As a small business owner, you may be so immersed in the day-to-day functions of your business that you haven’t yet put much thought into the day you leave it behind. In fact, for many business owners, the thought of bringing their time to a close can be daunting. Yet planning for your departure holds immense significance for your future well-being.
What Is Succession Planning?
Succession planning is the process of preparing for the transition of ownership and leadership in your business when you move on.
Whether you’re hoping to pass your family-owned business to the next generation, cultivate internal talent, or sell the business to a third party, we believe developing a comprehensive succession plan is essential to help ensure a smooth transition and support your business’s long-term viability and prosperity.
But that isn’t the only important thing about succession planning. For many owners, most of their assets are held in their business. To help set yourself up for success in your next stage of life and to provide for your heirs, it’s essential to carefully think through how this significant portion of your lifetime wealth will be handled.
Without an adequate plan for next-generation leadership and funding, your business may falter or even fail. Without proper financial planning, you may not be able to have the retirement lifestyle you want, have the funds you need to reach other life goals, or be able to leave the legacy you wish to.
The Importance of Early Succession Planning
When should you start thinking about succession planning? If you own a business, that time is now. Making a plan and finding or preparing the right people to take over the reins is not quick. You want to be prepared, even if you’re not planning to leave soon, because unexpected events and circumstances can move up your timeline.
There’s another reason for starting now. Small business owners have collectively lost billions of dollars due to a lack of early succession planning. Many are owned and managed by a founder or sole proprietor. As the founder begins to wind down their involvement, the business may start to wind down, too, losing value as it does.
That doesn’t need to happen. A proactive exit plan focuses on building up the company’s value to position it for a profitable sale or continuation without you. The more time you leave for this plan to work, the more options you have for strategies to increase your business’s value and your personal wealth.
Some owners realize during the succession planning process that, with growth plans in place and new leadership prepared to take over, they can begin to enjoy more personal freedom. Succession planning may motivate you to retire earlier or to branch out and add new interests and goals to your life.
Key Components of a Comprehensive Succession Plan
A comprehensive succession plan has three major elements.
Business Valuation
To plan effectively, you must first know what your business is worth now. There are many ways to calculate the value of a business. One simple way is to subtract liabilities from assets. However, other methods generally provide a more complete and accurate assessment of your business’ value and potential.
Some of the most common business valuation methods include book value, discounted cash flow analysis, market capitalization, enterprise value, and earnings. Each method has pros and cons, and the best one for your business will depend on your industry, growth stage, size, financial circumstances, and more. A professional valuation can be a worthwhile investment, and your financial advisor can help guide you through the process.
Once you know where you’re starting from, you can consider strategies to enhance the business value. There are nearly as many strategies as businesses because, even once you choose an overall approach, it must be tailored to your company’s specific operations and circumstances.
Key strategies include:
- Improving efficiency to cut costs
- Growing and diversifying your customer base through marketing and sales initiatives
- Making capital investments that enable you to produce more
- Developing a strong management team
- Employing credit strategically to take advantage of growth opportunities
Successor Identification and Development
Selecting the right successor is a critical part of your succession plan. First, you’ll need to define what you want in a successor. You’ll probably consider several criteria, which could include:
- Leadership skills
- Business management skills
- Communication skills
- Industry experience
- Understanding of your business’ operations and goals
- Cultural fit
- Passion
- Creativity and critical thinking
Your chosen successor or successors will likely need training and/or mentorship to be fully ready to fulfill your role when the time comes. If you have multiple successors, you can create individualized plans based on their specific needs. These preparations may include:
- Formal or informal mentorship – pairing potential successors with experienced leaders who can offer knowledge and guidance
- Leadership development workshops
- Exposure to different departments and roles to broaden understanding of the business
- Involvement in strategic initiatives
- Regular feedback and reviews
Legal and Financial Structuring
Finally, you will want to optimize your succession plan’s legal and financial structure.
If your business is a partnership, family-held private corporation, sole proprietorship, or Limited-liability corporation, you should establish a buy-sell agreement. This contract legally stipulates how your share of the business will be reassigned when you die, retire, or leave the business. It usually mandates that your shares be sold to the business (a redemption agreement) or the other owners (a cross-purchase agreement). You can also name an employee as your successor and future owner.
A buy-sell agreement can help:
- Ensure a smooth transition of ownership
- Maintain business stability
- Prevent outsiders from gaining control of the company
- Prevent disputes over control
The specific contents of a buy-sell agreement depend on your state’s regulations and your wishes.
You should also include strategies to protect company and owner assets from excess tax liability in your succession plan. You could restructure the company, gift shares of the business to family members under the gift tax exclusion or structure your buy-sell agreement to lower tax liability for your successors. Your financial advisor or tax advisor can assist you in finding effective ways to minimize capital gains and other tax liabilities.
Start Early with Carson Wealth to Help
Succession planning can play a critical role in protecting the continuity of your business, ensuring a comfortable retirement, and optimizing your legacy. An early start on proactive planning can make all the difference in reaching these goals. At Carson Wealth, we are committed to supporting business owners like you through the succession planning process, helping make it easier and more effective. We recommend looking through our Business Succession Planning Checklist and then giving us a call to help you develop a personalized solution.
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