The Chosen One is Ready and Backup Plans

By Maurie Cashman

Ensuring that your chosen one is willing and able to assume managerial duties and having a Plan B are the last two pieces of a family business transition plan that must be put into place. In the first five parts of this series on family business transfers, we described the obstacles to a family transfer, the advantages of limiting ownership to one child, being fair to all children, and the importance of establishing financial stability for the parents before transferring control. It is well known that only 30 percent of family-owned businesses make it through the second generation. This series was written to explain why this happens and to identify steps to lessen the odds.

Now let’s look at the last two issues: being sure your chosen one is ready, willing and able to take over the business and establishing a Backup Plan.

Readiness of the Chosen One.

The chosen child must demonstrate the capacity and willingness to run the business for at least three years before a transfer of control should take place.

How can you tell if the child is ready? Here are a few things to consider:

1. Have you, the parent, been able to take extended vacations without calling the business to check up on things?
2. Has your child received outside experience by working at least three years (preferably more) for an entity not affiliated with your business?
3. Has the child been put in charge of larger issues of growth, competitive positioning, key account management and financial management and demonstrated competence in your business?
4. Has your child been through a major economic downturn in your business and/or industry?
5. Have you prepared the child for future business risks as you would any key employee: with training, increasing responsibility and experiences?.
6. Have you enlisted the assistance of advisors who can support the child through the transition process? Are they ready to step in if something happens to you?

Having a Backup Plan

The only thing that is certain is uncertainty. This is true of an intergenerational business transfer. Having a backup plan is critical. Why do you need a backup plan?

1. Even if your child is able to purchase your business, you may not be able to provide assets of equal value to your other children. Remember that fairness is a critical component of a successful transfer.
2. If you die or become incapacitated before the transition is complete, your estate plan must effect the transfer of the business to the child(ren) of your choice.
3. Some businesses become too complicated for any one person to manage. No child can be expected to handle this on their own. If the child is not prepared to manage the complexity or to enlist the necessary outside help a better alternative is to sell to a third party or to continue to own the company and hire professional management
4. If the business has increased in value to the point that a buyout by a child is financially unfeasible, you must be prepared to offer the business for sale to a third party.
5. The business-active child may show that they do not possess the drive or interest to carry the business. Their personal circumstances may change such as marriage, divorce, dependent children or parents-in-law, health issues or simply their desire to continue to own and operate the business. I have personally seen situations where neither the child or the parent fully understood the personal and financial sacrifices necessary to continue the success of the business. Again, a sale to a third party may be a better option.
6. Sometimes substantial differences in management style and practices become so great that the transfer cannot be completed. If the transfer fasil, the business-active child’s ownership interest must be reacquired by the company at the lowest defensible price via a buy-back agreement between the company and children.

Conclusion

To increase your chance of successfully completing an intra-family transfer you must focus on these key components:

• Understand the parent’s objectives;
• Choose one child as successor in most cases;
• Be fair to all children;
• Ensure the financial stability of the parents;
• The child must demonstrate ability and willingness to run the business;
• Create a clear backup plan