just the operational side of the company to additional assets like land, buildings, and vineyards. To ensure that all parties understand and agree on the value of what you’re transferring, it’s advisable to engage an expert for an independent business valuation. Keep in mind that the business’s book value or retained earnings may not reflect its fair market value. Additionally, since transactions involving share or partnership transfers can attract IRS scrutiny, a third-party appraisal is crucial.
Update your operating agreement
The addition of a new owner can shift the balance in decision-making, daily operations, and long-term strategies. If you are not selling the business all at once, will you be working alongside your children? You will need to clearly define your roles and have a game plan for how you will make decisions. It’s essential that everyone be on the same page as far as the company’s vision and goals.
These are important human discussions and decisions, but they also need to be formalized in your operating agreement. This step may be overlooked when the winery is a husband-wife operation, but it is essential when introducing the next generation (or other third parties). Updating your operating agreement is a task best handled with legal advice.
Your operating agreement should define how shares can be sold or transferred to third parties. It should also account for unforeseen life events, such as divorce, disability, or death. This often-overlooked step can save heartache down the line.
Understand the tax implications
Whether you're dealing with an S-Corp and selling shares, or operating within a partnership structure, both scenarios carry tax implications. While taxes shouldn't be your primary consideration, you will still want to understand the landscape. You will likely need to file gift tax returns if the shares or partnership interests are being gifted. If selling shares or partnership stakes, you may need to assess capital gains tax implications. Integrating this step with your overall estate planning may offer avenues to minimize tax liability. Always consult a tax advisor to make an informed decision.
Turning equity into cash for retirement
As you go through this, you should definitely be revisiting your estate and retirement plans. Ideally you will be able to turn the equity you have built in the business into a steady cash flow in your retirement, while you watch the business grow and thrive under the next generation.
If your children lack the resources to buy the business or their shares outright, think about selling your shares through an installment plan or owner financing. By providing a loan to your children to make the purchase, they can pay you back over time, which might work out ideally for both of you. The proceeds from the business should enable the children to repay the loan—assuming the business is profitable! And if it’s not profitable, that is probably an elephant in the room that you need to address before making any ownership transfer.
Mixing business and family can be tricky. But it can also turn out to be one of the most rewarding things you do if it turns out well. Take time to do it thoughtfully and make sure you get good advice along the way.
