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The AR Group

Succession Planning is Crucial to Business Prosperity

All too often, business owners are so focused on running the business that they neglect to do succession planning or engage in estate planning that includes assessment of business succession. According to Bloomberg & PricewaterhouseCoopers’ Family Business Survey 2012, 8 out of 10 businesses fail within the first 18 months and 70% of businesses never make it past the first generation. Interestingly, one of the common traits of lasting businesses is having a written business plan in place that includes succession planning.

What to Consider When Thinking About Succession Planning?

Business succession planning involves consideration of many factors, including: the nature of the business itself, entity structure, management staffing and structure, current and anticipated revenue, identified and anticipated target markets, and staff. It is also important to take time to carefully consider the viability of the business itself, particularly when one intends to leave the business to someone else to manage.

In this context, we encourage clients to contemplate who they would like to leave the business to, and then carefully evaluate the suitability of that selection. Obvious candidates include children or other family members of the business owner or current employees or managers within the business. Of course, a sales transaction might be appropriate as well. Additionally, some business owners wish to transition their business structure and therefore need to assess the business succession planning options that help to achieve a longer-term transaction.

Unfortunately, we regularly encounter clients that either haven’t considered succession planning, or if they considered it, had not sufficiently considered all options. For example, many business owners fail to critically evaluate whether children are even interested, or equally interested, in running the business; or whether a joint owner’s spouse or children will work well with other current or future owners. Still further, business succession planning requires asking difficult questions that include, for example, whether a buy-out of uninterested or undesirable heirs might be appropriate when one partner becomes incapacitated or dies. This means that business succession planning should generally be conducted alongside evaluation of life insurance policies if unintended consequences are to be avoided.

Methods for Transferring Business Interests

A common method relied on for transferring business interests involves the sale of the business to another party. This party is often unidentified during the succession planning. Owners can, of course, also consider selling the business to family members, employees, or others who ostensibly have a history with or connection to the business. A succession plan that involves the sale of the business prior to the owner?s death or incapacity is a good option for those who need income from the business to use in retirement.

Some businesses are best suited by a succession plan that includes a buy-sell agreement. Buy-sell agreements are ideal for entities with multiple owners or for those who have selected the person(s) to transfer the business to in advance. In a buy-sell agreement, a business owner can use triggering events, like retirement, incapacity, and death to begin a process for the designated successor to purchase his or her interest in the business.

Another option worth considering but often overlooked is to transfer ownership interests through a trust. Specifically, a revocable living trust is a great estate planning tool that can prove powerful in assisting with business succession. When relying on this option, a business owner will typically first transfer the business to the trust, then name the intended successor(s) within the trust. Prior to the business owner?s death, he or she will serve as trustee and beneficiary and will continue to run the business as normal.

Ultimately business succession planning should occur in conjunction with personal estate planning. If the goals and objectives of these two plans do not align, planning efforts in both areas may fail, or at least not work as intended, leaving the legacy of the business operations at risk and the value to beneficiaries substantially reduced.

SMART TIP: Don’t delay. The first and most common succession planning mistake is to leave planning of business interests to another day. All too often that day never comes or it comes far too late for effective tools to be implemented. Successful succession planning involves creation of a plan early on, laying the groundwork for plan implementation, which often takes several years and consultations with a variety of professional advisers from business attorneys, insurance brokers, and financial and tax advisers to ensure that your short and long-term interests are promoted and protected.