Succession Planning for Small Business Owners, Part 1:

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1 Succession Planning for Small Business Owners, Part 1: Thinking Ahead With the Big Picture In Mind Dave Pullin

2 Succession Planning for Small Business Owners, Part 1: Thinking Ahead With the Big Picture In Mind Dave Pullin As we begin to bring this series of articles on wealth management for business owners ( to a close, we turn to the endgame of owning and running a successful business, that is, to questions of exit planning or succession planning. It can be enormously valuable to plan out ahead of time what the transition will look like when it is time for you to no longer be one of the chief players (perhaps the only chief player) in owning and running your business. Pivotal matters to consider include who will take over the business, what the legal and economic ramifications of the transition will be, and how, exactly, the overall process will go forward. Keep in mind that the transition might happen while you are alive and well and simply ready to move on (perhaps you ll want to retire or just be done ), or it might happen after you are physically or mentally incapacitated or dead. You may also want to focus on arranging things so that certain aspects of your business such as its core underlying philosophy and mission are guaranteed to continue, or you may decide that it s fine if the chips just fall where they may once you are no longer regularly present or directly involved. If your business has multiple owners, another important concern is how to make sure that a sensible transition occurs when one or more of those owners dies or is incapacitated. Overcoming Two Barriers to Planning It s generally thought that most small businesses and business owners do not have a well thought out succession plan in place. For example, according to the 2010 article Exit Planning for Business Owners, at articles/3084.html, it is estimated that up to 85 percent of business owners have no exit strategy in places because of emotional issues, the lack of an obvious 1

3 qualified successor, tax issues, a lack of good advice, and a general reluctance to think about and embrace change. The most obvious and difficult to overcome reason, however, seems to be that most small business owners are simply too busy overall and prefer to spend their time and efforts on running their business today rather than focusing on future events and the need to come up with a thoughtful and viable succession plan. If you already have a well-considered succession plan in place, then congratulations. But if you are among the majority of business owners who have do not have such a formal plan in place, you may want to spend some time thinking over the two primary barriers to creating and executing such a plan. The first is the internal barrier with respect to how important it really is to have such a plan and whether it will be worth the effort. Only you can make such a decision, but we believe that the vast majority of successful business owners, upon really thinking it over, will come to the conclusion that planning for an orderly transition shaped around their preferences is actually a very important goal and value. This is especially true from the wealth management perspective of shepherding the entirety of the wealth your business represents for the multiple constituencies who will be affected and who depend upon you. Put simply, if you don t have an end game in place, then a good deal of your success may very well be squandered, regardless of whether this happens in the short-term (an unexpected illness, incapacity, or death) or the long-term (upon retirement, incapacity, or death). The second barrier involves adjusting your cost/benefit assessment with respect to creating and executing such a plan, that is, just how big an effort will it be? That is, even if you agree that it s important to have a succession plan in place, you may still think it is just not worth the time and effort that will be required in the here and now versus the long-term benefits that will result. Here s where you should keep in mind that not only do you not have to think through your succession plan on your own, but with the help of a qualified wealth manager you will likely arrive at a more thorough and practical succession plan than you could come up on your own, and with far less effort and far fewer mistakes. That is, if you try to think through and act on all the business, technical, and emotional issues involved in constructing a viable succession plan, it may indeed be an overwhelming task. But if you work with an experienced wealth manager who can help you move through the various issues that come up, it will just be one more long-term project that gets handled in an efficient and effective manner, and that you will one day be very glad you ve fully addressed. As Steven Covey, author of the classic Seven Habits of Highly Successful People (1989) might put it, while creating and implementing a succession plan is not necessarily urgent, it is important, and therefore really should be undertaken in an expeditious manner. 2

4 To help you get a better handle on the scope of effort that will be involved, the next section of this article will present some of the big picture elements that you want to think through as early as possible. Ideally, there are important decisions that should be made even before you first legally organize your company, but in any case, there are quite a few issues that should be thought through and acted on earlier, rather than later, if at all possible. Once you get to the point where there is a forced change of ownership (through death of a partner, for example, or your own sudden illness) or the sale of your business is imminent, it s often too late to bring things into accord with your preferences. The concluding article in this series will delve into the legal and financial details of buy/sell agreements (or buyout agreements ), which are very important with respect to small businesses that have multiple owners. Without one in place, you could end up co-running a business with the spouse of your former partner, and that spouse may have no business experience whatsoever. Again, to avoid this possibility, act sooner rather than later. Critical Succession Plan Factors To Address Early On The following diagram illustrates some of the most critical succession planning factors. Starting on the left, you want to begin by thinking through the value drivers that will make your company the most successful in the long-run, and that will put you in the best position to eventually move on from the company, whether that is through retirement or some kind of intra-family or external transfer of ownership and control. One issue that s important not to lose sight of is how to make sure the tacit knowledge that you (and your co-owners, if any) possess is captured and made part of the organization and does not rest only in the brain and hands of one person. Businesses that rely primarily on the skill, contacts, or reputation of one or more individual are simply worth less than those that plan for the eventual and inevitable moving on of the key player(s). The next factor to think through ideally before any legal entity is formed is ownership structure. Ultimately, do you want the business, or your portion of it, to stay in your family, or to go to a co-owner, or perhaps to one or more key employees, or perhaps all of the employees through an employee stock ownership plan and buyout? Again, this is where buy/sell agreements are important, because if you are not the sole owner, you certainly want to plan for what will happen if you or any of your co-owners die or are incapacitated, including correctly funding the buy/sell agreement, usually through insurance. 3

5 The next factor contingency planning speaks to the need to have a Plan B and a Plan C well before they are called for. Life is full of sudden changes, and whether or not you are the sole owner of your business, there may one day be a need to make rapid ownership and control changes along with taking definitive legal, financial, or insurance-related action. If, for example, you are the sole owner, and you are suddenly incapacitated hit by a bus, as the old saying goes who will run the business? How will you secure additional funds or credit if your business has cyclical inventory requirements? Every business is unique with respect to the kinds of contingency plans that should be made, but working with a team of thoughtful professionals a wealth manager, an attorney, an insurance specialist, and perhaps a CPA you should be able to anticipate most possible contingencies and correctly plan for them. The final factor is more of a proactive big picture one, and also involves the kind of team of professional advisors that is often best coordinated by a wealth manager. Assuming you have a particular succession plan in mind, over time there are no doubt any number of legal, accounting, insurance, and other financial elements that can be brought more into alignment with that succession plan. For example, your business may currently be structured as a sole proprietorship, but for real-time liability purposes as well as eventual sales value, an LLC or a C-Corporation might be a better choice. It takes time to make that kind of switch, so once again, the earlier you think things through, the better. 4

6 Success Through Your Succession Plan Throughout this article, the terms exit plan and succession plan have been used interchangeably to address the inevitable transition of ownership and control that will one day occur. From a longterm wealth management perspective, however, succession plan is a much better term, because it automatically reminds us of what s at stake here: true long-term success. That is, without an endgame in place, as a small business owner even one who has to date been very successful you will be far less likely to be truly successful in terms of how the wealth your business represents will be maximized and distributed, and how and by whom your business will one day be run. While no one can know or control the future, a well-considered succession plan that takes into account all the variables that might come into play regardless of whether you retire young or old, sell your business sooner versus later, or are suddenly incapacitated or die will enable you to rest far more easily at night. You have no doubt worked incredibly hard to forge your business, so make sure all the important issues are thought through and provided for while it s possible and relatively easy to do so, especially with the help of a qualified wealth manager who can shepherd you through the entire process. Dave Pullin offers Securities and Advisory Services through Commonwealth Financial Network, Member FINRA/SIPC, a Registered Investment Adviser. He is located at 8440 Southwest Canyon Lane, Portland, OR and can be reached at (503)