A good succession plan can help:
- Transfer ownership when the time comes
- Maintain your lifestyle in retirement
- Provide for your heirs financially
- Prepare the business to handle unexpected events
A succession plan is very important because life happens and unless you have a plan to deal with the unexpected, the business you worked so hard to build could collapse if you become disabled, die, get divorced, or decide to split with your business partner.
Selling the Business
If you are passing the business along to your family, are they qualified or can they be trained? This is something that should be considered before allowing a family member to take over the business. Are there family issues regarding the business that need to be resolved? If so, they should be identified now so that they can be solved before you’re gone.
If there are other business partners, selling your share of the business to them may be the way to go. However, without proper agreements in place, it can be tough to do so. When a business partner dies, their share usually passes to their spouse who may not have any interest or the knowledge necessary to run the business. It’s helpful to have a buy-sell agreement financed by insurance. This way, the individual partners can purchase life and disability buyout insurance on their fellow partners. In the event of a partner’s death or disability, the remaining partners can use the insurance proceeds to buy back that partner’s shares.
If the previous options aren’t viable, another option is selling the business to a key employee. However, financing is the biggest challenge for this option, since few employees can finance the purchase of a business. Options include getting a business loan or seller financing, which would allow you to receive a percentage of the business’s value at the sale and the rest of the payments over time.
Similarly, establishing an Employee Stock Option Plan, or “ESOP,” may be the right answer for you. An ESOP is an employee benefit plan that enables employees to own part or all of the company they work for. ESOPs can create higher productivity, employee retention, tax advantages and higher job satisfaction, as employees feel they have a stake in the business they work for.
Selling the business to an outside buyer is another possibility. It is difficult however to find a ready, willing, and able buyer that is ready to accept your price, terms, and within the time frame you choose. Businesses that can continue running without the owner on board are some of the most valuable options to potential buyers. There are also other key value drivers that make a business more attractive to acquirers. Understanding these drivers and putting resources toward improving them can go a long way toward successfully selling your business.
Conducting a business valuation has many benefits, even if you aren’t planning on selling your business. You can develop a retirement income strategy, properly value future owners’ shares, and purchase adequate insurance for protection planning. Additionally, it may make it easier for your business or potential buyers to get loans or attract investors. A valuation from an impartial third party is more credible to potential buyers. Therefore, you should hire a credentialed valuation expert if you do plan on having a valuation performed.
Preparing for Transition
Regardless of the way you exit your business, you want it to keep going and growing. However, the transition period to new ownership is a vulnerable time for the business. To prepare for this, there are important steps that should be taken.
- Identify weaknesses in the business and developing a plan to fix them
- Fine-tune your business’s systems and processes
- Train your successor
- Create incentives for key employee that you’d like to remain in the business
- Get comfortable delegating tasks
- Decide the role you’d like to play in your business and the transition
- Put the necessary legal and financial tools/resources in place
Remember, a business value is often based upon a business’ profitability (whether it be EBITDA or some other measure). The more you can manage and grow this through improved operations, increased revenue, streamlining expenses, automation, whatever, the more your business will be worth when you finally do transfer it.
Review the Plan Regularly
Circumstances may change, such as key employees leaving your business and family members losing interest in the business. As this happens, your own plans may change. Therefore, the succession plan should be reviewed regularly so that these circumstances can be taken into consideration and the plan can remain effective.
James Laino, CPA
James is a member of Cerini & Associates’ senior audit staff where he works with our education and school district clients. James conducts claims audits at various school districts on Long Island.