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Tips for Succession Planning for Small Businesses

Small business ownership involves a lot of logistical and financial decisions. Having a succession plan prior to retirement, disability, or death is one of the most important decisions. There are five common approaches to transferring ownership of your business, no matter who your carefully selected successor is.

  • Heir – Business ownership passes to a family member
  • Co-owner – Your business ownership interests or shares are purchased by a co-owner
  • Key employee – A valuable employee purchases your business or shares
  • Company – In a business with multiple owners, your business ownership interests sell back to the company, and the remaining owners distribute your shares
  • Outside party – You sell your business to an interested entrepreneur

While a succession plan is often associated with retirement, you can also prepare for unexpected events like accidents or illnesses, incapacitation, or sudden death. Your succession plan can reduce business problems for remaining owners or successors and prevent monetary losses. No matter the size of your company, it is wise to make plans for the future if you want the business to thrive in your absence.

Choosing Your Successor

Be mindful when choosing a successor. They must be willing to take ownership and capable of successfully running the business. It is helpful to document complex processes so that employees and your successor can operate the business in your absence. Duplicating your expertise will be challenging, even with detailed instructions. Many small business owners have cross-company functions. If your chosen successor lacks these cross-function skills, you may need to:

  • Find new qualified human resources
  • Hire a person or company to provide payroll services
  • Document critical information about ongoing contracts and repeat customers in updated software applications
  • Integrate other business software for maintaining and scaling the business in the long-term
  • Retain an experienced business attorney to handle legal needs

A qualified business attorney is key to creating a comprehensive succession plan. They can guide you on the potential challenges faced by family, partners, and employees should you retire, become disabled, experience a chronic or terminal illness, or die. The planning process begins with a timeline. Retirement is the easiest to choose a predetermined date, while accidents or illnesses are event-driven. Consider choosing from three or more potential successor candidates and have thoughtful discussions with relevant partners for additional input. Compare the candidates’ attributes and skills to understand the talents they have and any gaps in resources.

Documenting and Streamlining Business Processes to Increase Business Value

An easy transition means updating standard operating procedures (SOPs), including operation manuals, employee handbooks, organizational charts, governmental standards, and any recurring processes or meetings. Current documentation of this relevant information will act as a template from which your successor can manage.

Include a business valuation in your documents. Several considerations include:

  • Asset valuation (don’t forget intangible like intellectual property, your logo, brand, and business community)
  • Historical earnings
  • Relative valuation
  • Future maintainable earnings valuation
  • Discount cash flow

You may want to retain the services of a professional business valuation organization to optimize its value. Updating your business’s value frequently is necessary to figure out an asking price when you sell to an outside party, buyout amount for partners and key employees, or factor in the cost of company shares.

Finding the Right Business Law or Estate Planning Attorney

A business law or estate planning attorney can help you determine how to fund your succession plan. You will need to define a specific path for the successor to be able to purchase the business. There are tax consequences and other financial elements to consider that may require a financial consultant’s expertise. This situation is particularly true in family-owned businesses where one adult child may be a natural fit as a successor. To be fair, your other children may need to be compensated in some other manner. For example, an estate planning attorney knows how to use life insurance policies and other techniques to address the distribution of your estate’s inheritable assets objectively.

Time changes many things in a growing business environment, so reviewing and updating your business succession plan is crucial. Changes in family dynamics can also play a role in necessary changes. If your goal is to transfer your business to a family member, create your plan five or more years before retirement. A minimum five-year head start allows you to optimize the process, minimize the tax costs, place business assets in protected structures, and ensure a successful transition. A business attorney can help you understand and draft the legal documents and work with your estate planning attorney to coordinate your family business with your estate plan. Please Contact our New York office or call 914-498-8709.

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