Succession Path

Succession should be inevitable if you run a family business. If you have ambition to make it to the next generation, then planning for change is critical to success. Where family business succession just happens without proper planning, the result could be unsatisfactory and may be detrimental to the family, the business or both.

As well as preparing for the transition of share ownership, family business owners also need to consider who will lead and manage the business, if it stays within the family. Sometimes these succession decisions are obvious and the handover is easy but more often than not, where there are family and business considerations to balance, the boundaries can become blurred.

Business decisions can be influenced by family emotions and involvement, which can often lead to ineffective results. On the converse, decisions may be made without sufficient consideration of family concerns, which is also not a recipe for success. This complexity is exacerbated by the fact that the leadership and ownership of a family business may transition at different times.

Introduction

There is no ‘one size fits all’ response to any of the challenges that come with succession, but starting early to resolve issues and being inclusive in the process, will help to ensure you make the right decisions and that your family are properly prepared for the transition when it occurs. Succession is a gradual process, not a one-off event, plenty of time and consideration needs to be given to planning and implementation.

There are many different ownership and leadership models available as the business moves from the entrepreneurial stage through to subsequent generations. Deciding on the best options will depend on factors, such as:

The values and vision of the family
Personal objectives for retirement
Individual and family financial needs
Whether the business has an obvious successor
The tax implications
The health of the business
The market situation now and in the future

Every family business is unique and so the way they approach their succession will be unique. That is often why families benefit from guidance through the planning process.

For many families, the long-term vision is to keep the business in the family and for each generation to act as stewards of the business for the younger generation. The business often represents not only a key part of a family’s financial wealth, but amazing career opportunities and an important contributor to the family’s tradition, legacy and pride.

Below are five different options to consider, where the aim is to ‘keep the business in the family’, which we will explore in greater detail.

Doing nothing
Passing on leadership to family
Bringing in a non-family leader
Private equity investment
Reverse succession

Each section will outline the benefits and challenges of the approach and some ‘things to think about’ if you are considering that route.

The discussions can be lengthy and should involve family and key management throughout, but it will be a valuable process.

Opening-up family communication and sharing long-term expectations and aspirations are core to reaching the right decision. More importantly, involving everyone in the process will help to achieve long-term buy-in and ensure that your decisions are likely to be broadly acceptable to all. All this preparation may sound onerous, but planning ahead means that your family will be ready and willing to take over ownership and prepare for the challenges ahead.

1 Doing nothing

What does it mean?

Despite the advantages of planning for succession, in our experience, the most popular option for many family businesses is to do nothing and to ignore the fact that succession will one day be upon them.

The resistance to succession planning is often due to complex emotional, psychological and/or financial reasons. The current generation may fear the implications of retirement, such as not having enough to do, letting go of control and power or losing their identity.

There may also be worries about how to choose a successor from the younger generation without causing conflict, particularly if there is rivalry in the family or concerns about feelings of entitlement.

Ultimately, planning succession means discussing subjects which may feel uncomfortable for some families and so the easiest option is to avoid them altogether. However, this is usually the worst option as it doesn’t give the family time to properly prepare themselves and ensure that the transition is gradual and smooth with minimal impact on the business and family.

What are the benefits?

Planning ahead avoids the need to confront uncomfortable issues such as death and finances or the need to make difficult decisions such as choosing a successor amongst family
Avoids changing the status quo

What are the challenges?

The current generation are not planning for retirement and therefore are unprepared, emotionally and financially
The younger generation are unclear on expectations and unprepared for the responsibilities that ownership and leadership bring
Family gossip and conflict can result from trying to resolve decisions informally
The family and the business are left to deal with the results of a badly planned and executed succession

Things to think about

Take small steps, simply starting to think about your personal objectives and reading around the topic begins the journey
Talk to other family businesses about their experiences so you can learn from their successes and challenges
Start to involve your family and try to understand what they want and what their vision is for the future
Remember that avoiding issues does not mean they will disappear, even if discussions are likely to be difficult it is always better to let each family member express their views

2 Passing on leadership to family

What does it mean?

The vision of some families will be to retain the leadership of the business within the family. They see it as a way to keep the family involved and in control whilst also providing career opportunities that couldn’t be accessed elsewhere.

The first requirement for this approach would be having someone in the family who has experience in the business, who is well regarded and has the capability and willingness to take on this role.

The challenge becomes more complex if there are several family members progressing in the business. Managing the expectations and the emotions of the wider family can be a challenge.

Ultimately this decision should be based on ability and merit not based on family position, expectation or any other emotion-led criteria. There will need to be timely discussions with the Board and the family about how the next leader will be selected and who and what should be involved in that process. Having an objective and transparent process in place, based on merit, can help to make these decisions fairer and can lead to more acceptance of the outcome

But selection isn’t the end of the process. Too many family successions have failed because no consideration had been given to what will be needed once a new generation starts to take over. The new leader will need to be given authority but also support and development in order to grow into the new role. It should also not be assumed that this will be a job for life. Family leaders will need to be fully accountable and have regular reviews in the same way that non-family would. This will ensure they remain best for the business, with full support from the board and the family.

What are the benefits?

Being involved as owners and managers enables the family to remain in control
It is easier to ensure the family values and vision remain embedded in the company
The business continues to provide job opportunities and career progression for family members
A family ambassador will remain in place, which is particularly important if the family name is above the door

What are the challenges?

There may not be a suitable family member to take over
The success of the business is on the younger generation’s shoulders, which may be a difficult responsibility to bear
Family rivalry may surface, especially if selecting a leader means having to choose between family members
Supporting and developing the younger generation to grow into a leadership role takes time, money and effort

Things to think about

Start preparing the younger generation as early as possible for the responsibilities of ownership and leadership. Consider putting in place development plans including opportunities to work outside the family business
Clearly define rules regarding employment and succession, including remuneration, share options, holiday, accountability and exit. This may not have been standard practice for family members in the past but will be a key part of managing expectations and avoiding assumptions being made going forward
Employees may not hold the new leader in the same regard as the current generation. Having a strong track record and being selected as part of a robust process can help to build credibility
Separate any money received from working in the business from any money received by virtue of being a family member or shareholder
Objective feedback mechanisms, as any other manager would have, should be put into place for family members
If family members are not quite ready to take on the leadership role, then consider whether non-family professionals can help bridge the gap and strengthen the team

3 Bring in a non-family leader

What does it mean?

If family members are not willing or able to run the family business successfully then the best option may be to appoint a non-family leader. This decision should be reached by the Board, in discussion with the family. It’s often at the point where they can see that professionalising the business and strengthening the Board with outside expertise, is important for future growth and success.

When bringing non-family leaders in, or promoting them through the ranks, having the right selection process in place is crucial for success. It is important to select someone, not only with suitable experience, skills and track record, but who also understands the culture and values of the family and what the business stands for.

A formal and objective recruitment process is advisable, which both the family and the business could be part of. Taking this route however may be hard for the family to accept, particularly if a family member feels the leadership position should rightfully be theirs or where they fear the impact of the change that professional management might make within the business

Where conflict arises, it is important for the family to establish and articulate their vision and agree some core principles. Is the business run as a meritocracy? Is the vision of the family to grow and enhance the business for future generations? If the answer to both questions is yes, then succession will be clearer. Selecting the strongest leader, be they family or non-family, will allow the business to flourish, which is ultimately in everyone’s best interests.

What are the benefits?

It can bridge a gap if there are no family members to take on the role
As well as new skills and attributes, non-family leaders can give a family business a more outward looking perspective, bring external experience and help develop a balanced board
It avoids the success of the business being over-reliant on the family’s skills
It moves the business away from a ‘family first’ approach which can help attract stronger non-family employees
It is an opportunity to bring someone in who has prior experience of growing a similar business to the next level

What are the challenges?

The family will be less involved on a day-to-day basis and will need to create governance and accountability to ensure the business is being run in their best interest
Family members may feel overlooked in favour of the non-family member leading to negative emotions and conflict
The compensation demands and expectations of outstanding executives can be challenging and a big change for the family
The family must invest in the recruitment process to ensure the correct candidate is selected

Things to think about

Look for someone who has experience of working with other family businesses so they understand the unique dynamics of this type of organisation
Consider carefully how to incentivise non-family management, particularly if you don’t want shares to pass outside the family. If shares are passed outside the family, ensure Agreements are in place to return the shares if the employee leaves the company
The family will need to articulate their vision for the family business and give a clear mandate to the board, whilst giving them the freedom to lead
The family need to be prepared to embrace the change that the new leader may bring
Family governance mechanisms need to be developed to ensure clear and effective communication between the family and the board and to ensure the board remains fully accountable to the shareholders

4 External investment

What does it mean?

Bringing in external investors can work particularly well in certain circumstances. For example, if the business needs funding to grow, if the family needs to create liquidity for the older generation to take a step back or if one generation, or branch of a family, wants to buy-out the other.

Bringing in external investment can help to plug both financial and management holes. It can provide working capital to help with expansion, product development, or restructuring of the operations, management, or ownership. It may also help professionalise the business and bring in outside expertise and contacts. Family businesses have traditionally avoided this route, either because they fear losing control or they believe that the only way out of such a deal is ultimately through an exit from the business. Neither of these need to be the case and many family businesses have found outside investment to be a strong way of taking the business forward and addressing their succession challenge.

An investment will generally be made by a private equity firm or an angel investor in return for a stake in a private company. The type of investor to consider will depend on the needs of your business and the approach of the investor.

There are some barriers to securing external investment, for example some private equity firms can have negative views of family businesses because of the family’s involvement and preference for long-term ownership. Equally, some families have concerns about the intentions of external investors and their ultimate aim of exiting the business.

On that basis, partners need to be carefully selected and any agreement needs to be entered into cautiously, to ensure that all parties have the same vision and objectives, and that everyone clearly understands how the relationship will work.

What are the benefits?

Investment can give the business a solid foundation to help grow, improve or diversify
It can create liquidity to help fund the retirement of the older generation or facilitate exits by family members or branches of the family
External investors can bring an independent viewpoint and new ideas to the business
If the family’s ultimate goal is to exit, the investor can work with a family in grooming the business for sale in order to maximise the returns

What are the challenges?

Family ownership and control is diluted
The external investors may get involved with the ongoing management of the business, which risks upsetting the family and non-family employees
It can be challenging to secure the right investment for your business and make the partnership work

Things to think about

It is important to identify the investor who has the best fit with your business and has worked with family businesses before and understands and appreciates their nuances
Spend time with the investor to build relationships and clarify expectations on both sides. For example, what does the investor want out of this and what is the family’s agenda?
Talk to others who have experienced external investment but remember that each situation will have unique characteristics and needs
Clarify timescales and how long the investors want to remain involved. Agree a clear exit strategy up front so everyone understands how things will work when the time comes.

5 Reverse succession

What does it mean?

Some family businesses believe that the younger generation should prove themselves before they are given the opportunity to enter the business. Reverse succession is one way of doing this and involves the younger generation successfully setting up their own business before bringing it back to be part of the main family enterprise.

Giving the younger generation this opportunity has many benefits. It encourages them to develop business acumen as well as their confidence, credibility and skills. Proving their worth and ability in an external environment can be hugely valuable in the long-term to the family business.

The family businesses can then come together, with the younger generation continuing to run their enterprise as part of the main family business or moving into a new role within the core family business

However, reverse succession is not without its challenges and the rules and boundaries around funding, resources, support and buyback must be made very clear from the outset.

There are also risks if their business fails, and the impact this may have on their credibility and confidence. The family will need to plan carefully how the younger generation will be mentored and supported beforehand, as they develop their new venture and how this approach fits into the long-term overall succession plan.

What are the benefits?

The younger generation gain confidence and valuable experience of setting up and running a business
It encourages entrepreneurialism in the younger generation
It may lead to more respect from non-family work colleagues when they return to the family business
It is a diversification and potentially an additional source of income for the family

What are the challenges?

Incentivising the younger generation to come back to the family business can be a challenge, particularly if their business is a great success and they are enjoying the freedom of running it
It can be seen by others as nepotism and giving family members a ‘leg up’, particularly if people don’t understand the arrangement
If the new venture is funded by the business or the family, it can create challenges unless the family are clear around details in advance, for example who owns the new business, whether it is a success or failure
It can create rivalry between family members, particularly if one is more entrepreneurial than the other and ultimately more successful

Things to think about

Establish clear ground rules from the start. Agreements, ideally legal, need to be put into place around areas such as the type of investment, repayment terms and exit
Work with the younger generation to provide them with the support they may need in their venture and ensure the greatest chance of success. Agree in advance what access to company support/resource they should have i.e. IT, HR, Finance
The current generation can use it as an opportunity to work closely with their children and act as a mentor for them

Conclusions

Family business succession can be a unique and special opportunity. It is a chance to pass your legacy onto the next generation and beyond. It is an opportunity to bring new skills and approaches to reflect the changing nature of the business and its clients. It can also be a tax efficient way to pass your wealth down. However, there are challenges to be overcome along the way.

Family perceptions, assumptions and emotions can prevent the right decisions being made or lead to conflict.

There are also personal reasons for avoiding discussions about succession, such as fear of what the future may hold, resistance to handing over power and control or avoidance of making difficult decisions.

For the younger generation, there may be concerns about the future of the family business being their responsibility and whether this is a career and lifestyle they want to take on.

A good starting point is to begin talking to individual family members about their goals and aspirations, both personally and for the business.

This can help create a plan that will be broadly acceptable to all and can be openly discussed. An external facilitator can often add value here; to bring experience, create a neutral environment and ensure everyone is able to contribute fully to the family discussions

A few general top tips for planning and managing succession are:

Don’t be scared of change – it can bring opportunity
Talk openly as a family to understand everyone’s vision and aspirations and then plan the best way forward
Don’t put pressure on family members to remain involved if they don’t want to be
Speak to other family businesses about their experiences and lessons learned
Take your time – succession is a process not an event
Start as early as possible, so you have plenty of time for discussions, planning and implementation

If the family wants to keep the business in the family, there are many different ways to approach it, and this information has explored some of the most common ones. They won’t all be right for every family business, which highlights the importance of beginning discussions as early as possible around what the family are hoping to achieve and the resources and skills they have available to do it.

The family can then begin to map out the best way forward and work towards a successful succession