For business owners, devising a succession plan is crucial in case of disability, retirement, death, or in the event that growth in your company changes your role away from “hands on” to a more managerial focus. Business continuity planning not only benefits the withdrawing owners and their families, but also the remaining owners and their families, the employees, and the business entity itself.
Many business owners may resist facing succession issues or feel they can delay thinking about it. Most family businesses have unique characteristics. Envisioning the future under new leadership is daunting. Owners who are accustomed to controlling and managing all aspects of the business sometimes have difficulty “letting go”. After all, the success of the business has been achieved largely through the total commitment of the owner – it’s the owner’s “baby”.
Step One: Developing the Plan
The first question should be: Will ownership and/or management remain in the family and, if so, in what capacity? If your intent is to keep your business within the family, you’ll need to determine your family’s needs and interests as well as the needs of the business. A family conference should be called to explore the relationship between the business and the family.
Step Two: Gathering and Analyzing Relevant Data
Before a plan can be developed, goals and objectives must be identified, various business and personal issues must be addressed, and a large amount of information must be gathered, both business-related and personal. In addition, consideration needs to be given to training potential successors.
Step Three: Refining the Plan – Strategies and Techniques
Assuming the business will be sold, the strategies and techniques available will depend on the form of the business entity and on determining what is being sold and who is the potential buyer. Whether your business is a corporation, partnership, or sole proprietorship, tax issues are complex and can have a dramatic effect on the ultimate proceeds received from the sale or the accepted valuation. It is imperative, therefore, that you consult with your financial advisor and especially your attorney.
Step Four: Valuation Methods
The following are some of the valuation methods you can use when selling your business:
- Fix the price. Many owners simply “fix” the price of their business, although it is more common, and better, to obtain a formal business appraisal.
- Establish the value of the company based on book value.
- Fix the price by capitalizing the earnings of the business.
Step Five: Buy-Sell Agreements
In its simplest form, a buy-sell agreement is an agreement between two or more parties, where upon a triggering event, one party has an obligation to buy and the other has an obligation to sell his or her interest in the company. In addition to fixing the price, one of the more important purposes of a buy-sell agreement is to restrict ownership. Do not consider drafting a buy-sell agreement without consulting your attorney.
Step Six: Funding the Agreement
An agreement would not be complete without addressing how the purchase price will be paid. Two of the most common funding vehicles are life insurance and ESOPs (Employee Stock Ownership Plan). The availability of death benefit from life insurance ensures that adequate liquidity will be available when an owner dies, thus avoiding a potentially adverse impact on working capital. An ESOP is an employee benefit plan designed to invest primarily in the stock of the sponsoring business.
Step Seven: Estate Planning Issues
Estate planning for business owners involves a consideration of non-tax objectives along with the goal of limiting the size of the taxable estate. Some of the non-tax objectives, such as to whom property will be transferred, and whether such transfers will take place during the lifetime or at death, will have been addressed in the early phases of developing the succession plan. Divorce and second marriages can complicate succession planning and present special estate planning challenges. In addition, since an owner’s interest in the business is an asset included in his estate for estate tax purposes, the value assigned to his ownership interests will drastically impact the tax eventually paid by the estate.
Some of the topics covered in this article may seem like “common sense” issues, but good sense is anything but “common” when it comes to family business planning. The major point is that it is absolutely essential that you use a cohesive “team” of experienced problem-solving professionals to help guide you in crafting your unique succession plan, remembering that the main theme of this discussion is far more important than any of the details. The two most common reasons for the low rate of successful transitions in closely held businesses are failing to plan and attempting to implement a plan in the face of unresolved family conflicts. Although you may be years away from a planned withdrawal from your business, sudden illness, disability, or death can force your “untimely” withdrawal. So get professional advice and start your business succession planning now!
James L. Moore
The Law Offices of James L. Moore, P.C.