In our lakes area communities, there are many businesses that have been in business for 40, 50, 100 years or more. These ‘legacy businesses’ standout as a testament to the owners’ hard work, dedication, and planning. According to Inc.com, 96% of businesses fail within the first 10 years. So, it’s significant for a business to survive past its first decade and into the decades beyond. What’s very important for a younger business to become one of these ‘legacy businesses’ is succession planning.
When it comes to succession planning for a business, there are many considerations. One of the first that comes to mind is how will the current owner exit the business. Will it be by selling the business, passing it down to family members, or shutting it down? These events are foreseeable yet there are events that take place which are not, such as the unexpected death or incapacitation of the owner. It may be difficult as a business owner to imagine not owning and running your business – something that you have poured your heart into – but succession of some form will take place in the future, and planning for that makes your business stronger.
From a business standpoint, succession planning should address issues such as putting in place well-organized and separate accounting and financial records; building up a strong cash flow; reducing debt; formalizing the business operations in practice and in writing; solidifying key employee, customer, and supplier relationships; and determining whether life insurance should be purchased. Most importantly, a business owner should identify her exit strategy whether that’s a sale to one of the existing owners, sale to a third party, merger with another company, sale to an employee or family member, or a conveyance to family members as part of an estate plan.
From a legal standpoint, here are some additional considerations and options for succession planning:
First, put in place a formal governance structure for your business. If your business is a corporation or LLC, hold regular meetings of your shareholders / members. Have the shareholders or members appoint a Board and have the Board appoint officers. Organizational and company documents should be reviewed and updated as needed. Bylaws should be adopted and put in place. All of these actions are good for your business. They help preserve and protect the liability shield of the corporate / LLC entity, and they provide a way to manage the business in a more formal structure, delegate management responsibilities to others, and to start to train others how to run the business.
Second, in the years leading up to exiting a business, an owner may consider selling a minority interest in the business to a key employee or family member as a way to make a more gradual exit from the business. The benefits are that the future owner and leader of the business is identified; he or she now has a greater economic investment in the success of the business; and he or she can start learning how to run it. Financing as part of the sale allows the new owner to pay for the business over time and at a time when he or she may not have capital or access to outside financing.
A stock sale or LLC membership interest sale whether to an employee, family member, or outside party should also include buy/sell terms which set forth the terms under which one owner may buy out another owner when certain events take place such as death, disability, divorce, bankruptcy, or retirement. Buy/sell terms address succession for multi-owner businesses. (Buy/sell agreements will be covered more in depth in a later article).
Lastly, at the very least, a succession plan should address what happens if something happens to an owner unexpectedly. Who can step into the place of the owner and run the business? As a sole owner, it would be wise to put in place a Power-of-Attorney that appoints a trusted person to act on the business owner’s behalf for financial and other business matters. Estate planning is also part of a solid business plan. If family members are to take over a business, a business owner can provide for such succession in his or her estate plan, address control issues, equalization, possible estate taxes, and more.
It’s very likely this article on business succession raises more questions for a business owner than answers them. Each succession plan is unique to the owners and the business itself and should be carefully crafted with the help of business advisors such as your CPA, attorney, and financial advisor. The goal of your succession plan should be to put your business on the path to another decade, or several more decades, of success.
Any requests for topic suggestions may be sent to firstname.lastname@example.org. Although we cannot give you legal advice through the column, we can provide some general information that may be helpful for you to know. Our purpose is to educate and we hope that you can take something new away from this column each time you read it.