Every business owner will eventually reach the point that he or she is ready to leave the business marketplace. Whether due to age, health, death, or financial independence, the time will come where the owner must decide to either hand over the reins to a successor or close the doors. Most successful business owners have invested years of effort into building their business. Instead of simply walking away, they would prefer to reap some financial benefit and have the personal satisfaction of seeing their business continue to thrive after their departure. When the time comes to pass the torch, having a business succession plan in place is critical to the continued success of a closely-held or family-owned business.
Family businesses are particularly vulnerable to decline following the exit of the founder. Statistically, less than 30 percent of family businesses survive to the second generation. Less than 13 percent make it to the third. This poor success rate is often attributable to the business owner’s failure to adequately plan for business succession. This failure stems from many factors, including conflicts with family members who are not involved in the business, emotional issues connected with planning for life changes, and mere inertia. Allowing these hindrances to thwart well-considered business succession planning effectively guarantees the death of the business and blocks a potential flow of wealth to the next generation.
Business succession planning means making the necessary preparations to ensure continuity and harmony in the business in the next generation. It involves careful consideration of the future of the business, the relationship of the current owners and managers, and the needs of the next business owners. Although this can be a delicate and involved process, a few common-sense rules will facilitate business succession planning and help ensure continuing success in the business after the owner’s exit:
- Owners should identify key individuals who are capable of (and, more importantly, interested in) running the business following the owner’s exit. These individuals should be informed of the owner’s plans. They should also be involved in the business for as long as possible prior to the owner’s exit. Putting the successors on the executive track and exposing them to the issues commonly faced in the business will facilitate a smooth transition and greatly increase the chance of continued business success.
- Others who are involved in management of the business – whether family members or not – should be notified of the business succession plan and asked for input in the planning process. These individuals can often point out management issues that the owner may have overlooked.
- If the current owner plans to be “bought out” of the business, a buy/sell or other business succession agreement should be put in place to define the terms of the buy-out. The financial ability of the purchasing party to fund the buy-out must also be considered. If a group of owners are involved, life insurance on each owner is often necessary to ensure liquidity in the event of a buy-out triggered by death of one of the owners.
- The business succession plan must be in tune with the owner’s overall financial plan. Bad coordination between the estate and estate business plan (including failure to provide liquidity for estate taxes) is the death knell for many small businesses every year. Provisions in the owner’s estate plan must work with the business succession plan to ensure that the children who take over the business do not receive more value than those who are uninvolved. It is usually necessary to designate a qualified planner to coordinate with others involved in the financial process to ensure that all business, tax, life insurance, and estate planning work together to form a seamless whole.
Continued business success is usually not the result of accident, but careful planning. By employing these principles, business owners can reap the financial and emotional reward of knowing that their business will continue to thrive in the next generation.