A Smallbiz Succession Plan Blows Up
In a little noticed but unanimous decision, the Supreme Court has made buy-sell agreements financed with life insurance much more difficult.
Good Morning!
Here are today’s highlights:
A 39-year-old business owner who suffered a stroke had a crisis plan in place.
American workers have quit quitting.
A farming town that has become a model of sustainability just wanted to save money.
Business groups are fighting regulations that would protect workers from heat.
MANAGEMENT
In this week’s video, Lou Mosca recommends a book and warns against having just one supplier: ”It's a fascinating read that dives deep into the historical impacts on supply chains, tracing back well before the pandemic. One of the key takeaways from this book is the critical importance of not being reliant on a single supplier for your materials and goods. Having only one supplier is a risky strategy whether you're a contractor, manufacturer, distributor, or retailer.” CONNECT WITH LOU
SUCCESSION
The Supreme Court blew up a popular small-business succession plan: “The Court’s little-noticed decision in Connelly v. United States, issued in June, throws a wrench into a common succession strategy for many closely held firms with more than one owner. In this strategy, a company buys life insurance on its owners so that when one dies, there’s cash to repurchase his or her stock. The goal is for the insurance payment to be tax-free and for the company to avoid the burden of funding a share repurchase from operating profits. In Connelly, however, the court ruled that the strategy didn’t provide the expected benefits. As a result, the owner’s estate owed nearly $900,000 more in estate tax.”
“Michael and Thomas Connelly were brothers and the owners of Crown C Supply, a building-supply corporation in St. Louis. Michael, the majority owner, died in 2013 and Thomas was his executor. Earlier, Crown C had bought $3.5 million of life insurance on each brother and agreed to repurchase the shares of either brother who died.”
“After Michael’s death, Thomas agreed with Michael’s son that Crown C would buy Michael’s 77 percent stake for $3 million, although they never had had the business formally appraised. A valuation done later, during the Internal Revenue Service audit that led to the court case, pegged the firm’s value at $3.86 million without the insurance payment.”
“The Connellys thought the life insurance payout would be estate-tax-free. In the 2005 case of Estate of Blount v. Commissioner, a federal appeals court held that such a payout was excluded from a corporation’s value because it was offset by a liability—the obligation to repurchase the owner’s shares.”
“The Supreme Court disagreed. In a unanimous opinion written by Justice Clarence Thomas, the Court overturned Blount and sided with the IRS. As a result, $3 million of insurance proceeds were added to Crown C’s value, giving it a total value of $6.86 million at Michael’s death. That raised his total stake to $5.3 million and increased his estate taxes by $889,914.” READ MORE
CRISIS PLANNING
When Jenny Bristow had a major stroke at 39, her business was prepared: “For about five minutes last January, Jenny Bristow couldn't speak, and the 39-year-old lost control of her left hand while playing disc golf on a trip to Arizona with her husband. At first, he thought she was joking around, but then the left side of her body went numb, and the left side of her face drooped. ‘I was so young, a stroke was the last thing we thought of,’ says Bristow, the now 40-year-old founder and CEO of Hedy & Hopp, a St. Louis health care marketing company.”
“For many entrepreneurs, these kinds of health problems would spell doom for their business. After all, a young company's trajectory is typically closely tied to its leader and founder. But Bristow is a planner. And instead of withering in her absence, the company says it's now on track to nearly double its annual revenue to $4 million.”
“Just weeks before her last mini-stroke—without any inkling something might go wrong—she was finalizing contingency plans to ensure that life could go on for the company and her family if anything were to happen to her or any other key employee in the company. That included a trust, a life insurance policy, disability coverage, and buy-sell agreements that dictated what would happen if she were to die or become disabled.”
“It also specified who would lead the company or buy it and at what price. It took a year and $15,000 to create these plans, something few founders put as a top priority when running at breakneck speed. ‘But it was worth the peace of mind,’ she says.”
“That's not to say everything was easy. The company added only a few new clients for a year because Bristow handles sales. And she was struggling personally with debilitating anxiety about her health, so much that she feared she would have another stroke if she exercised. ‘My safe space was in the dark on the couch watching reruns of The Office,’ she says. Bristow ultimately went to a therapist to overcome those fears and anxiety.” READ MORE
HUMAN RESOURCES
American workers have quit quitting: “Americans aren’t as restless in their jobs as they were a couple of years ago. Numerous surveys show that fewer U.S. adults are currently seeking to leave their roles, compared with the job-switching frenzy of the pandemic years. Other data suggest job satisfaction is rising, and in interviews, formerly job-hopping workers say they’re content with the balance they’ve struck in the positions they have. Those who are tempted to make a jump face a tightening job market and shrinking pay premium for switching jobs, federal data show. ‘Applying for jobs right now, it’s like hitting your head against the wall,’ says Heather Sundell, a director of social strategy and copywriting in Los Angeles.”
“Sundell, 39, spent more than a year scouting new roles and says she got a single interview before landing her current position last October. She likes her company and colleagues and isn’t eager to revisit the dispiriting online job-application process, where artificial intelligence and other software often determine which résumés rise to the top.”
“A poll from April shows that 35 percent of U.S. adults plan to look for another job in the second half of this year, down from 49 percent a year ago, according to Robert Half, the workplace consulting and recruiting firm. Of 1,000 workers polled, 77 percent said they were happy with their jobs and 85 percent reported a good work-life balance.”
“‘People feel really satisfied with their compensation and they are very happy with their flexibility, which are two big drivers,’ says Dawn Fay, Robert Half’s operational president.”
“Two summers ago, job switchers got a median pay bump of 8.5 percent for making the leap, compared with a 5.9 percent raise for those who stayed at their jobs, according to the Atlanta Federal Reserve’s wage tracker. As of March, job switchers were commanding a median 5.2 percent jump in pay, while job stayers were getting 4.5 percent.” READ MORE
SUSTAINABILITY
A tiny farm town adopted wind turbines, solar panels, and composting to save money, not the planet: “The farm town of the future is visible long before you reach the city limits, thanks to a pair of wind turbines rising as high as the Statue of Liberty above the flat terrain. They pump cheap electricity into the local grid, providing the energy to make carbon-neutral fertilizer. Closer in, cows graze next to solar panels that provide them with shade. A county-wide compost operation disposes of food and agricultural waste, electric buses take kids to school, the public library relies on geothermal heating and even a city-owned liquor store has rooftop solar panels. The shop motto: ‘We chill your beer with the sun.’”
“Where is this environmental Nirvana that’s checking off so many boxes on the climate warrior’s wish list? Denmark? Germany? Northern California? No, it’s Morris, Minn., population 5,206, a conservative prairie community in a conservative rural county that favored Donald Trump by 22 points in the 2020 presidential election.”
“When Troy Goodnough, the director of sustainability at the local campus of the University of Minnesota, arrived more than 15 years ago and asked how he could help address those economic concerns, a partnership emerged that has made Morris one of the most sustainable farm towns in America—even though that was never the town’s goal.”
“Goodnough’s bet was that the common-sense, cost-saving goals the farmers prized could lead them to choices that also happened to be good for the environment. But could it really be as simple as changing the terms of that conversation? Yes, says Blaine Hill, the recently retired city manager who helped make it happen. ‘We never made it about climate. We just did it because it makes sense. And the more we did, the more we wanted to do.’” READ MORE
REGULATION
Employers are fighting a federal plan to protect workers from heat: “On any given day in the warmest months, millions of workers nationwide labor in heat that is increasingly hazardous to their health. Last week, the Biden administration proposed a rule that, for the first time, would protect such workers, whether their jobs are indoors or outdoors. The proposal sets out two heat index triggers that would apply nationally. One, at 80 degrees, would require employers to offer drinking water, rest breaks as needed and a plan for new workers to gradually increase their workload so their bodies adjust to the temperature. More protections would kick in at 90 degrees, including monitoring for signs of heat illness and mandatory 15-minute breaks every two hours.”
“The proposal is more than two years in the making and won’t become final until at least 2026. Yet it is already facing stiff resistance. Employers in industries from agriculture to construction, tourism and oil and gas extraction have argued that it’s unnecessary and could hurt their competitiveness. It is likely to encounter major obstacles, including the near-certainty that it would be abandoned if Donald Trump were to win the presidency in November.”
“But if the rule takes effect, data analyzed by The Washington Post shows that it could be transformative for workers — especially in the South. The region’s punishing heat and humidity have long been a workplace hazard. Although Texas and California accounted for a quarter of all heat-related workplace fatalities from 2000 to 2010, workers in Southern states face the most lethal threat when the size of worker populations is taken into account. Mississippi, Arkansas, Nevada, West Virginia, and South Carolina had the highest rates of heat-related deaths on the job during that period.”
“Some industries have argued they are already protecting employees from heat and that a new regulation would be duplicative or, worse, get in the way of what they’re doing. They have pushed back against the rule’s expected acclimatization requirements, which would mandate a gradual ramping up of work hours during high heat. Some have questioned the entire initiative, saying that a workplace heat rule is unnecessary because not many workers die from heat exposure.” READ MORE
THE 21 HATS PODCAST
A Successful Owner Chooses an Innovative Exit: This week, special guests Laura Anderson, founder of Local Ocean, and Peter Koehler, her financial consultant, explain why Laura decided to sell her thriving seafood business in a transaction that created a business model that is neither widely known nor widely understood. It’s called an employee-ownership trust, and there are only about 50 of them in the United States. But their numbers are growing here and abroad, and for good reason. The trust model offers owners something of a choose-your-own-adventure option that can allow them to sell for a market rate in a relatively uncomplicated transaction that makes it far more likely the business will remain true to its established mission—especially when compared to selling to private equity or even to an employee stock ownership plan.
Of course, there are challenges, including getting a bank to consider financing one of these deals. But in this episode, Laura explains why, with Peter’s help, she decided to trust the trust.
You can subscribe to the 21 Hats Podcast wherever you get podcasts.
Thanks for reading, everyone. — Loren