Legal Watch: Developing a Succession Plan

Lay the foundation to keep your business “in the family”


Based on my experience (nearly 20 years) in the electronic and life safety industries, the overwhelming majority of industry businesses are family-owned. Most family business owners want their business to stay in the family; however, the fact is, nearly one-third of all family businesses do not make it to the next generation.

A good family business succession plan is developed and put into action years in advance of the actual transition. The plan should consider the needs of senior family members and the coming generation, including those who choose not to work in the business. The plan should also consider the concerns of non-family managers and other key employees.

There are many ways to transfer ownership of a family business. Everyone wants to minimize taxes, but what’s ultimately right for your family will depend on a number of factors focused on your family’s priorities and needs. Failing to plan the succession of your family-owned business is the same as planning to fail. Consider the following:

Threshold Issue. Every succession plan must address a threshold issue: Should ownership of the business be transitioned to the next generation or sold to a third-party with the proceeds funding the owner’s retirement and the heirs’ eventual inheritance? Just because the owners want to leave their business to the next generation doesn’t mean it is an option.

Navigate Charged Emotional Issues. Perhaps the most delicate aspect of dealing with a family-owned business is that it resides at the crossroads of family and business — two of the most super-charged emotional issues in anyone’s life. As a result, family business owners often avoid their retirement or the transition — an all-too-familiar situation to second- or third-generation family business members. Letting go isn’t easy for someone who has poured their life’s energy into building a successful business.

Family succession planning takes a team. This means family members both in and out of the business and key managers should know what is going on and why. Assemble a team of knowledgeable professionals — a lawyer, accountant, financial advisor, valuation expert, even a family systems therapist or professional facilitator. You also may want to consider a family advisory council, which functions like a board of advisors.

Select a Successor. This can be the single most difficult and delicate challenge. Are you really sure your son or daughter wants to take over? Have you actually asked, or has it always just been an assumption? A successor must be groomed, and that takes time. Owners must put the designated successor in a position to control the company, which can be tricky with siblings or other family members involved.

Is the Plan Fair? If the business employs several family members, who is in charge after transition? And what about compensation? Keep in mind that the family succession plan is intertwined with the owner’s estate planning, so you must consider how to most appropriately (and fairly) address the interest of family members who, for whatever reason, work outside the family business. If the business is to be sold to family members, the price (and deal structure) must be fair while also passing tax scrutiny. Keep in mind that what may be fair in the eyes of family members may not be in the eyes of the IRS. Terms of financing must provide the owner and spouse sufficient retirement income and the company must be able to make the payments while having sufficient capital for business purposes.

 

Eric Pritchard co-chairs the electronic security group of Kleinbard Bell & Brecker LLP. He focuses his practice on the electronic security industry with an emphasis on acquisitions. This column does not constitute legal advice; contact an attorney with specific questions.