Succession planning is not an exact science. There simply isn’t one approach that’s right for every situation. However, one thing is for sure – proper exiting of a successful business doesn’t just happen. It has to be planned.
A succession plan is a type of exit model that accounts for the smooth transfer of possession of the business to new ownership, especially in a closely held or family business.
A succession plan is a written document that provides for the continued operation of a business in the event that the owner leaves the company, retires, or dies. It details the changes which will take place as leadership is transferred from one owner to the next.
Unfortunately, far too often, this planning is not done. Preparing for a successful exit from a business is just as important as preparing for a successful startup.
A team should be set up to plan the succession process. Among others, this team should include an attorney and a tax accountant. However, don’t let tax planning control the decisions. Tax matters are very important considerations, but not the only ones.
Here are some questions to mull over in a succession plan:
· When will the transition occur?
· Who will be the successor?
· How much is the business worth?
· What strategy should one adopt to ensure a smooth transition?
· How will the owner’s departure affect the operation and key relationships such as suppliers, customers, employees, and family members?
· How much income is needed when one leaves the business?
The planning for a smooth transition should begin far in advance of the transition. Since the possibility exists of an unplanned exit, such as disability or death, the succession planning should begin now.
Some succession consultants recommend a three-to-five year plan, while others suggest five to 10. Some even recommend 10 to 15 years. All agree, however, that the more time allotted for planning, the better the outcome will be.
At times, an owner may wish to sell out to his employees.
Passing a business on to employees can be accomplished in a number of ways, such as by buying stock directly, receiving stock options, or obtaining stock through a profit sharing plan. The most common form of employee ownership is the employee stock ownership plan or ESOP. There are over 10,000 of these plans in place.
ESOPs are often used to provide a market for the shares of stock of departing owners of successful companies and to motivate/reward employees. An ESOP is a kind of employee benefit plan, similar in some ways to a profit-sharing plan.
The company contributes new shares of its own stock or cash to buy existing shares into a trust fund. Company contributions to the trust are tax-deductible, within certain limits. Shares in the trust are allocated to individual employee accounts.
Succession planning for family businesses is a special case. Conflict often arises due to a discrepancy between the family goals and business goals.
According to Nancy Bowman-Upton in the Small Business Administration publication Transferring Management in the Family-Owned Business, about 90 percent of American businesses are family owned or controlled, ranging in size from two-person operations to Fortune 500 firms.
The successor in a family business is often selected by default – Everybody knows little Johnny will take over from Dad (or at least, that’s what they think.) The arrangement needs to be made formal to eliminate issues that could arise among the family members.
The family business faces the same challenges of any type of business, such as technology, regulations, competitors, employees and economic trends. Additionally, a family business is impacted by anything that impacts the family itself, such as the health of its members, their interests, their skill levels, and the level of business participation.
For instance, what is the impact on the non-successors of the company? Will they be bitter and resentful? If so, how will that be addressed? Perhaps an insurance policy on the business owner with the non-successors as beneficiaries will alleviate the issue.
Leaving a business successfully is a process with many potential hurdles. Succession planning won’t eliminate these hurdles, but it will lower many of them.
David Dunn is a Business Consultant with The University of Georgia Small Business Development Center in Albany. He may be contacted at firstname.lastname@example.org.