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Succession Planning Best Practices for Your Business

Last Updated: December 7, 2021
7 min read

As a small business owner, looking ahead to the conclusion of an entrepreneurial adventure you’ve sunk so much time and effort into can prove daunting. Often, your business may continue on, but you’ve decided to schedule your exit from the day-to-day operations and need to develop a plan for how things will look upon your retirement.  

However, succession planning is not simply about tomorrow. It’s also a process where you can gain new perspectives on how to realign the values and goals of your business today, creating lasting, powerful synergies along the way.

Consider these tips as you plan your own exit:

Maximize value

A well-defined succession plan makes it less likely that you’ll short-change yourself in the chaos of a hasty exit.

“There are a lot of financial factors and non-financial factors [in succession planning], but the key is to ‘de-risk’ the business,” says Andy Kahn, a Certified Exit Planning Advisor with Concannon Miller. “The less risk there is from a buyer’s perspective, the higher the multiple of your earnings the buyer is willing to pay for your business.”

A couple of areas to watch: Customer or supplier concentration — “The less dependent your business is upon one customer or one supplier,” Kahn notes, “the less risk you have in your business” — as well as, paradoxically, over dependence on the owner.

“If the business is totally dependent on you as the owner for various facets of it and you couldn’t be replaced, that’s not a good thing,” Kahn says. “That needs to be remedied.” Essentially, if you don’t plan, you’re likely going to minimize the value for your business.

Overall, if you want to ensure your succession plan goes smoothly for everyone in the business, give yourself plenty of runway — two to three years of it, if possible.

This allows you the necessary time to survey all parties involved in the business, make operational adjustments and get the necessary legal and financial documentation in order. Technology can make the latter easier. A business credit card may offer a wide array of benefits and tools for entrepreneurs.

Define your exit

Every entrepreneur and small business is unique, so don’t get caught up chasing a one-size-fits-all solution. Whichever succession path you ultimately choose — sale, intra-family transfer, structured buyout, etc. — be sure to tailor it to your needs and goals.

“If [your business] is going to a larger competitor it is probably best to try to extract the maximum value possible,” Stratus Wealth Advisors founder Sam Brownell says. “However, if it is going to a family member or key employee, perhaps it is better to find a compromise between the value the seller receives and the cash flow squeeze the buyer may be under.”

  • Intra-family or key employee transfer: This can be a good option for those owners who seek to pass along their values and management style to the next generation. Of course, it is not necessarily for everyone — much will depend upon whether the new owner is committed to the business and can operate it successfully. “Sometimes, the current owner can test the leadership and operational capability of an internal successor by giving them more operational control over a period of time while not transferring ownership,” Brownell says. “That way, if something goes wrong, the current owner is still the majority owner and can make changes if necessary.” 
  •  For intra-family transfers, Brownell suggests exploring the possibility of transferring financial assets — stocks, bonds, mutual funds, etc. — into a newly set up Family Limited Partnership (FLP), with family members as designated owners. “The FLP can then meet every quarter and discuss management strategy,” he says. “This is a great way for parents to gauge both the interest their children have in the family business and also for the parents to teach their children about prudent asset management.” 
  • Sale: For third party sales, much depends upon you are dealing with a strategic buyer or a financial buyer.
  • “A strategic buyer is typically a competitor that wants to purchase the business to improve their growth and/or increase their market share,” Brownell says. “In this case, the seller needs to worry about every detail, from cleaning up their books and operations to making sure their offices are clean, because a strategic buyer will typically pay more for the business since they can realize synergies. A financial buyer — such as a private equity firm — is typically not in the succession plan for most business owners. Private equity firms are not only looking at larger businesses but are also typically not interested in buying the whole business. Private equity firms usually want to take a stake in the business, help to improve operational and financial performance and then resell the firm.” 
  • “The area of similarity in both third-party sale options is that the seller may need to engage a business broker to help them execute the sale,” he adds. “Unless the seller has interested buyers already lined up, it can be helpful to have a business broker who knows how to shop the business around to their book of buyers.”
  • Structured buyout: If the situation is right and your potential successor is amenable structuring some kind of seller-financed note so that the seller gets paid over time can be a wise move. “That reduces tax liability and provides the seller a stream of income in retirement,” Brownell says, “while also placing the buyer in a better position to grow the business because seller financing typically can be done at a better rate than bank financing — especially if the buyer is a family member or key employee.”
  • If the business owner also owns the real estate, Brownell advises moving it into a separate entity — say, LLC — so that the business owner can sell the business and gives “the family the flexibility to receive income from the property in perpetuity.”
  • “It can also be easier to sell a business when the real estate is not part of the deal, which typically lowers the price,” Brownell explains. “Further, the seller who maintains control of the real property can set up a triple net lease so that they do not have to deal with the ongoing payments for utilities, water, etcetera, while still receiving a stream of income.”

Plan for the worst — Just in case

One major benefit of early succession planning is that it doubles as a way to protect your professional legacy and loved ones if something unexpected should happen to you.

“If you don’t have a plan the ownership — and control—of the business will pass based on state intestacy law,” business ownership lawyer, CPA, and author of Business Blunders! R. Shawn McBride says, referring to laws that govern how an estate is distributed when someone dies without a will. “This can lead to odd outcomes.” For example, a spouse sharing ownership with children, children co-owning the business, or a spouse with no business acumen or experience suddenly expected to manage one.

With a plan, you can balance your way to more desirable outcomes.

“An owner might want to leave the value of their business to their spouse so they can earn a living from it,” McBride says, “but might secure professional management experienced in the industry to actually run the business.”

Ready yourself

As you create your succession plan, remember this will be a transition not only for your business but for you personally.

“Within emotional or personal planning, business owners also should consider how they want to spend their days following the sale of their business,” Kahn says. “The Exit Planning Institute reports 75 percent of business owners regret selling their business one year later, either because they feel they didn’t sell it for enough or they don’t have anything that fulfills their days.”

“Creating an emeritus position for the selling owner can be a great way for the family member or key employee buyer to continue to receive that person’s expertise while taking a tax deduction for the seller’s compensation,” Brownell suggests.

Seek partners when needed

If you get stuck on an aspect of your exit, don’t hesitate to reach out for help. There are seasoned professionals working in every area of succession planning who are more than willing to share their perspective and expertise.

As anyone who has built a successful business can attest, follow-through is everything. And there’s perhaps no greater moment that epitomizes this truth than your ultimate exit. So spend some time mulling over how you would prefer things look as you take that final bow — and then use the tips above to help bring that vision to reality.

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