Home September 2018 When Succession Planning Meets Nepotism: Will Your Company Survive?

When Succession Planning Meets Nepotism: Will Your Company Survive?

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It is important to think about a succession plan for your business—but should you be relying on your kids to take the torch?

As Heather Barnhouse, partner, Dentons, explains, “To ignore succession planning is to almost certainly devalue the very thing that the business owner has dedicated his or her life to building.”

“Often, kids are a great choice to take over a family business because it is almost in their blood,” she adds. “If they’ve grown up learning the business, and participating in the business, they are often well placed to take over the responsibilities. However, there should not be an expectation that the children will take over the business.” The viability of the business and the happiness of the successors, the employees, and the investors are all at stake, she points out.

“The biggest effect of a hiring decision gone wrong can be the loss of value to the company. This can have devastating effects on the stakeholders, shareholders, and the family (of the original owner) who may have been relying on the business asset to fund retirement goals.

“Regardless of whether the children are the heir apparent to take over the business or not, it is important to consider who needs to support the new owners, and what skill sets might be needed to complement what the new owners bring to the table,” Barnhouse stresses. “Ensuring that there are proper controls (from a policy and procedure perspective) in place helps manage the expectations for all parties involved. Many successful family run-businesses rely heavily on advisory boards that are composed of other players beyond the family/friend circle to help with perception checking and broadening horizons to provide alternatives for consideration.”

“Open and transparent communication is the key to managing these expectations,” she continues. “Depending on the circumstances, there may be roles for long-term employees to join a management team, or to lead a division within the business. Sometimes, processes can be put in place to manage the transitions smoothly. Sometimes, there is some training or other skill development required, and that should be encouraged, whether it applies to family members or not. Having clear expectations is key to making this transition successful.”

“This is a nuanced and customized concern,” observes Barnhouse, “It is something that can be refined, revisited, and customized for the particular entrepreneur. There is no shame in seeking input from advisors. The best solutions are crafted when there is open and honest communication with people who bring a different perspective to the table.”

Jeff Haggerty, CFP, CLU, FMA, wealth & estate planning specialist, Canaccord Genuity Wealth & Estate Planning Services, agrees that succession planning is a complex and important concern for businesses.

“Succession planning ensures a smooth transition of management as an owner/manager looks to move away from day-to-day operations,” Haggerty describes. “Without a proper transition of management, operations may become interrupted, profits may decline, and the business may eventually fail or collapse.

“You need to find the right people to fill specific roles within your business—the people that are the most qualified and have the specific skill set to support a certain function to operate or manage the business. Those individuals may be members of your family, managers, or employees within your company, or they may be outside contractors/experts within a certain field.”

“It becomes nepotism,” he clarifies, “when you favour a family member taking over a specific role without considering that person’s skill set. It’s passing the torch when you have put the right person in the right position, regardless of who they are.”

How can you create a business succession plan for the future that potentially accommodates the entrepreneurial-spirited child who may, one day, be the perfect candidate to accept the torch?

“You can expect your kids to take over,” Haggerty notes, “but you need to consider how likely the outcome is. Often, children want to carve out their own paths and are not interested in taking over the business. There is also a key difference to being suitable and ‘earning’ their spot in the company,” he points out. “A child may be suitable by experience, personality, and education, but he or she may not have ‘earned’ their spot by working within the company.

“If they are suitable, you should consider a transition period and have them work in the family business for a time before transferring full responsibility. This way, they earn their spot. Otherwise, if they are not suitable, you may want to consider other options. Are they suitable for any role? If not, do they want to be owners and delegate management responsibility to a third party? Do you want to consider other transition options, such as a management buy-out, or a third-party sale?”

“These are things that need to be considered carefully,” warns Haggerty. “The wrong person taking over a certain role could severely interrupt operations and harm the business.

“You face the possibility of a mismanaged company, investors will be less likely to invest in your company, and share value may decline as a result. Worst case scenario, the company eventually becomes insolvent. This could ruin the wealth that was created by the original founder(s). I have seen retirement plans ruined and parents having to go back to work because their children ran the company they were relying on for cash flow into insolvency.

“A proper succession plan should consider all stakeholders. The needs of the business should come before the needs of the family, if you want to ensure its continuity. Regardless, succession planning is important, and it is ideal to have the process begin several years in advance. The more planning and discussions that take place, the more likely you are to have success.”

Rob Schmeichel, Edmonton district director, Farm Credit Canada (FCC), agrees: “Succession or business transition is not an event; it is a multi-year process that requires time and focus to succeed.”

“Securing the future is about being focused on and relevant to your customers and markets,” Schmeichel explains. “That requires stability, leadership, management, and investment from a committed ownership and employee team. Succession planning provides for the orderly, timely, and predictable transition of a business from one ownership group to the next—and that enables the ongoing and continued focus of the business in its purpose and relevance to markets and customers.

“What’s important is establishing what the business (future) needs and what the family (previous ownership) needs. Business is dynamic and always progressing, so the right successor as leader or owner needs to be someone who has the vision, commitment, and passion to move the business forward into the future. If that person is from the family, they may be a great fit for the legacy of both the family and the business.”

“Parents dream of giving their business to their children,” he continues. “They also enjoy working alongside of their children. They want their children to succeed. It is a noble goal and desire to see one’s children take over the family business, but the children need to be ready and willing with leadership, skills, vision, and passion for the next 30 years of the business, or else it probably won’t succeed.

“Competency trumps blood lines,” Schmeichel stresses. “Is the new leader qualified? Just ask the employees—they will tell you.

“Business plans and strategy can map out what should happen and when. The biggest challenge is sticking to the plan versus the owner (parents) feeling sorry for a child or feeling like they owe it to the child. A parent (owner) can always sell the business and give some of the proceeds to the child instead of gifting them the business and then watching it fail.”

A succession plan could also “consider [making] key long-term employees into ‘partners’ in the transition,” Schmeichel points out.

“An unprepared or uncommitted leader can harm a business, demotivate the staff, and negatively impact the company value for the shareholders,” Schmeichel concludes; however, “Ongoing and consistent communication with all levels of staff and ownership solves many issues. Business plans and strategy can map out what should happen and when.”

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