Did you know that only 30% of family-owned businesses successfully pass from the 1stgeneration to the 2ndgeneration and only 12% of family-owned businesses successfully pass from the 2ndgeneration to the 3rdgeneration? As business and estate planning attorneys, we often meet with clients that want to pass the family business down to the next generation. As consideration is given to transitioning the business to the younger generation, below are some issues to keep in mind that may help your family business avoid being on the wrong side of the above statistic.
As an owner of any business, it is always important to be thinking about a succession plan. This is even more important if your goal is to keep the business in the family rather than selling to key employees or an outright sale to third parties. It is important for the senior generation to prepare the child(ren) so they are ready to succeed when the time comes. This all starts by identifying the child(ren) that will be the next leader(s). It is best to take emotion out of it and think objectively as to who or whom of your children has the desire and skill set (or can develop the skill set) to lead the business. If you believe more than one child should take over the business, you also need to consider how those siblings interact with each other. As discussed below, it may not be necessary for all of your children to be involved, and for the sake of survival and future growth of the business, it may not be advisable.
Once you have determined who you think should take over the business, you should work with that child to develop leadership skills and understanding of the business. Further, it is important that you start to delegate responsibility and authority to the child, so that they can earn the respect of your employees. Respect of employees is even more important than normal in the case of a family transition. You worked hard to earn the respect of your employees through your actions in the day-to-day operations, and your child must be allowed to do this as well.
Another important reason to start this process early, is to keep the child engaged in the business. If the goal is to keep the business in the family, your opportunities to do so are the same as the number of children you have. Therefore, consideration should be given to starting the transition of ownership in small increments over time through bonuses/gifting or, and possibly more importantly, setting forth on paper an agreement which clearly identifies the path by which the child or children will take over full ownership.
As discussed above, objective consideration must be used to determine which child(ren) will take over the business. Once it is determined who will, then another step in setting the business up for success relates to properly setting up your estate plan. While it is possible the complete transition happens while you are alive, you must prepare for the possibility it does not. You need to think about the fair vs. equal distribution of your assets. This includes remembering that as your child develops in the business (allowing you to step back), part of the value of the business may be attributable to their hard work and effort. The best-case scenario is that you have enough other assets to balance out (as you deem fair) the interest in the business going to the child(ren) in the business. If you do not, other options may need to be explored in order to leave the business in a profitable place, whereby your selected child(ren) have the authority to run the business without being impeded by the child(ren) outside of the business. This could include creating buy-sell agreements with life insurance to fund the payout. The selected child(ren) could use the life insurance proceeds to buy out the other siblings. If life insurance is not available or adequate, another option may be to structure an option for the purchase of shares on terms and conditions that would allow the child(ren) involved with the business to facilitate the buyout over the course of time.
If your goal is to transition the business to the next generation, it is important to start thinking and acting early. The items set forth above are only some of the considerations that should be reviewed as a part of the process. The sooner you start having conversations with your family and your team of advisors (lawyers, accountants, etc.), the better chance your family business has to increase the statistic above.
For more information, please contact Mike Demerath
at
920-430-1900.
