Certainly, $4 million is not pocket change; Dan would never go hungry. But he was going to have to scale back his lifestyle, invest more aggressively than he was comfortable with, or find other sources of income. In other words, he was not financially free. The $7 million price may have been the “maximum value” for Dan’s business, but Dan told us that if he knew how much he needed prior to exit, he might have made a different decision or negotiated different terms. At a minimum Dan would have avoided the unwelcome surprise of a $500,000 shortfall at the end of his long and successful career.

Lesson: Calculating your Exit Magic Number

Most business owners want to achieve financial freedom, which means that a paycheck is high on their list of exit priorities. An owner may choose to work after exit, and that work may generate additional income, but the earned income should not be required.

The Exit Magic Number is how much value you need to get from the business between now and your target exit date in order to achieve financial freedom. Important note: The Exit Magic Number focuses on how much you need from the business, not what your business is worth. It is the total capital you require to achieve financial freedom minus the capital and income you already will have available outside of the business at the time of exit.

At its heart, the Exit Magic Number is a statement of how financially dependent you are on your business. A lower number is better, and the ideal is zero. Remember that the Exit Magic Number is not about the value of the business. A higher number means you are more dependent on the value locked within your business to achieve financial freedom. Dependency usually makes exiting harder or more expensive at some point in the process. The owner who does not need any value from the business to achieve financial freedom enjoys maximum flexibility.

Independence from the wealth locked in your closely-held business creates freedom to structure your exit in the most favorable manner for you, your family and your business. Said another way, it is usually easier to exit from a $5 million business with $5 million already in the personal bank account than to exit from a $10 million business with $0 in the bank.

Technorati Tags: Exit Magic Number, Exit Planning, White Horse Advisors