Episode 14: Understanding rural small business succession

Christy Kallevig: Welcome to Vital Connections On Air, a podcast brought to you by University of Minnesota Extension Center for Community Vitality that explores the trends and topics support to communities and leaders throughout Minnesota. My name is Christy Kallevig, Extension Educator for the Center for Community Vitality. Today we continue exploring Minnesota's workforce challenges by discussing a topic that isn't always front and center in our minds.

Today we're going to be talking about business succession planning, and I'm excited to be joined by Liz Templin, who is an Extension educator with our community economics team within the Center for Community Vitality. Thank you for joining me today, Liz.

Liz Templin: I'm pleased to be here.

Christy Kallevig: Today as we take a look at the topic of business succession; how did this become a topic on your radar, Liz?

Liz Templin: A number of years ago, one of the city administrators in my region talked to me about all of the business owners on his main street were baby boomers and he was concerned about who was going to be taking over those businesses. At about the same time, our colleagues in Extension who work with farm business transfer were getting a number of small business owners coming to those workshops because they didn't see other sources of assistance. Well, our team wrestled with this a little bit, what was really our role, but I had a personal interest in pursuing this because not only is it baby boomers that are looking at transition, but sometimes life happens.

In my high school class, my classmate's dad owned the local bank, and when my classmate was 19 or 20, his dad died of a heart attack, and suddenly he was president of the local bank. So, transition can happen planned or unplanned, but we're lucky in my hometown that my classmate did take over the bank rather than that business closing. So I really wanted to see what we could do. We, meaning my colleagues in community economics. We don't work one-on-one with businesses. We work with communities. So I thought I wanted to find out what's working at the community level, and what can communities do to help with this business succession.

Christy Kallevig: So when we think about succession, I love that you made that connection to the fact that some of our colleagues in Extension are doing farm business succession work, but there is a very unique aspect to looking at how communities handle it and how businesses do it rather than your farm. So I think it's really great how you picked up on that idea and carried it forward. But, what exactly does business succession mean? I mean, it's more than just handing over a set of keys to somebody and saying good luck, right?

Liz Templin: Absolutely. Really it’s about two aspects. One is the transfer of the ownership, so that's the legal and the financial. But then once you’re the new owner to really [make] the succession work, the business has to stay in business. So there's that transfer of leadership. When we were looking at doing this study, we were interested in looking at successful business succession. The banker on our advisory group said, really, most of the businesses that fail, fail on the first three years under the new ownership.

Christy Kallevig: Oh my goodness.

Liz Templin: Yeah. So if they've made it through the first three years, chances were very good that the business would continue. In fact, I found this interesting that the small business administration said 30 percent of small business closures are the result of failed succession.

Christy Kallevig: That is very interesting and certainly something that I've never thought about when I've seen a business, you know, kind of come and go in a community. But it definitely shows the importance of having that plan and working through it with somebody. Now, the study that you did, Liz, looked at rural businesses. As I talk to different researchers on our podcast, I always make sure that we're talking about the same thing, that we've got the same terminology. So when you looked at rural areas and business succession, how were you defining rural and also how were you selecting the businesses that participated?

Liz Templin: Great question. First, we looked at Minnesota businesses that were located outside of the seven county metro area. Second, we defined the communities as those communities under 7,500 population. Actually, most of those were well, well under 5,000 population. Then we were looking at individual to individual sales that were not family members, so it was not businesses that were passed onto the next generation. We did not survey farms because Extension already is doing that. The University had just completed a large rural grocery store study, so we did not survey grocery stores, and we thought medical service providers like dental clinics or medical clinics or chiropractor offices are more unique businesses. So we did not survey them.

Christy Kallevig: Was there a reason that you didn't look at succession to family members?

Liz Templin: Yes. The main reason was that involves some family dynamics that are very important. In fact, my bachelor's degree is in family social science, so that adds a little different dimension. But, the bigger reason is our colleague in the Center for Community Vitality, Ben Winchester, has been researching brain gain. So those are the folks that return, either move to rural communities or return to rural communities. He had stories of anecdotes of people who move to communities and then find a business. So we wanted to focus on finding some of those businesses and what was making that work.

Christy Kallevig: Okay, great. Well, thank you for that explanation. So as you began your study, tell us a little bit about the number of folks who were involved and how you went about gathering the information.

Liz Templin: Well, we sent out surveys to the businesses that met our criteria and we found the list of businesses through Information USA; it's a national database. We had 118 businesses that responded [and] a 46% response rate, which we were very pleased.

Christy Kallevig: That’s great.

Liz Templin: It's a very high turnout for a paper survey. So they had a paper survey and the three largest response groups were accommodation and food services. They were a third of our respondents. Retail trade businesses; they were a quarter of our respondents. Businesses like a hardware store, a garden center, [a] gas station, auto parts, convenience stores, things like that. Then 17 percent were other services. As we anticipated, these are small businesses. Seventy percent of these businesses had 10 employees or less and all of them were owner-operated.

Christy Kallevig: As far as the response rates, were they from throughout Minnesota or did you see a lot of responses from maybe one specific area of the state?

Liz Templin: To my surprise, they were through the entire state.

Christy Kallevig: That's great.

Liz Templin: We had responses from the Canadian border and the Iowa border and the North Dakota border and the South Dakota border. And obviously, also from the Wisconsin border. So, it was statewide.

Christy Kallevig: That's great. So what were some of the takeaways that you got out of that survey data? I mean, were you hearing reports of successful transitions?

Liz Templin: We were delighted at how well the businesses were doing. Two-thirds of them increased their sales, two-thirds of them increased their customer base, and over a third, 41 percent, increased the number of employees. I think that's a bright spot. If the rural community can do what they can to assist in these business transitions, these businesses can thrive and continue to exist in the communities.

Christy Kallevig: Certainly we love hearing those bright spots. Right? I mean we enjoy the good stories, but I'm sure that you also heard about some challenges too. Did you have questions that really focused in on those challenges and kind of drawing out that information?

Liz Templin: Absolutely. We wanted to know what the key challenges were that the new owners faced, and then who helped them in overcoming those challenges. So when it comes to buying the business, the three biggest challenges, first, was getting financing. It was very hard for these new owners to get loans from banks. Often it was seller financing.

Second, part of the reason it was hard to get financing from the bank was the financial records from the previous owner. The bank had to see profitability, and enough profitability to repay loans and to support the person [who] was going to be working in the business. So that was the second largest challenge.

Then third, negotiating the purchase price. Our advisory committee had a lot of stories of business owners having unrealistic expectations of a selling price. For example, one of our advisory committee members said, “Well, I know this business owner who totaled up how much money they got out of their business during their lifetime and it was a million dollars. So they thought they should be able to sell the business for a million dollars, but the cash flow was $70,000 a year.”  So the large disconnect between what somebody hopes to get for the business and what they can actually sell the business for is a challenge.

Christy Kallevig: I'm sure also perhaps a little bit of sticker shock for those new owners too. I mean, I'm sure that folks weren't going into this thinking that they were going to buy a brand new business for $5,000, but once you start to add up inventory and structure and all of that, it maybe was much more than they thought they were going to be getting into.

Liz Templin: Yes. In fact, another advisory committee member said that a way some folks have structured it is the previous owner continues to own the building while the new owner buys the business. Then over time, the new owner can buy the building, making it a much more realistic and affordable transfer. We interviewed some of these new business owners and what we heard is that based on the need to have like 20 percent down, unless somebody has been working for a lot of years or has parents or other assets who can provide that 20 percent down. It can be older buyers, people in their fifties that can afford to make the down payment and then buy the business.

Christy Kallevig: Which that in itself is kind of leading up to a new transition challenge. When you look at someone who, realistically isn't that far away from retirement themselves.

Liz Templin: Exactly, and so finding ways that folks can finance the purchase of their business or in the community's interest, help the seller sell the business rather than close the business is going to be an ongoing challenge or opportunity for our rural communities. I’m pleased that one of our colleagues in another state did a study called, Community Supported Enterprises and it's a guide--it's a very thick guide--of ways that communities have structured financing packages for tiny towns to help retain businesses like their grocery stores or their restaurants where there is some community ownership. So, maybe Christy, you can put a link to this guide on the podcast.

Christy Kallevig: Absolutely. It looks like a great resource that we are happy to connect folks to. As I've had the opportunity to listen to you talk about your study. I always think it's interesting that you separate challenges regarding the transfer of ownership to challenges of transferring the leadership. What did you hear from folks as far as changing over who is the leader of that business and maybe how some of those employees react to the transfer?

Liz Templin: Great question. In fact, our respondents said the transfer of leadership was more difficult than the transfer of ownership. It could be that that was what they were in the middle of when they filled out the survey. So maybe the transfer of ownership was far enough in the back of their mind that, you know, that didn't come front and center, but they talked about things like employee issues, cash flow, problems with the building and property. What we thought might be an issue was not an issue at all.

Christy Kallevig: What was that?

Liz Templin: It was interference from previous owner or the community not accepting the changes. Nobody in our study found those to be a challenge and I thought that was wonderful. In fact, the previous owner was listed as one of the top three resources to the new owner, so the assistance of the seller in some of those day-to-day management transitions is really important.

Just last week, I met with a group of professionals who are looking at formulating a nonprofit to help inform communities throughout the state about professional services available to help with this business transition. So I met with an accountant, an attorney, and a business coach. What all three of them were saying is they spent a lot of time with the owners, coaching them on setting up systems, like employee job descriptions and employee goals, coaching them on reading the business financials.

A number of the businesses that we interviewed said a new business owner usually doesn't come in as an accountant understanding all these accounting terms. So having some coaching on what those financial statements mean and what are some things that they can learn from that to help their business. That's helped. That's helping the transfer of leadership. They also were seeing that two-thirds of the business owners in the country, small business owners, are baby boomers.

Christy Kallevig: That's a lot of businesses to transfer.

Liz Templin: That's a lot of businesses. So this group of professionals is seeing this as a huge need and also an opportunity to help our communities.

Christy Kallevig: Is that organization a group that's ready to be publicized? I mean, is that something that we could link folks to as well, or is that something that's on the horizon?

Liz Templin: They don't have a website yet and they are still in the process of creating their nonprofit status. So I think at this point I'm going to say no, but they are hoping to move that forward pretty soon.

Christy Kallevig: So obviously that's a resource that's kind of coming up that we'll hopefully be able to link people to in the not so distant future. But when you gathered the information through your study, what were some other resources that folks are tapping into as they go through this succession process?

Liz Templin: Over half of the respondents listed these resources in the following order: [First] their financial institution, so the bank or credit union; second was the accountant; third was the previous owner, really reinforcing the assistance that the previous owner can give in that transfer of leadership. Fourth was the attorney.  Fifth was a friend or family member who had sold or purchased a business. So that gets back to those informal networks and communities that can be so helpful as people are making that transition. The last three were the city, the business appraiser, and the chamber of commerce. So all those resources were resources for over half of the people that responded to our survey.

Christy Kallevig: That's interesting. I want to kind of pick at that city or chamber piece.  Did you hear a lot from folks as to how the community supported them during the process?

Liz Templin: Some of the open-ended question responses indicated that the city helped with either zoning regulations or building code or helping to link them to resources. So those were ways the city was helpful. The chamber was helpful in terms of encouraging other businesses to support that business. To help the new owner meet other owners in the community and help them develop relationships--business-to-business relationships.

Christy Kallevig: Interesting. Mentorship—how important is that in this process? I mean, looking at the list of folks that you just gave who were resources to business owners, I'm guessing that it wasn't just, you know, going and asking one question, but that perhaps some mentorship relationships were formed. Is that correct to assume?

Liz Templin: Absolutely. A couple of the key things that we heard from the interviews that we did with some of these new business owners: First, it was having somebody like the banker say, "What do you need from me? How can I be helpful?" Or another person said, you know, as a small business owner, especially owner-operated, I don't have time to go to meetings where I find out about resources, but if you come to my business and you let me know about resources that can be helpful to me, that's invaluable.

They talked about how other business owners in the community would talk to each other, almost like a formal or informal CEO roundtable. Where they could share what's worked, what's not worked, what are resources that can help them--so those informal mentorships. We heard over and over again that people are so busy running their business that they don't have time to research all of the resources that are out there. So if the community can either have or develop a go-to person that everyone knows if you don't know what the answer is, you can go to that person and they will help you figure out where you can get the help, that is invaluable for the new owner.

Christy Kallevig: Did any of the new owner's express frustration or concern about not being able to access resources or not having information shared with them?

Liz Templin: They mostly said the resources they used were the resources that they kind of stumbled upon.

Christy Kallevig: Okay.

Liz Templin: So it repeatedly pointed out the importance of doing some strategic one-on one-coaching or informing to have the new owner have somebody that periodically checks in on them and finds out how things are going and that same person having an idea of what resources are out there and letting them know at the right time what the resource is that can help them. That is invaluable.

Christy Kallevig: So it's kind of twofold. I mean, one, not making a new business owner drink from the fire hydrant--you know, giving them information, like you said, as they need it. But also I think that we have just kind of become so used to or maybe believe that, well, if we put it on social media or if we run it a couple of weeks in the newspaper, everybody's going to see it. So we don't need to share it one-to-one, but that one-to-one contact is so important to these new business owners.

Liz Templin: Especially in small towns, because, for example, the Initiative Foundation is not located in every city, or the Small Business Development Center does not have offices in every single city. So if you drive past a resource every day, and it has the sign on the door, you're aware of it, but in those small towns, it's not in your day-to-day purview.

Christy Kallevig: Right. Were there any surprises in your research?

Liz Templin: I was really surprised by the responses to one of the questions which was, "Did you live in this community prior to purchasing the business?" We ask this question because Ben Winchester had all these anecdotes about people finding a community, loving the community, moving there, and then figuring out what they were going to do to make a living. A third of the new owners who responded to our survey were new to the community. I was shocked at how high that number was. So 19 percent picked the community, moved there, and then found the business.

Christy Kallevig: So they just decided that they wanted to live in this new place and once they got there they went, "Yeah, I want to be a business owner too."

Liz Templin: So then they had to find out word of mouth or approaching businesses to see if their business was for sale. I thought that was really interesting.

Christy Kallevig: That is so interesting.

Liz Templin: Another 14% picked the business and then moved to the community and then, I will say that in Ben Winchester's definition, those who grew up in the community and then returned were also brain gainers, and there was 12% of the respondents who were those returning folks. Now, half of the people who responded to the survey had lived in that community their entire life. But yes, I continued to be amazed. We now have some data that supports what Ben has been saying all along. There are folks that want to move to rural communities and some of those folks want to buy businesses.

Christy Kallevig: I'm so surprised that entrepreneurial spirit that you just have faith that you're going to find something to start in this new community that you want to plant your roots in. That's just, it's outstanding.

Liz Templin: Start or purchase.

Christy Kallevig: Yes. No, that's very exciting. From your perspective, as a researcher and in looking at this data, what can communities be doing to help support maybe the business owner who is looking to sell, but also to support the new business owner? What can be happening to make sure that that succession is successful for everyone?

Liz Templin: That is indeed the focus of our work. First thing that the community can do is find a champion, find a point person, find at least one person who will say, "I'm going to work on this issue." It could be a paid staff person, like the city administrator or the city planner or economic developer, could be the chamber of commerce. It could be a banker, it could be a previous or current business owner, but somebody who's going to dig their teeth into this issue and find out what the resources are. So for the business owners, there are five things. First, help the business owner know that they need to have three or more years of profitability in their financial records for the buyer to be able to get financing. So that takes some planning in advance. Second, once they do decide to sell the business, it generally takes one to three years to find a buyer. It takes a lot longer to sell a business than to sell a house. Now, just like selling a house your real estate agent comes over and suggests things you can do to increase the sale-ability and to get your money back. Well, that's similar to what a business owner could do. What has been advised is that the business owner get a business appraisal far in advance so that they can target their improvements long before they think about listing the business for sale.

They can also look at ways that they can have systems in place if their business is  large enough that they have employees — systems in place where the business can operate successfully without the previous owner being present. Our advisory committee said that there are people looking to buy businesses that don't want to be operating them. So if they find a business that exists, the systems are in place, it's profitable. The business has been proven to operate well without the owner. There are buyers and those businesses will sell for more money than the business where the owner has to operate it. So investing in that training of their employees, investing in the systems reaps rewards for the current owner or the seller at the time that they sell their business.

Christy Kallevig: That's really interesting and not something that would have crossed my mind. I mean, I just assume in a small community it's going to be somebody that's going to be there every day just like I maybe had been.

Liz Templin: Most of our owners were owner-operated. That was 70%. But our advisory committee said, you know, if those business owners can develop their employees and develop the system and prove that those employees are just rocking the business, making it really work well. There are buyers.

Christy Kallevig: Interesting.

Liz Templin: Now, when it's a retail business, what we heard from the business broker that was on our advisory committee is that retail businesses can be a little more challenging to sell and that the net income to the owner, especially if it's owner operated, it has to be at least $70,000 because that owner-operator will be paying their own health insurance and all of those things that if you are working for somebody else, is being provided by the employer, and so if it doesn't have that amount of net income, it's easier and less stressful to work for somebody else.  

Christy Kallevig: Right. Let's look at the other side of the coin. What can communities do to help the folks that are stepping into these businesses?

Liz Templin: There, I think one develops those informal networks to let people, especially the newcomers, know what businesses might be for sale and to continue to support the businesses that are for sale. One of the reasons current owners are afraid to list their business for sale is that they're afraid they're going to lose customers. So understand that people can be at phases in their life where they want to retire or move on to other things, so that's one thing they can do. A second thing they can do is have somebody who knows what the resources are for who are the business appraisers that will come to your community. What financing might be available, might the community have some community dollars that would invest in from a community foundation that would invest in a business? Are there people either in the community or nearby who can serve as mentors to the new owner? So those are important resources for that new owner.

Christy Kallevig:  Are there any communities that come to mind that have really developed a process or are doing something that you look at that and go, yes, that is helping this happen successfully?

Liz Templin: Well, the City of Barnesville--the economic development authority there did a series, a lunchtime series--for existing owners and they had an average of 15 owners attending each session, where they covered topics like the importance of succession planning, how to value your business, how to transfer ownership within your family, or how to sell your business for maximum value.

Another community, Spring Valley, got a grant to hire a business coach who worked with some of the businesses to identify what were the goals of the owner, and then what were some of the challenges that the owner saw as well as the employees and then developing a plan to strengthen that business to eventually be able to market it and sell the business. Two other communities recently did workshops. One was in the city of Arlington. They did an evening workshop and the City of Worthington did a business succession series. I know that also coming up in the area between the Twin Cities and Duluth, there's going to be a workshop in May where they're featuring somebody who works with business succession to help those business owners start thinking about what to do to prepare.

Christy Kallevig: So, I mean, this topic is not just something that Extension is looking at. It's a topic that communities are really starting to embrace and develop some programming around.

Liz Templin: What Extension has developed is a community leader's guide to business succession and it has a number of ideas abiout what the community can do, from taking the first step in getting organized, to promoting the business health prior to the sale and then helping with the transition of ownership and leadership. So people can get that guide on our website.

Christy Kallevig: We will make sure that the link is there and in our notes for the podcast because that's a great resource. I want to step back just a minute because throughout our conversation here, Liz, you've continued to refer to the advisory committee that helped you with this study. Who was the advisory committee and what role did they play in helping to inform the process and the overall research?

Liz Templin: Well, when we started this study, we really didn't know what work had already been done, so we decided to pull together people who might know. So we had the head of the Small Business Development Center, Minnesota Mainstreet, the Initiative Funds, the Minnesota Chamber of Commerce, the Minnesota Bankers Association, the Regional Development Commissions, Business Valuation Professionals Association, the Federal Reserve Bank, a business broker, and the League of Minnesota Cities. So we thought if anybody knew, somebody in that group would know.

Christy Kallevig: That is an impressive list of people.

Liz Templin: It was an impressive group of people and everyone around the table was saying this is a big issue. There were anecdotes about what worked and what didn't work, but there wasn't anything put together about what communities could do. It was their advice that said, let's look at what works and let's find out what resources those new owners used to make the transition successful. And from that, then let's build on it.

Christy Kallevig: Well, I'm sure glad that you pulled that group of thoughtful individuals together and worked with them to do this research because what you have learned and what you have been able to share with us today and also with communities as you've traveled is invaluable.

Liz Templin: I'm excited about the things that I'm hearing to come, like this new nonprofit that has a lot of expertise in business succession. People who are willing to go out and talk in communities about how to do successful succession. So it's a hot topic and I'm happy to be a part of fostering that conversation.

Christy Kallevig: Thank you so much, Liz, for chatting with me today. We will get all of these resources that you've shared posted up on our podcast web page so that folks can tap into those and I look forward to having you back to talk about other important topics in the future.

Liz Templin: Well, thanks Christy.

Christy Kallevig: Thank you again to Liz Templin, community economics educator for the Center for Community Vitality for joining me for this episode. To learn more about the research that Liz discussed today, as well as other resources that she shared, visit our website at https://www.extension.umn.edu/community. Make sure to follow us on Facebook and Twitter to stay up to date on new research and resources for communities and those who lead them. Thank you again for joining us and we hope to have you back again for another episode of Vital Connections on Air.