Small Business Questions & Answers


Filed under Running Your Business

Ask About Succession -- Part One

by Dithering Dad | May 24, 2012

Subject :Getting Out of Business

Dear Toolkit,

I'm the founder of a pretty good-sized business I built up myself over many, many years. My wife is on my case to retire and let one or more of our kids take over. Any helpful hints on how to do this painlessly?


Dithering Dad

Dear Dithering Dad,

Hints, yes. Painless pointers, no. Pain is inevitable but, like the athletes boast--no pain, no gain! When a small business is a key component of family wealth, the owner usually has a strong desire to perpetuate it in one form or another. But perpetuating the business through an orderly succession to family members or other insiders is the ultimate management challenge. The owner must deal with business, family, tax, and estate issues when planning for the succession of both management and ownership.

Any transition must preserve the continuity of leadership and it is most important that the succession of ownership and management be perceived as a process rather than an event. Much as some successors might hope otherwise, it's not a matter of deciding to retire at 4:00 p.m. next Tuesday at which time Junior will take the reins or your partner, Charlie, will become the boss, while you'll fade into oblivion (or more likely onto the first tee). Succession is a process requiring planning, teamwork, and constant re-evaluation.

Planning for succession in a family business is a special situation of the first order. So infrequently is it done successfully that barely 30 percent of family businesses survive into the second generation and fewer than 15 percent of them endure into the third. This is a sad fact not only for the families but for the nation's economic health, since much of our economy is made up of small, family-owned businesses. If the business of succession is not done with careful planning, it might be lead to disastrous results by default.

A typical succession plan has two elements which should be considered separately: (1) the transfer of power, whereby control over the business's operation is transferred to those best suited to exercising it and (2) the transfer of assets, whereby the wealth concentrated in the business is transferred to designated family members, who may be a different or larger group than the person or persons who will be assuming power. The former is an art, the latter a science. (We'll discuss the former here and leave the latter to the estate planners.)

Change, like time, marches on, but the results can be less than harmonious when family needs differ from the needs of the business. The family business environment is, of course, impacted by all the issues faced by any type of business. Technology, laws, climate, competitors, economic trends, and unrelated (non-family) employees are among these influences.

In addition, the family business environment is influenced by anything that influences the family itself, such as the relative health of its members, their various interests and skill levels, their individual marital status, and the level of business participation of each individual.

Managing a transfer of power while balancing the internal and external environmental influences of the business is a juggling act at best. If the Illustrious Founder is somewhat less than willing to give up control and/or the Designated Successor is not well prepared to accept it, the transfer can be a challenge for even the most skilled psychiatric social worker.

Fortunately in this enlightened day and age, most family business people are professionals who manage their companies to compete effectively in our global marketplace. They don't have time to dwell on petty jealousies and family squabbles.

The major issues confronting a family business owner seeking to transfer power to successors include selecting a successor, resolving the inevitable intergenerational conflicts, reconciling the different agendas and goals, training the candidate and timing the transition.

Selecting a successor is often a decision by default. Most family businesses will have one member of the next generation who is more active, qualified, and interested in the business than his or her siblings. Frequently, the founder has already likely spent a great deal of time grooming the successor-apparent or the successor has soaked up much of the necessary knowledge on his or her own over the years. The challenges in this scenario come in the form of finding ways to assure equitable treatment for the non-participating family members, be they spouse or siblings.

If succession has not already been determined by interest, proximity, or birth order, a group effort in choosing and grooming an individual is one way to proceed. Key employees who are not family members can often be recruited for a transition team. If your valued, long-time key employees can participate in the selection and initiation of a successor, the entire team will benefit over the long run. Involving key employees is a good way to retain them, and retaining them is essential for continuity and credibility in dealing with outside sources such as banks and suppliers.

If there is competition between your children for the position, a decision to divide the power between them is not likely to be successful. Ownership may be divided but management should be clearly delineated. Often ownership can be split into passive and active shares, giving the active successor the necessary control over the business but providing an equal economic benefit to the inactive shareholders. In some cases the business can be divided along functional lines, so that different family members can assume control over well-defined functions or business units.

Conflict between the founder of a family business and his or her successor is a matter of degree. It's normal for some intergenerational conflict to exist. In the worst cases, a "sandwich generation" effect may be visited upon the middle layer in a family business. We'll continue the discussion of succession strategies in Parts Two and Three of this series.