Three stockholders owned equal shares in a retail clothing store which generated annual sales of $4 million. The value placed on the company was $1.2 million, $400,000 for each stockholder.
Problem #1. Two of the three stockholders, for undocumented reasons, did not like working with the third stockholder, who had founded the business 15 years earlier, and they wanted him out. In fact, they stopped paying his $75,000 annual salary to pressure him into leaving and selling his one-third interest to them.
Problem #2. There was insufficient excess cash or projected cash flow in the company to buy his $400,000 stock interest (one-third of the $1.2 million value).
The solution: There was a real estate affiliate also owned equally by the three stockholders. The fair market value of the real estate in the affiliate less an outstanding mortgage was $450,000, a net value of $150,000 for each stockholder. This affiliate rented space to the company and other tenants, so there was extra cash and future cash flow in this affiliate to buy this owner’s stock.
The buy-out: This owner received $100,000 cash at closing from the remaining two stockholders and their two-thirds ownership interest in the real estate affiliate, which was valued at $300,000. Thus, our business owner went from an illiquid stock certificate to a combination of cash ($100,000) and hard assets ($300,000).
The outcome: Within one year after closing, this owner was again an entrepreneur. He opened up a small retail clothing store within 10 miles of the store he started 16 years ago. He used his $100,000 cash-at-closing payment as seed money, and he continued to cover his living expenses with the cash flow from his real estate’s rental payments until the new business took off.
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