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What to Do When There’s No Clear Successor

The lack of a clear successor shouldn’t prevent companies from engaging in succession planning.

Business-succession planning should be an orderly process of transferring ownership and management authority to a successor group. Unfortunately, a growing number of successful closely held companies have nobody ready to take over from the current generation of ownership. How do you plan for succession when there’s no clear successor?  

Getting Started 

Succession planning is, in a perfect world, the most necessary planning a company can undertake to protect value for its shareholders and their families over the long term. In practice, it’s always high on the list of to-do's but never seems to get done unless business owners and their advisors make a concerted effort. Sometimes, rudimentary succession planning may be required by lenders and outside investors in a company. This doesn’t rise to the level of strategic succession planning that’s necessary to help a successful business survive the transition from one generation to the next.   

Succession planning is the natural outgrowth of strategic planning. In addition to reviewing operational and financial goals, it needs to ask a series of hard questions such as:  

  • Should we keep or sell the business?
  • If the business is to be sold, how do we decide when we should sell? 
  • What’s the business worth? 
  • Do the senior family members or non-family senior executives want or need to fully retire, or do they merely wish to cut back on their workload?  
  • Can the owners afford to retire without causing a cash-flow crunch in the business?  
  • Who will take over the business if the owner(s) were to die or become incapacitated for an extended period of time?  

Even if there’s no clear successor in place, it’s prudent to consider several options for the succession of a successful closely held business. 

Planning for the Interim

For any succession plan, there will be a period of time between when the sale of the business is planned and executed and when the final transaction takes place. There are a number of important steps that need to be taken in this interim period. The most important is foundational estate planning. We’ve all heard horror stories about the entrepreneur or business owner who’s died without a proper estate plan in place. This can result in the unintended ownership of the business by the surviving spouse, and in some cases minor children, which could cause chaos in a business and require significant effort to rescue some value for the survivors.

Financial or Strategic Buyer  

Once the decision is made to sell the business, the owners and their advisors will need to begin the process of preparing the business for sale and finding a buyer. This process is akin to losing weight before attending your high school reunion—it doesn’t happen overnight, and the sooner you get started, the happier you’ll be when the reunion comes around! Unless key employees of the company have the desire and the financial ability to purchase the business, the owner will need to find a strategic buyer or financial buyer.

A strategic buyer could be another company in the same business or a related company that wishes to vertically integrate your client’s company into its supply chain. Strategic buyers can also be companies seeking to expand their geographical reach or product line with the purchase of your client’s company. It might even be a friendly competitor.

Financial buyers, like private-equity firms, may also wish to purchase your client’s company with an eye toward streamlining the company to increase its value for an eventual sale to a third party or public offering. 

The first “reality check” for owners should be to determine what the business is worth by preparing a professional business valuation. A valuation professional can provide a range of values for the business based on accepted methods that are free of the biases of the business owner. Valuations can be expensive, but a qualified valuation professional is worth the fee because he or she not only provides the valuation report but also can offer a wealth of information to the business owner about how similar businesses are structured and operated. 

Sale to Employees  

Planning for the sale to a key employee or group of employees can take much longer than planning for the sale to a strategic or financial buyer, because this plan takes a commitment to develop employees into business owners. It shouldn’t be left to chance but should involve the development of an overall management-succession strategy that defines the leadership positions of the company and the competencies required for each position and assesses current employees to determine if they have the skill sets to successfully run the business. In most cases, the employees will need further development or grooming. The responsibility for this grooming of the next generation should rest on the business owners. Younger employees probably won’t have the necessary business and life experience to appreciate the skills that will be necessary for them to be successful in the business.    

Professional Interim Management 

If the business owner hasn’t adequately planned for retirement and succession of the business, there may be a way to continue operations without the daily input of the owner. Professional interim management can bridge a gap caused by the death or disability of an owner until a buyer can be found for the business or until family members or key employees can take over management roles. These individuals are often retired executives with industry and management experience who are looking for a short-term engagement, or executives who’ve sold their companies and are waiting out a noncompete agreement tied to the sale of their businesses. These interim professional managers can prevent a sale of the business at fire-sale prices and can balance the liquidity needs of the owner’s family with the cash needs of the business. If the equity of the business is held in a trust, then an interim professional manager can be named as a special trustee for business matters. 

Protect the Value of the Business 

The lack of a clear successor shouldn’t prevent companies from engaging in succession planning. Succession planning based on strategic planning and the goals and objectives of the business owners and their families can protect the value of the business in the case of a death or long-term disability of an owner, and can facilitate the owner’s eventual retirement while strengthening the business for the long term.     

 

This is an adapted version of the author's original article in the September 2017 issue of Trusts & Estates.

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