You Won’t Live Forever, but Your Business May

Johann Sebastian Bach served in the courts of the nobility and for the church in Leipzig. He wrote his music to meet the needs of those who hired him. Little of his music was published during his lifetime, and he likely had little expectation that his music would survive him.

Some of Bach’s innovations, such as tempered tuning and the Well-Tempered Clavier,[1] remained popular. After his death, his children had little interest in preserving his manuscripts as they embarked on their own careers. Bach’s music was not performed frequently after his death until Felix Mendelssohn[2] conducted a performance of Bach’s St. Matthew Passion on March 11, 1829.

That 1829 performance sparked a renewed interest in Bach’s music. Nearly two hundred fifty years after his death, Bach’s music is performed daily. His name is popularly known not just among musicians, but also by the masses.

Unlike Bach, most business owners expect that their businesses will survive them. They want the business to be a nest egg for their family for generations to come. Careful business succession planning can make the difference between a business becoming multi-generational family operation and failing after becoming mired in in-fighting or disputes among heirs.

Planning for Ownership Succession

Most business succession planning is focused on ownership succession. The goal in any ownership succession should be for the business operations to continue with as few complications as possible.

A good ownership succession plan requires consideration of the following areas:

1.      Knowledge and Skill Set Continuity. Many small businesses are highly dependent upon the knowledge and skills of the owner. It is critical that the successors develop the necessary education, knowledge, and skills to facilitate a seamless ownership transition.  Future owners should be involved major decisions so they understand business dynamics before they assume ownership.

 2.      Staff Continuity. Employees are the backbone of many businesses. Retaining employees after a change of ownership can be critical. Succession plans should include strategies to maintain employee relationships

Setting expectations of key employees regarding their futures with the company is important. Economic incentives, such as retention bonuses (bonuses paid if an employee remains with the company for a period of time) or phantom stock plans (bonus paid as if a non-owner has an ownership interest) also may encourage employees to consider the longer-term business goals.

 3.      Revenue Continuity. Business succession plans also should include strategies to help assure continuation of business revenue. Future owners should be given an opportunity to develop relationships with key customers so they are prepared when the transition occurs. Long-term contracts also can be helpful in providing customers an opportunity to become comfortable with new owners before the contract comes up for renewal.

 4.      Key Contracts. Business debt and contracts should be evaluated to assure that the transition does not result in a default. If the business has contracts which require continued involvement in the business by a “key person,” those should be addressed. If the successor owner is a family member, lenders frequently will permit a transition of “key person.”

 5.      Owner Financial Considerations. Owners should work with their accountants or financial planners to assure that they have sufficient income to support living expenses of the owner and the owner’s spouse after the transition. Taxes are another concern in structuring an ownership transition. Sometimes, the most favorable tax strategy might include transfer partial or full ownership during the owner’s lifetime.

6.      Potential obstacles to Business Continuity. A succession plan should address circumstances which might pose obstacles to a successful ownership transition. Previously mentioned concerns should minimize challenges from employees, customers, and taxing authorities.

However, for a family business, differing goals can challenge a business’ continuity. For instance, some children might be interested in business continuity but other might prefer to sell the business and have cash. Or, the business might get tied up in the owner’s divorce proceedings.

Without planning, such circumstances can result in protracted litigation which is costly and distracts from business operations. As an example, key person insurance, which pays a substantial amount to the business upon the owner’s death can provide the cash necessary to buy out those preferring to sell. Prenuptial agreements and buy-sell agreements also can be used to help prevent such disputes.

 7.      Management Succession. A change in ownership may or may not include a change in management. If the future owner is the owner’s child and already is involved in management, there might not be a change. However, if the owner is also the manager, then the plan should include a strategy for grooming the new management. This strategy can include placing the future owner on the board of directors or including independent, third-party directors on the board to provide continuity unrelated to ownership.

 Planning for Growth

Good business succession planning involves more than just ownership transition planning. Succession planning also should include a plan for training and development of employees combined with a pathway for them to assume greater responsibility as they grow. The succession planning should include a plan to address the business’ needs as it grows.

Senior management should identify and nurture those who will be the company’s leaders in the future. However, employee development is important for employees at all levels. Investment in employees who may never be managers can result in loyal support of business objectives and can be critical in a management transition.

With attention to their needs, employees can be loyal and critical to a business’ success and long-term continuity. Without a plan for employees’ development and growth, a business will lack the long-term vision and sustainability most owners desire. The business may become little more than a training ground for employees who leave when they reach a dead end in their quest for new opportunities. The business is likely to lose valuable talent, frequently to competitors, as well as loss of business focus as new employees must be hired and trained.

Planning for the Unexpected

Business succession planning is not limited to planned events. It also involves addressing who will take over if key personnel are unexpectedly unable to perform their jobs on a temporary or permanent basis.

Many small businesses are completely dependent upon the knowledge and skills of their owners. The owner also may be the only individual in possession of critical knowledge or the only person can sign checks or enter into contracts necessary to keep the business operating.

Certainly, it is important that a business closely monitor who has access to information or check-signing authorization. However, best practices dictate that at least two individuals have access to business-critical information and authority so that the business does not grind to a halt if the owner is unavailable.

Planning for the unexpected is not limited to planning for disability or death of an owner. Employees can be cross-trained to fill in for each other on vacations or sick days, providing a valuable safeguard should an employee resign or become disabled.

Cross training and providing multiple individuals with access to necessary data also can be good for business. This planning can protect against talent “silos,” where employees engage in “data hoarding,” which makes it challenging to terminate their employment even for misconduct.

When to Create a Succession Plan

It is never too soon to create a business succession plan as part of business continuity planning. At a minimum, every business should have a plan to address its needs for growth and unexpected changes. Since life is uncertain, best practices include a plan for management and ownership succession, also.

© 2018 by Elizabeth A. Whitman

DISCLAIMER: The content of this blog is for informational purposes only and does not provide legal advice to any person. No one should take any action regarding the information contained in this blog without first seeking the advice of an attorney. Neither reading this blog nor communication with Whitman Legal Solutions, LLC or Elizabeth A. Whitman creates an attorney-client relationship. No attorney-client relationship will exist with Whitman Legal Solutions, LLC or any attorney affiliated with it unless and until a written contract is signed by all parties and any conditions in such contract are fully satisfied.

[1] The Well-Tempered Clavier is a collection of musical compositions J.S. Bach wrote for a keyboard instrument with tempered tuning, which was revolutionary at the time. See Whitman Legal Solutions previous article Bach’s Legacy and How and Outside General Counsel Can Help Your Business Sustainability for an explanation of tempered tuning and about the Bach family legacy in general.

[2] Felix Mendelssohn is best known as a 19th century composer of the romantic period in classical music. However, he also was an active conductor.