how to prepare your business for succession.pdf

7/29/2019 how to prepare your business for succession.pdf

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SMA LL BUSINESS

Here's five steps topassing on your business

By D onald Jay Korn &LaToyaM. SmithJOHNSON SECURITYTEAM MEMBERS

DOMINICKCARID i(L) , WALEED COPE(C), JESSICA ANDCHARLES JOHNSONWORK TO SUSTAINTHE FAMILY BUSI-NESS FOR FUTURE

GENERATIONS.


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WHEN THEIR FATHER DIED IN 2008,Jessica and Charles Johnson Jr. were leftwith the question of whether to makepayroll or close the doors o f their fam ily-owned business. The security firm hadbeen started by their grandp arents nearly five decadesago in the Bronx, New York. "We could have disbandedthe company and sold the assets," says Charles Jr., whois a shareholder at Johnson Security Bureau Inc. "Wewould have been OK. However, we knew that manyfamilies were depe nding o n us for em ploym ent, so wechose to keep it going ."Their grandfather a nd Johnson S ecurity founder, Wilbert, died abruptly witho ut

leaving a succession plan in plac e for his son Charles Sr. or widow, Dorothy, whoran the comp any u ntil she retired in 2000. And, although C harles Sr. taught hischildren ho w to schedule em ployees and handle payroll, they too were left withouta concrete plan on how to move the comp any forward after his health declinedwithin three months of his cancer diagnosis.

"Our father left us clues, similar to a scavenger hun t map , on how to ru n th ebusiness. We had an abundance of paperwork that we had to dig through to findthe answers we needed," says Jessica. "We spent a lot of time on the Internetand calling various agencies to unde rstand some of the nu ances of the businessoperations. I would have preferred it if he ha d left m ore detailed instructions, an'owner's man ual' if you will, or a GPS to run the business. That would have mad ethings much easier." Jessica, 38, left her pharmaceutical sales position to run thecompany full time along with her brother, Charles Jr., 37, in January of 2009. Shenow serves as president and majority ow ner.

Losing their father made the siblings realize how important it is to have aplan in place, even though neither of them has children. "You know what theysay, the first generation builds it, the s econd generatio n grows it, and th e thirdgeneration loses it. We're trying to avoid being that generation that loses ourfamily business," says Jessica.

Indeed, reports show that only about 13 % of family busin esses surviv e the thirdgeneration. Most experts attribute this low survival rate to the failure of puttingin place a strategic succession plan. Leadership transition is a pivotal point in thelife of a comp any that can sometimes mak e or break it.As the founder, you m ayplan to exit the business at retirement, but what ha ppen s if the business need s tobe transferred sooner because of illness, disability, or death ? Wh at if one of thos ecircumstances occurs and business equity is insufficient to fund your retirementor provide for your needs? These are questions entrepre neurs need to ask if theywant to keep their businesses alive.The Johnsons, graduates of Goldman Sachs' 10,000 Small Businesses program, arefortunate. Not only h as the firm survived, it generated nearly $2million in reve nues for2012. "Our goal is to hit $3million in 2013 and to reach $5mulion within three years.To meet those targets, we're thinking abo ut expand ing into training and consulting."

As with th e Johnson family, entrepreneurs in the early stages of business generallyfocus their energies on building capital, growing their bu siness, and just surviving,so it's not uncom mon for succession planning to be an afterthought. Even if thefounder has don e a great job of growing the com pany and m aking sure it thrives,measures need to be put in place to ensure that the company survives and businessflourishes long after th e found er is gone. Chris Gandy, vice presid ent of sales forWater Tower Financial Partners, a MassMu tual general ag ency in Chicago, offersthe following five tips to ensure a sm ooth leadership succession.

Begin W ith theEnd in Mind"You need to start with an exitstrategy," says Gandy. "Most busi-nesses have no succession pianbecause they go into i t not k now-ing if the business was ever goingto go anywhere, so once they'rein the middie of it there's no wayto get out." Gandy suggests thatbefore you start with a valuation ofthe business, set goais, and discussrevenues, you shouid taik about th econtinuation of the business. Howare you going to grow it, buiid it,multiply it? Are you going to seli it,

liquidate it, or keep it in the fannily?The lack o f succession p l a n -n ing in the previous genera t ionspurred the Johnson sib i ings totake act ion . "We decided to docu -ment the company's operations,"Charies Jr says, "rather than relyon orai knowiedge. Jessica and Iget togeth er periodicaiiy to discussspecific top ics, such as payroll andtaxes. We record these conversa-tions so the inform ation is available.In case someone else takes over thecompany, these records wiii providea guide on how to run it."

Bu ild Your TeamThere are a series of peoplethat need to be involved in theprocess, says Gandy. "You needan accountan t, financial planner, abanker and definitely an attorneyto make sure that the structureof the business is designed cor-rectly to meet your goals. Manypeopie get into business with theidea that I'm going to grow thebusiness and then I'm going todecide what kind of entity we'regoing to be. You should be askingyourseif. 'How are you designedfrom a tax structure?'" Use yournetwork to identify professionalsto add to your team. "Referralis the best way to buiid yourdatabase of professionals. Go


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SMALL BUSINESS

to other businesses like yours and find out who they'reworking with. Your Chambers of Commerce is also a usefulresource in finding key players."Jessica credits her team of advisers, which includes tw oattorneys and an accountant, with helping to transfer the

company's shares to herself state regulations involved and certain licenses to maintain,"she says, "It took a while, and there was some trial and error,but we are now the ones who own and manage JohnsonSecurity Bureau,"

Assess Familyand Internal CandidatesFind someone who has an interest in the busi-ness, advises Gandy. "I recommend you set up afamily meeting and find out who those peopleare. The worst thing you can do is to try to have asuccession plan with someone who doesn't wantto be in the business. In that meeting, find outwhat those family members want for the business.What does it mean for the family? What kind oflegacy do they want for this business?" Gandyalso recommends setting up a board-appointedsearch committee that could include staff repre-sentation, an accountant, and an attorney, "Justbecause you're family doesn't mean that you cantake shortcuts. You want to make sure that youhave all the right people in place and that it's legaland binding," he adds.

To identify a key person who is not family, Gandysuggests that you look for leaders within theorganization. These are people who play mu ltipleroles and have a vision for where they want thebusiness to go once you're gone.While keeping their eye on a possible futuregeneration, the Johnsons have started discussionswith their team of advisers about a succession planfor right now. One of the advisers on the team,Andrew Karlen of the law firm Karlen & Stolzar inWhite Plains, New York, says that a family businesswith co-owners generally should have a buy-sellagreement in place. "A buy-sell agreement speci-fies events, called 'trigger events,' such as death,disability, bankruptcy, or divorce, wh ich will requireor allow the sale of the affected owner's interest tothe other owner or the company," he says.But they are also keeping their eyes open tooutside ownership in the event that neither ofthem ever has children. "At this time , we are try-ing to identify the skill sets we would like the nextexecutives to have," says Jessica, "Ideally we wouldlike a family member or internal candidate to takeover the reins. Nonetheless, we realize tha t as thesecurity industry evolves, an outside candidatemay be more appropriate. Our advisers and col-leagues are helping us understand the intricaciesof preparing for a major management or evenownership shift. We want to find someone whois comm itted to the legacy and values of Dorothyand W ilbert Johnson."

Protect Your AssetsBesides a fair valuation, a buy-sell agreement should have somemeans of funding the purchase from the former owner.Often,life insurance is used to cover the possibility of an owner's death."We have been looking into key-person insurance," Jessica says.Similarly, disability insurance m ight fund a buyout if one of theowners is unable to keep working for the company. In case anowner retires or just leaves for greener pastures, the purchasemight be made over time, from future company revenues. To coversuch a contingency, it's important that the departing owner isconfident that the company will remain in good hands, generatingenough cash flow to eventually close the deal.

D evelop ^ ^Success ion p lann ing doesn^ena w i th an es ta te p lan andlife insurance. I t inc ludes t ran sferr ing the t rus t , respect , andgoodwi l l that has bu i l t up over the years .Thomas Wacht o f Whi te P la ins . Johnson Secur i ty 's o therat to rney , notes that a buy-se l l agreement should have someprov is ion for an accurate va luat ion of the bus iness in teresttha t wi l l be bou ght or sold. "An op in ion f rom a qual i f ied expertcan cost thousands of do l lars ," he says, "but that cou ld bewor thwh i le . " Karlen adds, "Most bus iness owners do n ' t knowwhat the ir bus iness is worth today le t a lone what i t w i l l bewo r th a t some unspec i f ied fu tu re t ime. There are numerousmethods of address ing va luat ion, inc lud ing requir ing that , a tth e t ime of the required or permit ted buyout, the va lue bede te rm ined by app ly ing a spec i f ied fo rmu la ( fo r exam p le , amul t ip le o f earn ings), or obta in ing an appra isa l i f the part iescanno t ag ree upon the price,""With a reasonable va luat ion, both s ides can be t reatedfairly and tax p rob lems may be avo ided . " says Wacht, TheInterna l Revenue Serv ice tends to look hard a t fami ly bus i -ness buy-se l ls , a ler t for va luat ion s des ign ed to reduce taxes.The Johnsons have d iscussed a buy-se l l agreement, "Werecent ly met to ta lk through the spec i f ics o f our proposedagreement , " Jessica says. "The next step is for us to review ou rgoals and the in fo rma t ion we d iscussed w i th ou r a t to rneysand ou r accoun t ing team. Ideal ly , the buy-se l l agreem ent wi l lbe f in ished soon," BE


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