How to manage succession in a family business

There are many upsides to a family business. You can surround yourself with people whose motivation is not just about share options and bonuses, but rather the preservation of family tradition and loyalty. Members involved in the business may share a wider understanding of its idiosyncrasies, having been involved from an early age, and will be familiar with clients and advisers. However, all of this doesn’t necessarily make succession easier.

Although the health and longevity of a family business may depend on an effective transition to the next generation, it can be difficult for leaders – especially founders – to cede control. There may be greater expectations on the successors, despite fewer formal barriers to their appointment. Familiarity may not breed contempt, but it can lead to fierce disagreement.

For incumbent leaders of businesses, it may be tempting to put off this complex decision until time forces your hand, but the long-term strength of the firm will likely depend on working out your intentions and explaining them to affected stakeholders at the right time. At this moment, it is possible that successors may challenge your decisions, however uncomfortable that might seem, so it helps to plan collaboratively. If there are individuals you would like to be involved in the future of the business, you should check that your vision chimes with theirs.

Personal motivation

The first step is to examine your own motivation, and ideally consider what you really want to do with the rest of your life. If a business has been your vocation, will you really be able to walk away, and how far? Might you wish to maintain an active role within the business, and what would be its nature? Can you cherry-pick areas that are your personal priorities, or clients that matter to you most? At the heart of this issue is whether you are genuinely ready for retirement, or a new life phase. Whether this is so or not, succession planning still matters – it may just take a different form.

The emotions of family relationships will have a significant impact on succession planning.

The emotions of family relationships will have a significant impact on succession planning. Parents may well have developed firm views on the relative talents and capabilities of each of their children and their aptitude for running the family business – which may or may not coincide with the ambitions of the children themselves.

It is best that everyone is honest about their own attitudes and open about their intentions, however difficult that might be. This can help reach a decision on whether it makes sense to promote a family succession, or explore the possibility of bringing in someone from outside. While a family succession could bring a level of trust and loyalty that would be difficult for an outsider to emulate, that approach is bound to limit the available talent pool, even in the smartest families.

Separating management and ownership

Ownership and management of a business go together for entrepreneurs, but they do not have to stay that way. Your children’s legacy does not necessarily depend on their ability to manage the company successfully, and even if they are not the right people to run the business, that does not mean they must surrender their economic interest. It often makes sense to consider the running of the company separately from ownership interests during the long-term planning process.

A key element is up-to-date information. It is vital to share any business problems or looming financial black holes with those who are liable to have to deal with them in the future. You may have the skills and experience to manage any problems that arise, but your successor might not, and it could divert them from the central task of sustaining and building the business.

Ahead of succession planning, you should ensure that three to five years’ worth of accounts are to hand and be willing to share them with anyone who may be involved in the business in future.

Ahead of succession planning, you should ensure that three to five years’ worth of accounts are to hand and be willing to share them with anyone who may be involved in the business in future. This will allow successors to ask any questions while you are still at the helm. If the decision is for a trade sale rather than a family succession, this will be a requirement anyway – the same is true for future projections and strategy. High-quality budgeting and forecasting offering a clear-eyed view of prospects for the future will help smooth the path of any successor, internal or external.

Professional advice

Once this is all in place, you can start conducting the necessary conversations, which in many cases may be daunting. By definition, they will lead to relinquishing control of an enterprise to which you have dedicated much of your life, and imply a recognition of your own mortality. Involving an independent third party can help ease this stage of the process.

A well-qualified and trusted professional adviser can help steer this complex process, explaining the legal (and perhaps tax) implications of decisions regarding the future of the business. An external specialist can work with existing advisers including lawyers, financial planners and accountants to draw up a concrete and tailored transition plan.

If your family members are unable or unwilling to take the business to the next stage, you will need to consider alternative options, such as a stock market listing or sale. Either way, it is beneficial to keep this possibility in mind in advance, rather than run the risk of being forced into an emergency sale if you become incapable of running the business any longer. A sale of any kind can take at least six months and will almost inevitably be stressful and time-consuming.

If disposal of the business appears to be the best option, ensure that your expectations of its value are realistic – it is only worth what someone else is willing to pay for it.

Tax implications

If disposal of the business appears to be the best option, ensure that your expectations of its value are realistic – it is only worth what someone else is willing to pay for it. A specialist adviser should provide details of similar transactions and advice on maximising the value in the business. This may involve management of key risks – including the fact that you may no longer be actively involved – or protecting intellectual property.

The tax implications of a transition are important – inheritance tax considerations in particular should be a priority for all involved. However, a popular rule of thumb is that 70% of wealthy families have lost their wealth by the second generation, and 90% by the third, according to California-based wealth consultancy Williams Group; advisers say the best tax planning is irrelevant if heirs are unprepared to take up the challenge of maintaining the family’s wealth.

Such conclusions are generally attributed to succeeding generations lacking the entrepreneurial drive and discipline of their forbears, but inheritance tax does play a role. Many countries offer special exemptions for family businesses, but it’s important to take advice to ensure that the business is structured correctly to benefit.

Divorce complications

Another issue to consider is divorce, whether your own, that of your children or any other major stakeholder in the business, which can derail the most carefully thought-out succession plans. If a co-owner needs to dispose part or all of their holding as part of a divorce settlement, it risks introducing into the ownership structure shareholders who may not have friendly feelings toward family members, do not value tradition or loyalty, and may not have the long-term interests of the business at heart.

Perhaps the most important factor throughout the whole process is maintaining an open dialogue, and keeping key family members informed and consulted, giving them the ability to challenge your plans robustly. That will certainly be a better outcome than fighting it out in the courts when you are gone.

Contemplating relinquishing control of a business that has been an individual’s life’s work is not easy, but early planning is vital if it is to outlive you. Small steps – the appointment of advisers, asking children for their input, getting paperwork in order – can make the process less daunting.

This article is a part of the folder Special feature: “Transferring a business”