Business Succession Planning
Most business owners overlook succession planning. This creates stressful and difficult times for the business owner and his/her family. The following is a brief overview of the succession planning process.
FIVE KEY REASONS FOR SUCCESSION PLANNING
- Maximize price received.
- Promote the long-term existence of the business and business name (if important).
- Keep the business in the family, if possible.
- Continue fringe benefits such as hospitalization, auto, and entertainment accounts.
- Pre-funding the acquisition.
1. HOW TO MAXAMIZE PRICE RECEIVED
- Create a track record of profitability – attempt to maximize profitability for the three to five years prior to the sale
- Build a strong management team that is capable of running the business without the owner’s involvement.
- Eliminate or shorten operating contracts with vendors such as rental and office equipment leasing agreements.
- Promote long-term sales orders and contracts with profitable customers.
- Be careful about promises made to key employees about opportunities regarding owners transition.
- A clean and well organized business is desired by potential buyers.
2. HOW TO PROMOTE THE LONG-TERM EXISTENCE OF THE BUSINESS AND THE BUSINESS NAME
- The desire to keep the company name alive must be identified at the beginning of the process.
- Make sure that the new owner has the management capabilities and adequatemresources for the acquisition.
- Review the bank documents of purchaser to determine if the loan requirements and covenants are reasonable.
- Do not hold back vital information or mislead buyer during the “due diligence process.
- Identify key employees that the new owner should keep after the acquisition.
3. KEEPING THE BUSINESS IN THE FAMILY
- Remember that it may be the business owners dream, but is it the dream of the family member?
- If a family member is not capable or lacks the desire, it is definitely better to sell the company rather than watch a slow demise.
- Does the family member have the respect of the key staff?
- Who has the relationships with customers and suppliers? Sales and relationships are lifeblood of small companies. Do not underestimate this fact!!
- Prior to the sale is the best time for the family members to gain experience at running the company.
4. HOW TO KEEP FRINGE BENEFITS SUCH AS HOSPITALIZATION, AUTO AND ENTERTAINMENT ACCOUNTS
- It is all part of negotiation and design of the sales contract
- Sell early while you still have sales, management and marketing value
- Attempt to pre-fund benefits where applicable.
5. PRE-FUNDING THE ACQUISITION
- Carefully crafted Buy-Sell Agreement
- Aggressive pension funding
- Non-qualified pension plan
- Life Insurance (over-funding = build up of excess cash value)
THE EMOTIONS OF SUCCESSION PLANNING
- Learning that the value of your business is less than you expected
- Realizing that the net proceeds from the sale are less that expected
- Finding out that most small business sales are made on the installment method
- Finding out that family members or key personnel do not want to own or run the business
- Realizing that family members or key personnel do not have the ability to finance the acquisition
- Realizing that it takes a long time to find a buyer. Experienced business purchasers often review 35 business opportunities before they decide to acquire a business
- Realizing that most deals fall apart at some point
THE PITFALLS OF NOT DOING SUCCESSION PLANNING DECLINING COMPANY SYNDROME
- Decreasing or flat sales due to aging owner due to partial retirement or lack of motivation
- Cost of inflation of salaries and operating expenses outpacing growth of gross profit margins
- Inability to replace key customers and suppliers due to reduced sales and marketing efforts of aging owner
- Key family members or employees may leave the company do to better opportunities elsewhere
ALL THE EGGS IN ONE BASKET SYNDROME
- Distress sale on death or incapacity of owner
- Key employees may “hold owner hostage” due to reliance on them without any other succession plan
- Estate taxes on closely held business
- Fear and loss of sleep due to “lack of succession plan”
- Lack of time for family, friends & health
IT IS YOUR DREAM – MAYBE IT IS NOT THEIRS SYNDROME
- Family member may not want to own or manage the company
- Family member may not have the ability to manage the company
- Family member may not have the ability to purchase the company
Managing growth can be especially challenging in a family. With fewer than 1 in 3 family firms surviving to the second generation, and fewer than 1 in ten making it to the third, the stakes are huge.