The term ‘business succession plan’ conjures images of everything from corporate boardroom deals with executives elbowing one another for attention to what your uncle writes on a napkin to transfer his pizzeria to your cousins.
Approximately 90 percent of U.S. businesses are family-owned, reports a recent edition of Trusts & Estates, including Wal-mart and about 35 percent of the businesses on the S&P 500.
These companies are known today because they overcame formidable obstacles to survive. Only about 30 percent of family-owned companies survive the transfer to the second generation, just 12 percent survive into a third, and 3 percent into a fourth generation or beyond.
Some baby boomer business owners seek to secure their retirements by selling their companies — millions of them — but only one in five businesses for sale will be bought. Economic uncertainty has slowed mergers and acquisitions activity in recent years, and credit requirements have tightened for buyers.
Despite these challenges, business succession plans can successfully transfer family-owned companies to subsequent generations and provide secure retirement income to the seller. Some plans fail, however, mostly (85 percent) for family reasons rather than business reasons. They succeed only by addressing the many hazards to a successful transition, and only when families are willing to start planning early, communicate clearly and enlist expert professional support.
Here’s what those basic steps look like:
Start early. Preparations for an intergenerational business transfer should begin from three to five years in advance to deal with family issues such as assigning ownership and management and business concerns including relationships with vendors and customers.
Communicate clearly. The senior generation must communicate candidly with the junior generation about their financial/retirement expectations, and the junior generation must communicate clearly their expectations for buying and/or transitioning the business.
Seek expert professional support. Involve a strong professional advisory team: an attorney who works with family business succession planning, a CPA firm and a bank that can partner with the family to ensure that the business gets transferred to the next generation.
This can be a delicate balancing act, but these professionals recognize the necessity of maintaining clarity and candor in such matters, easing family business transfers by respecting both components. Professional members of business transition teams know never to underestimate the potential emotional effect of a business transition on family relationships. They recognize the importance of communication, the indispensable element that can make a transition successful, while also maintaining family harmony.
With these elements in place, the family realistically must determine a value for the business and compare that value with the seller’s need for retirement income in order to assess whether the seller, the senior generation, can meet those needs by selling to the junior generation. This calculation will help determine whether to sell the business within the family or to a third party.
It is important to calculate with the same realism whether the junior generation can run the business.
Do they have the communications skills, the interpersonal skills and the requisite business knowledge and experience to convince customers and employees that the business will remain viable? In any transition, it’s vital to communicate plans and goals clearly with these groups and to highlight the benefits of continuing business operations and relationships.
As sellers decide whether to transfer the business within the family or sell to a third party, they should work with their professional transition team (attorney, accountant and banker) to examine alternative scenarios through a comprehensive exit options analysis.
Any business owner in transition needs multiple options, even when the first choice is clearly to transition a business within a family. It’s important to have a contingency plan in case such a transition, for whatever reason, simply doesn’t work. Also, the due diligence for a business transfer within a family should be just as rigorous and detailed as for a sale to a third party.
To sell outside of the family, owners should maximize the value of the company for the best sale price, relying on the professional team to recommend appropriate accounting and legal steps.
To sell within the family, owners should reduce the value of their estates, and the estate taxes, through tax-free gifts (by both owner and spouse) to heirs, heirs’ spouses and their children. They also can decrease the value of the business by offering discounts on family business stock, arranging deferred compensation to the seller, leasing assets such as real estate or equipment, and charging licensing and royalty fees for intellectual property, such as patents or copyrights.
A business succession plan must be a living document, reflecting changes in the owner’s objectives, the value of the business and market conditions. Entrepreneurs should periodically review their succession plans, as they do their insurance coverage.
It’s all about relationships — within the family, and within the business.
Jamie St. Clair is vice president for KeyBank. He can be reached at 945-0639 or by email at JamieAStClair@KeyBank.com.
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