.Passing the Baton of Your Family Business

Transferring your family business to the next generation takes planning.

W. Randy Jones, the founder of Worth Magazine and author of The Richest Man in Town, writes that “ninety-four of the 100 Richest Men [and Women!] in Town have the title ‘founder’ in their biography.” Only 10 percent of these folks have taken their companies public, often citing Wall Street’s short-term thinking as the key reason. This means that of the 94 individuals whose wealth has come from being their own boss, roughly 85 of them became wealthy through the day-to-day operation of their companies rather than engaging in Wall Street’s shenanigans.

I work with Main Street business owners, not Fortune 500 company founders, but small-scale entrepreneurs often share a similar passion: they chose to build something and maintain it at a high degree of productivity and success rather than sell it to the highest bidder and retire. I really admire people who subscribe to this model. They aren’t just personally invested in their businesses. They tend to be personally invested in their communities, as well.

For example, a local printing company owner I know has been in the business for twenty years. It’s clear that his reputation in the community is important to him. He is committed to the quality of his work, and he wants to build a long-term relationship with his customers. He truly engages with them, seeking win-win solutions to the challenges we all face in today’s economic climate. He also makes time to serve on a few boards. We all know someone like him: a CPA who sponsors a children’s soccer team or a plumber who devotes time on the weekends volunteering with Habitat for Humanity.

People committed to their community and company are invariably dedicated to their families, too. They don’t equate success with the amount of money they’ve made. Their reward is measured in the number of lives they’ve touched. In other words, their reward comes from establishing and leaving a lasting legacy.

Unfortunately, fewer than 30 percent of family-owned businesses survive a transition between generations. Established customers may remain loyal when the founder passes the baton, but the heirs drop it along the way. The two most often-cited reasons for failure of this transition are unexpected tax consequences and an ill-prepared family. Both of these challenges can be met if the founder engages upon an early, thorough succession plan.

Succession planning should start five to ten years prior to the intended transition. I recommend assembling a roundtable of advisors. At a minimum, the business owner will need a CPA, a business attorney, and a financial advisor to help design the plan. He or she may also require input from an estate-planning attorney, a valuation expert, a life insurance professional, a family meeting facilitator, or a therapist specializing in family money issues.

These last two might prove vital, since a successful plan frequently involves the entire immediate family. Discussions about the eventual retirement and death of the grantor generation will open doors to the deep feelings, values, and goals of each individual involved — both founders and inheritors. There may be painful conversations and difficult misunderstandings, but it is infinitely better to bring everyone’s concerns out into the open prior to the transition, rather than springing a surprise on unwitting family members.

When strategizing about the transition, it is important to separate “management” from “ownership.” I worked with a family where only one of three siblings had interest in maintaining the family business. For them, it made sense to leave the majority of the business to that sibling, allocating larger portions of the remaining estate to siblings who did not participate in the business. Of course, if the business is the primary asset of value being transitioned, and one wants to leave each child assets of equal value, this approach won’t work.

If you can separate management and ownership, then the child who runs the business will receive a salary (like any manager would) and each child will receive a share of profits as owners. And if the business is eventually sold, each child will benefit equally. There are many ins and outs to such planning, so a round table of advisors is critical.

The final step is training the successor(s) and preparing the company for succession. By the time they are ready to transition to the next generation, most family business owners have spent the better part of their lifetimes working and building their businesses. Their children can’t possibly know the intricacies of the day-to-day operations in the same way. I suggest an arrangement where the child shadows the founding parent for up to a year, followed by a period when the parent shadows the child, remaining available for backup.

Successors won’t bring their parents’ skills to the table, so a smooth transition might also require management changes to compensate for weaknesses and capitalize on the child’s strengths. One gentleman I know worked in his family’s architecture firm as a child. He became an architect, got an MBA, studied finance, and became a CPA. When he took over his father’s company, his finance background allowed him to manage the company assets more skillfully than his father ever did, but he couldn’t match his father’s negotiating and job-winning skills. Fortunately, he found a manager with incredible sales acumen when his Dad was ready to retire.

Every business is unique, so the solutions you, your family, and your round table of advisors devise to transition your business to the next generation will be unique as well. Although it can be hard, emotionally challenging work, taking the time to plan adequately for succession will help sustain the legacy you spent a lifetime building.

Transferring a successful company to the next generation takes planning.

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