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The Importance Of Succession Planning For Business Owners

Business succession planning is the process of deciding what will happen to your business when you no longer are able to or desire to run it. While many people think of business succession planning when they are nearing the end of their career, it is important to consider business succession when the business is first established.

Business succession is concerned with how ownership will pass from one person or group to the next. In partnerships, the business may simply pass to the remaining partner who may buy out the retiring partner’s share. In family businesses, the business may pass to an adult child or other family member interested in the business. Other businesses may allow a business owner to sell his or her remaining shares according to a specified formula or approach.

Complications with Deciding Succession in Crisis

Waiting too long to consider business succession can result in significant adverse consequences to the business. If a person loses capacity, he or she may be ousted from the business with no word on how the business will be handled. A deceased business owner can cause the business to go into a tailspin as the remaining owners or officers scramble to keep the business afloat. Even if these situations do not arise, the end of the owner’s role in the business may be met with hostility or negative feelings. Rather than waiting for disaster, business owners can take proactive steps to protect their business and their legacy.

Steps of Business Succession Planning

Business succession planning often includes a multi-faceted approach. Some of the steps may include:


Determining the Successor

Business owners may want to pass the business onto their children, other relatives or business partner. However, these options may not always be available. Adult children may have their own chosen careers. A business partner may decide to retire before the remaining business owner. A lawyer can discuss the possible ways to pass the business to someone while the business is first being formed to avoid problems down the road.


Evaluating Business Interests

Clear guidelines should be in place to determine the owner’s financial interest in the company so that he or she can be fairly compensated for the business interest. It is vital for this evaluation method to be determined during the business formation stage. At the time of succession, the parties have competing interests. The person leaving the business will want to maximize the value of his or her interest in order to have more money at the time he or she leaves or retires. The person buying out the owner will want to minimize this amount to keep more money in his or her own pocket. The parties may decide to base the value of the business off of a professional appraiser’s opinion, the value of the shares, as a multiplier of some objective criterion or another method. The important part is for the parties to agree about this evaluation ahead of time.


Establishing Procedures for Succession

A clear business plan should indicate when the ownership will transition. For example, procedures should be put in place in case the business owner loses capacity or wants to leave the business. There may also be a specified right of first option for the remaining business owners to be able to buy out the leaving owner’s share before he or she can sell to an outside party.


Planning for the Future

A training program may be implemented that helps train the successor on the important aspects of the business before he or she is given control. The business owner may be allowed to select his or her replacement if management will be handed over to a new addition to the business. The business owner may receive residuals from the business for a certain period of time in accordance with the agreement. These considerations can help provide greater clarity to all involved parties when the time comes for business ownership to change.


Benefits of Succession Planning

There are several advantages for both employers and employees to having a formalized succession plan in place:

  • Employees know that there is a chance for advancement and possibly ownership, which can lead to more empowerment and higher job satisfaction.
  • Knowing there is a plan for future opportunities reinforces employees’ career development.
  • Management’s commitment to succession planning means that supervisors will mentor employees to transfer knowledge and expertise.
  • Management keeps better track of the value of employees so positions can be filled internally when opportunities arise.
  • Leadership and employees are better able to share company values and vision.
  • A new generation of leaders is needed when there’s a mass exodus of people from the workforce into retirement.
  • Proper succession planning benefits shareholders of public companies, especially when the next candidate for CEO is involved in business operations and is well respected years before the current CEO retires. Also, if investors observe a well-communicated succession plan, they won’t sell the company’s stock when the CEO retires.

Succession planning can also cultivate a new generation of leaders, thereby providing an exit strategy for business owners who want to sell their stake.


Succession Planning and Diversity

One of the key drivers to success for any company (whether it’s a small business or a large corporation) is how inclusive it is. Companies are now recognizing the need to diversify their work environments in order to remain competitive and successful. Not only does it boost employee morale, but it also aims to broaden the pool of talent and make attempts to fight bias.

But how do companies do this? This involves a well-structured succession plan that includes hiring individuals from different backgrounds, those who have different leadership abilities, and people who bring different experiences to the table. The plan should also include removing any barriers that may exist internally for employees of all levels and ensuring a comfortable work environment for all employees. This only works if succession plans are put into place wholeheartedly rather than to boost corporate images.


Why Is a Succession Plan Important?

Here are some essential benefits of creating succession plans:


It Protects the Future of Your Business

Bad things can happen to any enterprise, no matter how careful the people running it are. Employees leave, business owners become unable to run their companies, the market becomes hostile, and so forth. How then do you safeguard your business operations from any of these often unforeseen circumstances? That’s where a succession plan comes in. Just like we have various types of insurance to give us cover from mishaps, a succession plan is an insurance policy for your business’s continuity.


It Aids in Identifying the Most Qualified People in Your Company

One of the most important benefits of succession plans is that they allow business owners to see which employees are best suited for the transition. This is a key aspect of succession planning for business owners and plays a key role in the continued success of the company’s operations.

With a succession plan, you get to see which of your employees are most qualified as future leaders. It also helps to narrow down which positions within the company are most critical for its success. It can also shed light on potential vulnerabilities, helping identify and remedy them.

For example, If there are no employees suitable for leadership roles within your organization, you would know to look externally early on. In the same vein, business succession planning is a process that could lead to increased employee retention and motivation, as it lets hardworking members in the organization know that their efforts have been noticed and encourages others to do better.


It Helps Create a Training and Development Structure

Building on the previous point, another benefit of succession planning is fostering an environment friendly to training and development. One other positive thing about identifying leadership prospects is picking out competency gaps and filling them by training your staff.

Professional development can come in many forms, such as mentoring, coaching, giving staff increased responsibilities or even job shadowing. Some positions may require employees to head back to school for further education or certification.

This early tapping on successors puts you and your business ahead of the curve, giving everyone enough time to prepare and build the skills or experience needed in leadership and other roles. It’s an excellent method to consider even before you start thinking about how to transfer business ownership to someone else down the line. It’s also an excellent way to let employees know you are willing to invest in them.


It Maintains the Brand Identity of Your Business

Succession planning helps identify employees that can keep the torch burning within the company and helps ensure that a brand identity built over several years doesn’t get thrown out the door when there’s a change in power. Even when there’s a new boss around, succession plans help ensure nothing crucial changes.


It Puts Extra Eyes on the Job

Succession planning is a company-wide exercise, meaning that you can have junior managers and veteran staff working together on the same tasks. This can help wring out any weaknesses and further fine-tune processes and operations.

Steps To Creating a Succession Plan

Succession plans can be tough to work on. However, there are some steps you can take to make it easier and create a better succession plan template. Let’s go over them:


Succession Timeline

Succession plans can be split into two types: an exit succession plan and a death-or-accident succession plan. The former covers the transfer of ownership at a specific date, while the latter deals with the event of owner death or disability. An accident plan can be considered at any time but exit plans should be written when retirement is close by or the owner wishes to leave the business. There should be a specific date in mind when the transfer would take place, and the plan should also indicate whether you would still be involved after the exit or want to be done with the business completely.


Determine Your Successor

Who takes the reins after the business owner’s departure?  Many owners hand the reigns over to their families in business succession planning, and children often continue the family business. Sometimes, it is handed over to a business partner or one of its key employees. Other times, the business is out rightly bought by an outsider. It’s a tough decision, but the successor must be someone that cares about the business and has similar values as the owner. Keeping it within the family is great, but you should bear in mind that most second-generation businesses have a high failure rate. That said, almost a quarter of small businesses fail because they don’t have the right team running the show. This just shows that succession planning is crucial in ensuring that the best people for the job inherit the key responsibilities.


Record and Formalize Your Standard Operating Procedures

Recording your SOPs for future reference is something that every small business owner should do daily. It is beneficial for employees and any future owners. They vary depending on the business, but most SOPs usually include:

  • Org Chart
  • Operations Manual
  • IT Manual
  • Employee Handbook
  • Training Programs
  • Skill Retention Strategies
  • Performance Management
  • Meeting Agendas
  • Evaluate Your Business


Handling the Finances of Your Succession Plan

Your succession plan must cover how someone will buy your business by paying a lump sum, purchasing it in installments, using credit facilities, or some other option. You should also have a buy-sell agreement, a legal document where the buyer agrees to an action that enables them to purchase your business. To draft this agreement, you’ll also need to meet with a legal professional, such as a business succession planning attorney in Utah.

Succession plans are typically funded in one of the following three ways:

  • Life Insurance: usually more common in family successions. A policy taken out on the business owner can help finance the buyout of the business in the event of death or other events such as owner retirement or disability.
  • Acquisition Loan: this is money borrowed from a bank to purchase a business. Typically, a buyer can get about 70% to 80% of the purchase price from a bank or the Small Business Administration (SBA).
  • Seller Financing: or installment payments, occurs when the buyer pays for the business gradually after a down payment has been made, usually about 10% or higher.

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