March 15, 2019

What is Succession Planning?

One of the challenges of being a successful business owner is how best to tackle the thorny issue of succession planning?

Many owners may have been dodging this difficult conversation for years. Subsequently, they often approach their advisors without a clear understanding of what they want and how they would like to proceed with their succession strategy.

The challenge for advisors exploring the issues around succession planning is to identify the right tools required to transfer of ownership or assets together with effective taxation strategies to minimise future or current liabilities associated with changes in ownership.

Unquestionably, the first step for an advisor is to confirm what their client really wants.

This discussion requires examining some of the myths that have grown up around the realities of succession planning amongst small business owners and navigating the inter-family dynamics and often strongly held emotions that exist within many small businesses.

Isn’t It Easier Just To Sell?

Sounds simple, doesn’t it? But what should be the asking price? Sell to whom? And when? Finding a willing buyer for any business is not as straightforward as listing the business on a “businesses for sale” website. Buyers are rarely prepared to wait until the time is right for the owner to step away. Then there is the fluctuating nature of a business’s life cycle to consider.

Timing influences the way any business is valued. Most business owners have a feel for the worth of their business based on its revenues, asset base, and profitability and growth prospects.

What the business owner wants is for the buyer to pay a fair price. Yet this is often a subjective number.

Valuing a business is always tricky. A good advisor will recommend commissioning an independent valuation of the business, and provide documentation supporting the business valuation methodology.

This can provide a baseline for periodically reviewing the business’ valuation.

Sure, There’s Plenty of Time

When it comes to succession planning, time can either be a friend or a foe. Usually, there are two approaches. Spend time now on succession planning or postpone the process until after a major event when you may no longer have a choice.

Reluctance to accept the commercial reality of succession planning can result in disastrous consequences for the business and its owners. All too often, timing issues are outside an owner’s sphere of control. Every small business owner should implement a coherent succession plan to protect the interests of the business’ stakeholders.

So, start early. Identify your preferred succession strategy and work with your advisor to put in place a viable succession plan before it becomes an issue.

Surrendering Ownership = Losing Control

Far too many small business owners see a succession plan as an “all or nothing” strategy. Changing ownership is synonymous with surrendering control and taking an income hit.

However, it’s feasible to set up a succession plan that shifts ownership of a business to a successor over time without surrendering control or suffering a loss of income. Moreover, many small business owners want to continue building their legacy.

An owner may still run a business and be paid for that management role without losing the satisfaction that comes from operating an independent business.

However, the sooner a succession plan is implemented, the more likely it is for that succession plan to be successful, both financially and emotionally.

Moreover, there are often potential long-term tax advantages to be realised by transferring part of the ownership in the early stages of a lengthy transition.

Equal Is Synonymous With ‘Fair’

Whoa!  Many small business owners have the intention of dividing their business equally between all their heirs. Yet this can be fraught with peril.

Take the situation where there are multiple heirs. One heir has worked in the business since they left school, undertaking a long apprenticeship on the understanding they will eventually take over the business.

Other heirs have pursued other interests outside the family business. Are all heirs entitled to equal shares of the business equity including, control and income? The heir working in the business is unlikely to think so!

Similarly, if the business’ owner gifts a larger ownership share to the heir working in the business, the other heirs may also not see that solution as being fair either.

It’s important that the owner understands that, whatever the form the succession plan takes, confronting and uncomfortable issues may emerge. Relationships, potential divorces and other considerations need to be accounted for, if not mapped out, in a succession plan.

While many outcomes can be guaranteed through an effective, farsighted succession plan, convivial relationships amongst all family members may not be one of them.

Final Observation

Good planning is good business! Transferring business ownership to a successor over a staggered period of time can allow that owner to maintain control and preserve a steady income stream. While no one can predict the future for a small business with any certainty, developing and implementing a sound business succession plan can generate substantial financial benefits, tax advantages and peace of mind, regardless of what turbulence lies in the future.

Filed Under: Business Advisory, Management and Strategy

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