As the great wealth transfer looms, so does a great transfer in leadership among businesses big and small, public and private. The 40-year-old S&P 500 CEO is a rarity, with the average age of CEOs at 58–not far from retirement. With few Gen X and millennial representatives to step in, how are businesses developing a succession plan or exit strategy to prepare?
As it turns out, many businesses may not have an effective succession plan at all. In fact, research from the Association for Talent Development (ATD) finds that only 35% of organizations have a formalized succession planning process.
What is going to happen when you finally relinquish day-to-day control over your business? Are you going to sell it and live off the proceeds? Do you have a succession plan to ensure you can continue your legacy? Only you can know but, whatever you have in mind, it pays to have a formal and well thought-out succession plan and exit strategy.
Having an exit strategy or executive succession plan is important for a number of reasons. For one, proper exit planning is necessary to avoid major risks. For a lot of owners, the transition of a business is a once-in-a-lifetime event. With the right plan, you can increase the business’ value and boost the proceeds you receive from transition, set up the successor for future growth and help maintain employee harmony.
To emphasize: I don’t mean exit strategies are a good idea. I mean it is a really bad idea to not have one.
Without a formal plan, you risk walking away with much less than you could have. You may end up holding onto the business much longer than you had planned if the company isn’t marketed properly or streamlined for another owner. You might be forced to shut it down and walk away with nothing. You might even end up foisting the need to shut it down with nothing to show for the effort on your estate after you pass.
Most business owners say they are interested in having a formal exit plan, and most acknowledge how important it is. Despite knowing the importance of a transition plan, many small businesses and family-owned businesses lack a structured approach. According to Deloitte, while 86% of leaders believe executive succession planning is an “urgent” priority, only 14% think they do it well.
So, what can cause a succession plan to fail? Common obstacles in the planning process include lack of planning beyond the C-suite, lack of an established direction for the company, making decisions based on opinion rather than data, valuation challenges and lack of a competent successor—to name a few.
Many small to mid-sized business owners want to use the sale proceeds from their business to fund personal retirement or another venture. Yet we also know that 75 to 80% of business sales fail in any given year, and less than a quarter of business owners report having a formal exit strategy.
There’s also a demographic problem: Baby Boomers are trying to exit businesses at an increasing rate, while fewer and fewer members of younger generations are in the market to purchase an existing business. In other words, there’s a building glut of business assets on the market.
You need to make sure you’re prepared to thrive in that market. This is especially true if your business is still small enough that your individual efforts as the owner comprise a significant portion of the business’ important workflow. In such cases, you aren’t selling an enterprise so much as selling a high-upside job opportunity. These kinds of sales require a lot of transition planning before a marketable business asset can be presented to prospective buyers.
You’ll also want to consider timing and taxes to maximize a sale. Abby Parsonnet, regional president for the New York metropolitan area at Webster Bank, tells Crain’s New York, “Taxes tend to be a key driver in deciding exactly when to sell or transfer a business. So, choose a time when tax rates or changing tax laws make it most advantageous to do so.”
Parsonnet and Anthony Tomaro, CPA, advise business owners looking to sell to a third party to work with a certified valuation specialist and an investment banker with industry expertise to help determine your company’s value and market standing. This can give your company a clearer idea of strengths and weaknesses to work on when developing a succession plan or exit strategy.
You might not want to sell the entire business. You might pursue another kind of asset or termination transaction. (Asset transactions could include a sale of some portion of the business’s assets. Termination transactions can include an outright liquidation.) Alternatively, you may already have identified the next owner, whether an existing business partner, family member or employee.
Unfortunately, many succession plans only incorporate those at the top, rather than involving the company as a whole. In a global study of senior executives, nearly 70% of respondents stated that a “poor grasp on how the organization works” and a “misfit with the organizational culture” were the top reasons for successor failure.
In order to ensure the success of the new leadership, all stakeholders should be involved. They include the:
Business consultant and entrepreneur, Emily Rogers, states, “Enabling the successor to understand the historical context for past decisions and the anticipated challenges that lie ahead are critical parts of the knowledge transfer. This institutional knowledge will help the candidate identify situations that will require fresh thinking and new approaches needed to overcome challenges.” Buy-in from all levels will give the successor all of the insight needed to integrate seamlessly into the company.
In a family business, developing a succession plan can also mean bringing in a professional for an outside perspective. With relationships, egos and past conflicts posing potential challenges, it’s important to have an objective voice to help develop a leadership transition plan.
If you don’t structure the transaction and transition properly, you risk reducing the value of the business or jeopardizing the entire process. This is one of the major reasons why the answer to “when should I start succession planning” is probably “now.” Don’t wait until you need to transition. Start creating a formal process while your business is successful.
Consider your personal objectives. What do you want to accomplish down the road? Are those objectives best met through continued ownership or a successful transition? Should you consider training a successor or plan for divestment? What are you most concerned about?
Any planning you begin today will certainly pay dividends down the road and help you answer important questions. Perhaps most importantly, early planning will help you or the business cope with unexpected market or life events, such as a recession, death, disability, divorce or legal problems.
Things will go a lot easier if you have the right transaction team around you. Chances are rare that you’re already an expert in such transitions, so it’s best to approach this process with an integrated team of legal, tax, accounting and financial experts. It’s also crucial that you considered key employees and involved successor owners and your family in these decisions.
There aren’t any good reasons for ignoring succession planning and exit strategies. A well-prepared business owner can use this process to set up him or herself for a future of continued success and personal satisfaction.
©All Rights Reserved. November, 2020. DailyDACTM, LLC d/b/a/ Financial PoiseTM
Michele has been a director with Financial Poise since 2012.
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