By Emilie Fairfield, Nevada Business Magazine, April 1, 2024
There comes a time in the life of a business when leadership must be passed from one generation to the next. After watching her paternal grandfather’s butcher shop go through liquidation and her maternal grandfather’s printing shop be sold off after an unexpected death in the family, Oksana Komarnyckyj, a merger and acquisitions advisor and managing director for IBG Business, recognizes the importance of effective business succession.
“Succession planning in a business means planning for the next steps after the current owner (or owners) is no longer there,” Komarnyckyj explained. This change in leadership can take place due to any number of factors but is largely based on what she referred to as The 5 Big D’s: death, divorce, disability, disruption or disagreement among partners.
When the big D’s occur, one of several different succession routes is activated. Komarnyckyj continued, “A company can be passed on to one of more family members. A company can be sold to one or more family members. A company can be sold to a management team for a management buyout. The company can create an employee stock option program (ESOP) where the employees become the owners. Or, the owner can sell all or a portion of the company to a third party.”
From the Start
Before this important business handoff occurs, every business must have a beginning. And even then, it is important to plan for succession, and in the long run, a successful succession serves both the business and the community.
BJ North, executive vice president and chief banking officer of Plumas Bank, believes there is no better time to begin succession planning than the beginning. “Businesses have a journey,” she said. “When you start them, you need to think about what it is that business is going to be to you.”
A business plan includes building a team to support the business throughout all stages. The team should include an investment banker, an attorney, a CPA and a business broker.
“A business is a huge investment in your portfolio. If that’s part of your exit strategy for retirement or going into something else, you really need to nurture it and cater to it and spend time on it and all the players that are going to be involved that you see want to take over. They need to be involved from day one,” North said. “I think sometimes the most important person at that table or not at that table is your banker,” she continues.
To illustrate her claim, North pointed out that bankers are able to serve an important role helping small businesses answer questions, foresee unexpected challenges and navigate financial waters all while looking forward toward a successful transition whenever the time comes.
Preparing for transition is no small task. “You not only need to groom them for the business but also for the legacy you really want to leave,” she said.
Every business owner should ask: “What is your legacy that you really want to be remembered by as a leader in the community, as a leader in business, and your business philosophy?” North explained. “Those things have to be groomed and nurtured throughout the length of your business.”
When small businesses grow, develop, and thrive within their towns, “that becomes generational success for the community as well as new families building those communities. I always like to talk about succession planning whether they’re about ready to retire or just starting,” North concluded.
All in the Family
A common option for succession is passing down the business from parent to child or some way within the family. Brian Steadman, team partner at Solomon Dwiggins Freer & Steadman, LTD., heads up the estate planning, asset protection planning and transactional division of the practice. He also works with business succession planning and estate planning. In this role, he often supports owners of small, family-owned businesses who intend to pass down their businesses to future generations.
When passing down a business, “the family dynamic is where you always have to start before you can begin with the legal dynamics,” he explained. “If you don’t have the right family chemistry or the right family intent to succeed the parents, then going down a family-owned business transfer just probably doesn’t make sense,” argued Steadman.
There are many legal pieces at play, and once a family has determined that both the parent and child are in favor of passing it down, then the legalities must be put in order. “Assuming you have the right fit, most of the time, the business owner is going to want to maintain some level of direct or indirect control, at least until they feel comfortable enough that their heirs have the skillset to manage it independently,” Steadman said.
Communication within the family is key for a successful transition. “Laying it out early, laying it out clearly, and making sure that everybody’s role is defined and that they know exactly what they need to do, will pay dividends down the road,” Steadman explained.
Preparing for a Sale
Many businesses go another route. Whether an heir is not interested or non-existent, oftentimes an ESOP sale to employees or a third-party sale makes more sense.
Komarnyckyj works with the sale of large, multi-million-dollar companies. Even prior to preparing for a sale, she said, “You should always operate your company as if it is for sale, even if you don’t want to sell.” This ensures a business is in order when the time comes.
She continued, “Do you know what your revenue is? Are you accounting for revenue properly? Are you accounting for inventory properly? Is your cost of goods sold true to your cost of goods sold?” Through the intensity of running a business, many forget to take care of these important questions, and this oversite can cost in the long run.
“A lot of business owners are so focused on operations that everything else is secondary because they don’t feel they have time to breath.” Komarnyckyj said. “But, when it comes to the sale, if those things aren’t good, it is a challenge to re-create and correct. Investing in the proper advice and the proper personnel, be it an inside controller, an outside fractional CFO, or some combination, will really make the transaction go smoother.”
Komarnyckyj summed it up, “You have to run a company that’s effective and efficient and your financials need to reflect that.” Then, a business is prepared to sell whenever the Big D’s strike.
Timing, Timing, Timing
While sometimes life happens when least expected, other times, it happens on a timeline and leads directly to retirement. When there is time to plan, the longer the runway the better. This runway includes time to transition out of leadership. Retirement is not a one-and-done experience. However, many approach it as such.
Steadman explained that many business owners assume retirement will happen overnight and this is simply not the case. Rather, it requires time to plan, time to execute and time to transition from one leader to the next.
The long horizon is important, and Steadman encourages owners to ask a few questions about their retirement such as, “How are we doing it? Why are we doing it? Is it the right decision? How is the person who’s going to buy it going to pay for it? Do we need to get the small business administration involved for loans? Are we doing it as a private sale?” All of these questions help ensure everything runs smoothly as the owner moves from active within the business to retirement.
It also helps ensure timing is neither too late nor too early. “I think there’s such a thing as too early of a transfer of ownership,” Steadman said. It’s important to think through alternatives and hit the just-right middle ground. A good lawyer can help his client think through the timing and help avoid common pitfalls.
Top Tips
Jeffrey Burr of Jeffrey Burr Estate Planning and Probate Attorneys provides some tips for those in the process of succession planning. “One of the key things is make sure you have competent, talented key employees in your business and that you are delegating important responsibilities to them,” he said.
Burr continued, “Whatever business you’re in, and it doesn’t matter what business you’re in, get advice on what outside parties consider when they look to buy a business like yours.” From there, he explains the importance of implementing their advice to “make sure that you have, as a business, an attractive operation.”
Finally, he recommends a strong buy-sell agreement from the beginning. “When you start a business and you have a partnership, or a co-shareholder, in a business, you’ve chosen that person because you have trust and faith in them. If they pass away, what that means if you don’t have a buy-sell agreement is that their heirs will now step in the place of your partner. In most cases, that’s not what you bargained for.” This can create many unexpected difficulties.
He added, “A buy-sell agreement is important because typically that sets forth terms that would require a deceased partner or retiring partner to first offer the business for sale to you on favorable terms and would prevent you from having to deal with a spouse or children of the deceased or retiring partner.”
Hiring trustworthy employees, getting advice on what outside parties consider when buying, and having a strong buy-sell agreement are all ways to ensure a successful and smooth succession from the business side of things.
Preparing for an Afterlife
From the personal side of things, succession can be very difficult for individuals whose identity has been built around their business. This means owners have often had large, successful businesses, been active in their communities, and invested huge portions of their life into these endeavors. For them Komarnyckyj asked, “What happens when you sell your company? It’s not like a house where someone moves in, someone moves out. It is a period of time where you have to update and educate the new owners. When you’re done with that, who are you? If you’ve been going to work five days a week from even 9 to 5, what are you going to do with that day?” Golfing and vacationing alone probably are not viable answers.
“Even if you golf one day a week, what are you doing the other four? You need another identity be it whatever it is that interests you. It can be a hobby that is something you can do full time, you can be a mentor, you can participate in sports. It doesn’t have to be one thing five days a week, but you need an afterlife,” she concluded.
Whatever afterlife a business owner dreams up, planning an intentional handover, executing that plan and avoiding some common pitfalls will all help a business owner pass the baton from one generation to the next while continuing a strong and steady contribution to the community.