The business environment created by COVID-19 offers owners an opportunity to get ahead on their succession plans and prepare for the future.
By Ray Lampner, advisory partner at Sikich
Creating a detailed succession plan often ranks low on business leaders’ priority lists. After all, few owners want to think about a day when they won’t run their businesses. And, during a global pandemic and severe economic downturn, manufacturers are simply trying to keep operations going, pushing succession planning even lower on the list.
But business owners have a unique opportunity today to get ahead of the game on succession planning. Establishing a detailed succession plan is essential to not only a company owner’s quality of life during retirement, but also to ensuring the future success of the business. While the current economic recession may have reduced the opportunity for a lucrative sale and put many deals on hold, now is the time for business leaders to create a detailed succession plan and put steps in place that allow for the best outcome as the pandemic subsides.
Establish goals and understand your options
The first thing a business owner should do when creating a succession plan is establish goals. Does the owner want to hand control of his business to his daughter? Does he want to reward a management team that has supported him for decades? Does he have ambitions or plans during retirement that the sale of his business must fund? Once the owner thinks through what he hopes to accomplish, he can compare the various paths that could lead to his ideal outcome.
One option is a management buy out. Business owners that choose this path must begin preparing well in advance of retirement; this option can take many years. As part of the planning, companies should consider the tax implications of the transaction. The company can implement tax strategies to maximize the proceeds of a sale, but these strategies take time to put in place. For example, it may make sense for a company registered as a C corporation to convert to an S corporation, which offers tax advantages during a sale. But the IRS requires that this conversion take place five years prior to a sale. Additionally, a business owner can implement strategies to save on estate taxes, such as gifting. For the best outcome, gifting should be completed at least one year ahead of any expected transaction.
A second option is an employee stock ownership plan (ESOP). In this scenario, the business owner sells the company to its employees. Much like a management buy out, tax planning and structuring can help improve the deal, but these strategies take time to implement. Additionally, ESOPs involve more regulations than other routes and business owners must spend time to ensure compliance.
Another option is selling to a strategic buyer. While this is a more straightforward solution, the COVID-19 pandemic may have given buyers an edge over business owners. While now may not be the best time for a sale, companies can take steps today that improve their position for a future deal, such as reducing expenses, creating leaner operations, and minimizing inventory. These steps will improve the company’s cash flow once the economy begins to open, putting the business owner in better shape for a future sale.
Regardless of which path an owner is leaning towards, the key to a successful succession plan is starting today. By having a detailed plan in place, the owner will be prepared for any scenario and can ensure a lucrative deal.
Prepare for the future
One area of succession planning that business owners often struggle with is developing the next generation of talent. In Sikich’s 2020 Manufacturing and Distribution Report, more than half of respondents identified talent retention as the top hurdle to activating a succession plan. While it can be challenging to loosen the reins, owners must be willing to let their promising young professionals take greater responsibility. These opportunities help prepare employees for future leadership positions and ensure the company will continue to run smoothly after the owner has retired. Developing capable leaders and even successors makes the company healthier and a more attractive acquisition target. Leaders who micromanage their operations and never let their potential successors grow risk losing talent and make their companies unstable.
Another area we often see missing from succession plans is a clear path for business growth. Many times, companies are simply focused on day-to-day priorities and maintaining current operations. But, if there is not a clear and credible plan for growth, it makes the company less valuable to potential buyers. Developing a realistic plan for growth with a feasible path to implementation will create value for the buyer.
The key to successful business succession is preparation. But, due to conflicting priorities and strong emotions, business owners often neglect to plan for their departure until it’s too late. A rushed succession can result in a lower sale price, an ineffective handoff to successors, and business disruption. But, as deals slow down amid the COVID-19 pandemic, business owners have an opportunity to catch up and establish detailed succession plans. By planning ahead – considering the options, working to increase cash flow, nurturing the next generation of talent and outlining a growth strategy – business leaders will come out of the pandemic well prepared for the future.
About the author
Ray Lampner, CPA, is a partner and certified exit planning adviser with Sikich, where he serves as co-leader of Sikich’s business succession planning group. Contact Ray at firstname.lastname@example.org or visit www.sikich.com to learn more.