Dealing With Succession Planning

November 20, 2014

When meeting with a business owner, I first ask about the plans regarding the future of their business – one year out, five years out, then ten years out. Usually, they can clearly identify the goals they want to achieve within the next year. However, their vision for five years out is much cloudier, and their vision for ten years out is practically nonexistent. It is crucial for entrepreneurs or employees working for entrepreneurial ventures (e.g., those individuals who have taken over a family-run business) to gain a solid understanding of succession planning concepts and apply them to their endeavors. Those concepts typically include developing specific objectives and determining which tools are necessary to accomplish them.

Putting this in context, let’s consider a family-run business. Identifying the next generation successor that possesses the ability to run and continue growing the business is oftentimes a difficult process. While each employee has certain strengths that allow him or her to complete certain tasks, those strengths may not correlate with effectively planning for – and acting in the interest of – the overall continuation of the business. In fact, one of the most detrimental decisions a family-run business leader can make is to place an ill-equipped relative in a position in which the relative assumes significant responsibilities directly affecting the outcome of the business’s succession. Thus, family-run businesses should develop a written chain of command to establish the intricacies of essential daily operations, as well as identify the skill set of each member to determine who can – or should – eventually take over the business.

In a closely held business where the owners are not related, factors such as age, energy, career objectives and burnout all play integral roles in the discussion concerning its succession plans. To prioritize seniority, a plan can be put together in which a business owner is bought out by partners under certain circumstances to facilitate an older partner advancing in obtaining leadership roles before the younger partners. Similar to family-run businesses, identifying employees with skill sets necessary to take over/run the business and pay the exiting owners for the full value of the business is critical. Generally, individuals with these abilities do not exist within the company, and a search must be initiated to find and vet a person or persons with the requisite skill set.

Once I discover what the business owners want from a practical standpoint, we then discuss the legal documents necessary to achieve their objectives. For example, in a closely-held, family-run business, an objective may involve beginning the transfer and/or sale of stock to younger members to create a minority interest in the current owners through gifting or buy-sell agreements. These strategies often help alleviate any potential estate tax burden that could adversely affect the business if a principal dies. They usually need to be discussed in the context of wills or trusts to ensure if there are non-stakeholder relatives that may be beneficiaries of a business owner, the overall estate plan of the owner takes into account the transfer of value of a family-run business to the next generation that will operate the business.

In addition, there are other vehicles including stock appreciation rights or option agreements that allow businesses to ensure key employees or non-owners have an ownership or interest in the business that will encourage their performance in its growth. A classic example: How can you tell if the manager of a restaurant has an ownership interest or stake in the operation of the restaurant? If he or she does, you are greeted promptly, the floors and tables are clean, and the food is quality. If the manager is simply paid to be there, rarely do you encounter these same benefits. Discussing succession matters with your key employees will help identify who wants to be an owner in the future and who just wants a stake in the success of the business.

Overall, the most important action to take with a family-run or closely held business is beginning the succession planning discussion. Unfortunately, most of the time business owners are so focused on the day-to-day success of their ventures that they spend little, if any, time on developing a course of action concerning a potential sale, succession or death of the owners. Detailing on paper the business’s daily operations and identifying key players whose exit (either voluntarily or by death or disability) could damage the business are proactive measures that should be implemented in order to strategically adapt to change. Again, identifying employees with the necessary skill sets to lead the business is absolutely imperative. Building a business is time-consuming and requires immeasurable hard work. Make sure your business is prepared to maintain – and exceed – its legacy.

To subscribe to email alerts from Axley Law Firm, click here.