Your 7-Step Plan for Creating Chaos in Your Family Business
This article was originally published by Warner Norcross + Judd and has been republished with consent.
Most business owners know that proper succession planning can help keep their business running strong into the next generation. They understand the importance of creating a plan to prepare heirs and key employees to run the business when it is time. But sometimes owners are busy and fail to plan for the future of their business in a timely manner.
Executing an unplanned transition when the family business leader becomes incapacitated or passes can be painful for the family (at an already difficult time) and potentially damaging for the business. Families in this situation often engage Warner to help them create a path forward for the business.
We think it makes sense to offer some lessons learned by these families as a resource for current business owners. Instead of offering a typical “best practices” list, we took a different approach. Here are some “worst practices” that will surely wreak chaos in your family business after you pass – from families who have experienced an unplanned business transition
7 Ways to Create Chaos in the Family Business After Your Death
- Don’t document your good intentions. Think about succession planning for years, but don’t document any of your thoughts or planning ideas for the family. Or, to make it really interesting, keep jotting down ideas on various notepads, napkins or sticky notes over the years, creating obvious contradictions between the ideas.
- Leave business ownership to your family but without a skilled operator in charge of it. This spreads chaos over the widest possible range after your death, affecting family members, employees, customers, suppliers and professional advisors when the battle lines are drawn between children and possibly your spouse as they wrestle for control of the company while dealing with their grief.
- Pick one winner. Leave both the business equity and control to one child that seems reasonably responsible and ask them to do the “right” thing for their siblings and remaining parent. For maximum family strife, the “responsible” child should be married to a spouse who is greedy or difficult to deal with.
- Don’t do any estate or tax planning. This way your heirs will not only struggle with the above issues but will also inherit a huge tax bill that they were not expecting and will have to cover by taking out loans or by selling the business.
- Micro-manage future leaders. Allowing your children or other key employees to manage portions of the business will allow a leader or group of leaders to naturally emerge, whereas micro-managing those heirs and other key employees in their current positions will ensure that they won’t learn how to lead, make decisions or accept responsibility.
- Don’t discuss the future of the family business. Avoiding these conversations ensures that you won’t know whether your heirs or current managers actually want to run the business and allows you to create a pressing sense of obligation for the next generation to work in or run the business. Even better, this sense of obligation can create next generation business leaders who are resentful or who lack the passion that you brought to running the business.
- Keep your professional advisors under wraps. Failure to introduce your professional team to your children can create havoc for your business because neither of these groups will be prepared to handle the inevitable difficult discussions that ensue during a transition. Plus, your children will not know and may not trust your attorney, CPA, investment advisor or other professional advisors, adding even more obstacles to this transition.
Having No Plan Can Also Cause Chaos in Your Business
Naturally, we wouldn’t expect you to do any of the things on this list on purpose to cause disruption and bad feelings in your family. But sometimes, not planning for the future can have the same impact on your family as if you had intentionally tried to cause chaos, leaving loved ones in a less than desirable position down the road should something happen to you.
Many of the steps involved in successfully transitioning a family business can take years, even decades to complete, so it is better to start planning sooner rather than later. Contact your Warner attorney or Bill Lentine at wlentine@wnj.com or at 248.784.5061 to begin planning for the eventual transition or sale of your family business.
Exit Planning Series – Are you Ready to Make an Ownership Transition?
This article was written and originally published by the DWH and has been republished with consent.
DWH and Adamy Valuation began a series called “Tactical Tuesdays” in 2020 in response to the impact of the COVID-19 pandemic on our clients and business partners. The goal of “Tactical Tuesdays” was to provide up-to-date information that would allow leaders to make tactical decisions to run their business. As COVID (hopefully) winds down, the Tactical Tuesdays focus is shifting to address longer-term issues. Over the next several weeks, DWH and Adamy will be publishing a series of blog posts around exit planning for business owners.
A transition of company ownership, whether internal or external, is a complex process. Before attempting to sell a business, owners should make sure they are ready. This means determining their desired outcome, developing transition thinking, understanding options, and assembling a solid advisory team.
Determine Your Desired Outcome
For an owner to successfully transition ownership of their company, they must first understand their desired outcome. Outcome considerations include:
- For family-owned businesses, is there a desire to keep the business in the family?
- Does the owner want to retire, stay involved in the business, or do something else entirely?
- What is the desired timing for a transition?
- How prepared is the management team or the successor generation to take over the business?
- What is the merger and acquisition (“M&A”) environment in the industry?
- How much does the owner expect to make?
The desired outcomes will drive the preparation and structure of a transition and transaction.
Develop Transition Thinking
Transition thinking involves two main ideas:
- The role of an owner – Owners should focus on maximizing the value of the business through optimizing cash flow, minimizing risk, and putting the best possible leaders in place to run the business. The owner should discontinue any activities that do not maximize the value of the business.
- Understand what creates value – Business owners should understand how investors value their business and what actions they can take to increase the value. Investors are interested in the strength and sustainability of the company’s future cash flows. Investors will also adjust the amount they are willing to pay based on the risks a business faces, such as expiring customer contracts or high turnover in key positions.
Understand Transaction Options
There are many options available to owners and we will cover this topic in a future blog post.
Assemble a Solid Advisory Team
Owners must have an experienced team of advisors to support them through the transition and transaction. Steve Whitteberry of Invictus M&A says, “Owners should invest the time to find qualified advisors including M&A attorneys, CPAs with transaction experience, and an experienced investment banker. A strong team is a key to a successful transaction.” Members of this team include:
Succession/Transition Advisor – This advisor supports the business owner by developing a transition plan, which includes the identification of opportunities to maximize the business’ value, and then helps facilitate execution of the plan.
M & A Attorney – Transactions can have a significant amount of legal complexity, so engage with an attorney that specializes in M&A activity in your industry and can support your team throughout the process.
Certified Public Accountant (CPA) – Many owners do not consider the impact of taxes on the proceeds from a transaction until it is too late. Have a CPA with M&A experience get involved early in the process.
Wealth Advisor – The wealth advisor works with the owner to develop a plan for managing the proceeds of the sale to achieve ownership goals.
Estate Attorney – In conjunction with the wealth advisor and CPA, an estate attorney can help an owner and their family setup a structure that minimizes taxes and protects wealth for the current and future generations. (We will cover estate planning in-depth in a future article.)
Investment Banker – The investment banker will help prepare offering documents, bring the company to market, vet potential buyers, and guide the company through the sale process.
Valuation Advisor – Many transactions fall apart due to misalignment in the purchase price. The valuation advisor provides owners with a comprehensive valuation of their company based on the company’s performance, asset valuation, and/or market comparisons. (We will cover business valuation methods in next week’s article.)
Key Takeaways
- Determine the desired outcome of a transition.
- Cultivate a mindset of transition thinking from an owner’s point of view; focus on maximizing the value of the business.
- Owners should understand the value of their business and the ways to maximize it; increased cash flow and minimized risks.
- Owners should have an experienced team of advisors to assist in the transition.
Additional Reading
- Transition Before Transaction in Family Business – DWH | The Importance of Transition Before Transaction | Blog Post (dwhcorp.com)
- Value Driver One – Value Driver One: Higher Profits and Cash Flow | (adamyvaluation.com)
- Value Driver Two – Value Driver Two: Lower Risk | (adamyvaluation.com)
- Value Driver Three – Value Driver Three: Higher Growth Potential | (adamyvaluation.com)
- Strategic Planning and Value Creation – Webinar: Tactical Tuesdays | (adamyvaluation.com)
Written By:
Family Businesses are Different
Written by Haans Mulder, JD, MBA, MST, CFP®
If you own a business with another family member, you know that family businesses are different than other companies. A lot can be said about how, but I’d like to point out one area you may not be aware of. If you’re part of a family business, you’re a greater target for the IRS. In other words, when you have a business transaction with another family member, that arrangement is at risk of being questioned and scrutinized by the IRS.
A recent tax case illustrates this. A family-owned business loaned money to another family-owned business over a number of years. They followed the legal formalities in some cases (i.e. promissory notes were signed, actual repayments were made on the loan, etc.). But, as happens with family businesses, the arrangement changed over time and informality crept in. The borrower eventually couldn’t pay back the loans and the family-owned taxpayer tried to claim that those written-off loans were a bad debt loss (which would have given them a tax benefit). The IRS challenged this and ultimately the government’s position was upheld.
The take away from this case is that family businesses need to be very vigilant and treat transactions with family members like they do any other arrangement with an unrelated company. The relationship needs to be documented and it needs to be implemented as you would with a customer or supplier. If you remember and follow this principle, you’ll be in a much better position if a transaction is ever challenged by the IRS.
If you have any legal questions regarding your family business and structuring these types of transactions, feel free to contact me.