In a previous article titled “Succession Planning: A Contrarian’s Perspective,” I presented a brief overview of succession planning.
Approximately 90 percent of businesses in the United States are family owned. Studies show that two-thirds of closely held family businesses fail to survive into the second generation. Owners spend many years building the overall net worth of their businesses, but unfortunately they neglect to establish a succession plan in the event of a need for transfer of ownership.
The failure to adequately plan for management and ownership succession is a leading contributor to the low survival rate of transferred businesses.
Considering the importance of this subject, this article highlights key elements of an effective succession plan.
Transfer of Business Ownership
The first and most important goal in business succession planning is to establish the owner’s business goals. These goals can be achieved by recognizing that the key component of any succession plan is the “transfer of business ownership.” While it is the most difficult component, it is the most logical starting point. The three basic options are:
1. Transfer to one or more family members by sale, inter-vivo transfer or transfer at death;
2. Sale to a key employee;
3. Sale of entire business as a going concern to a third party.
Transferring Management Responsibility
Often, the children are the obvious candidates for acquiring the business. Their age and experience are factors that may affect the decision to transfer to the children. Another consideration is the transfer of the business to family members who are not active in the business. It is very important to have a contingency plan to further develop their business skills or to hire someone to manage the business while they develop these skills.
The selling of the business to key employees requires an analysis of whether the key employees are capable of running the business and have the necessary resources to pay a fair price for the business.
Establishing Retirement Goals
A business owner has to establish how long he or she intends to remain active in the day-to-day operations of the business. This period of time will impact retirement planning considerations. For example, if the owner needs to cash out his/her investment in the business, then the sale of the business will become subject to time constraints, which may affect the purchase price.
Establishing Estate Plan
The succession plan may fail if the owner dies prior to retirement. Therefore, it is very important for the business succession plan to incorporate estate planning measures. This will minimize the impact of an owner’s premature death regarding the transition of business ownership.
Everything takes time to implement. The process of finding the right buyer, or training specific family members, does not happen overnight. It is extremely important to pick the strategy with consideration for the objective of long-term viability of the business and to have a realistic future date to implement this strategy.
Exit Strategy And Buy-Sell Agreement
After finalizing a succession plan, it is important to have a formal buy-sell agreement in place which deals with unforeseen contingencies. For example, in the event of the death of the principal, it is important that the buy-sell agreement is consistent with the planned exit strategy.
Business succession planning involves critical decision making, complex analysis and emotional considerations to ensure the future of the business.
Nistendirk is a partner at Woomer, Nistendirk & Associates PLLC, a CPA firm located in Charleston. Bob has extensive experience in tax accounting, strategic planning and financial/business consulting. He can be contacted at email@example.com.