Business Structures and Protecting Your Assets From Business Failure

AccomNews Sunday, September 29, 2013

0 5 minutes read

The right business vehicle for you. Semi-trailers are not used for fast food home delivery, nor are motor scooters used to transport heavy machinery.

Which vehicle to use may be self-evident but when it comes to the financial success of your business, the stakes are too high to run the risk of not setting up the correct business structure for your needs.

The purchase of a business usually involves a sizeable investment of money and, as with most investments, comes with an element of risk. If you are buying a business, asset, company or group of companies, taking the time to organise a thorough “due diligence” prior to the purchase of a business or asset is essential for purchasers for identifying and minimising the risks. Due diligence is carried out by the purchaser, in close cooperation with the vendor. It is the last stage of the buying process when the purchaser should get full access to the company’s books, records and files to systematically evaluate information to identify risks and issues relating to a proposed transaction.

The point of the process is to determine at what valuation and, under what terms, to invest in a company or business. The process should also identify any areas of risk or liabilities that may not have been disclosed (or understood) by the vendor.

Documents such as financial statements, budgets, legal documents, employment records and contracts, operations plans, marketing plans and materials are all fair game. The purchaser may also ask to speak with existing and former suppliers and purchasers, as well as some staff. Where stock and fixed assets are being acquired, it is also customary for a stock-take and fixed assets inventory to take place.

With this amount of commercial exposure at risk, it is essential that legally tight confidentiality agreements are in place. While some of this research is the onus of the purchaser, of course your accountant is an important ally in verifying the financial information and assisting with determining an appropriate offer.

A purchaser should begin by compiling:

– A detailed listing of the exact due diligence steps to follow
– A checklist of everything to complete in each due diligence area
– Specific due diligence tasks that need to be completed
– All of the materials needed from the vendor before commencement

But beyond financial considerations are also some important cultural considerations that need to be managed throughout the process. For example, who inside the organisation is to be made privy to what is going on? A balance needs to be struck between those employees who reasonably need to be made aware that the business is for sale and those who don’t.

For the vendor, if the purchaser intends to take over the business with much or all of the staffing structure in place, then it is important to take every possible step to ally the fears of staff. The better the frame of mind that staff members are in, the more likely they are to provide truthful and positive information to the purchaser making enquiries of them.

Of course, the size of the transaction and the nature of what is being purchased, the relationship between purchaser and vendor and even the degree of government regulation will all determine the scale, scope and duration of the due diligence process.

If you are selling your business, preparing in advance for the sale of your business by having your records up to date and available will assist the sale process and help to ensure you achieve close to your asking price. On the other hand, as a purchaser, conducting a thorough due diligence will help ensure you are not paying more than you should for your investment.

A thorough due diligence process will have a checklist with anywhere in the vicinity of 70 items to review, depending on the investment. The checklist will cover many issues in the areas of:

– Financial records;
– Taxation records;
– Debtors and creditors information;
– Inventory
– Fixed assets;
– Employees;
– Statutory records;
– Premises and lease;
– Financial obligations;
– Intellectual property;
– Related party transaction details;
– Computer and IT systems;
– Sales records and marketing information; and
– Other regulatory issues

Protect your assets from business failure – The threat of a forced sale of a valuable asset such as a family home is something that probably crosses most of our minds at one time or another. However, for business owners the thought takes on a whole new dimension with the added fears of facing debts arising from business failure or from being sued for negligence or damages.

Increasingly we are seeing complex strategies once employed by corporate giants to shelter family assets now being used by business owners’ right through to self-employed professionals or those running a home based business. Asset protection is all about drawing a line between your personal assets and business affairs to minimise any personal liability. But just how effectively can you protect your assets and what is the best solution?

The most common strategy is to move assets into a family trust that is controlled by other family members who are not at risk. That is, they have no legal control over the business. Another common strategy is to put the assets into the names of family members, say for example a spouse who again is not legally involved with the business.

While certainly effective, both of these strategies have risks if not trade-offs of their own.

For example, a family home directed into a trust is not exempt from capital gains tax and is liable to be assessed for land tax as an investment property. A way around this is to transfer the assets into the name of a spouse. This has the added benefit of minimising stamp duty and other transaction costs normally incurred if the asset is directed into a family trust.

Simple solution? Maybe not so! The inherent risk involved in any asset transfer to a spouse is the possibility of divorce. While the Family Law Act allows for a reversal of such a transfer the process can be, not surprisingly, lengthy.

The Bankruptcy Act also provides for circumstances where assets can be clawed back by the trustee in bankruptcy. If an asset was gifted, or sold for a value of less than market value within two to five years of bankruptcy, or where it appears the asset was gifted with the intention of avoiding creditors your assets will not be protected.

Another strategy to protect family assets not to be overlooked is the use of insurances. Professional indemnity insurance for company directors and senior executives separate work risks from personal assets, as does public liability insurance. The catch with insurance is that people often take for granted what is covered. A good idea is to not only ask your insurance company what your policy covers, but more importantly what it doesn’t protect you against. Being unaware about insurance and the details of your chosen policy can be an expensive exercise.

Public liability cover is essential if you are running a home based business. Even if you have home insurance in place, you run the risk of being personally sued for any damages without this extra cover.
Finally, directing your long-term savings and investment assets into superannuation is another strategy used to protect assets. But this option needs to be weighed up against the relative loss of control as you are locking away your assets until retirement.

In the end, the choice of asset protection strategies needs to be assessed on a case by case basis to suit individual circumstances. Your solicitor and your accountant can assess your needs and point you in the right direction. The most important piece of advice I can give here is to take action now to protect family assets from business risk well before the threat of insolvency.

The information, recommendations, opinions or conclusions provided above are generic in nature and do not express individual advice. You should always consult your professional representatives before taking any action.

Tony Rossiter
Holmans