Thinking about business succession
In celebration of Mom and Pop Business Owners Day, which occurred on Wednesday, March 29th, Klingenstein Fields Advisors salutes the entrepreneurial spirit that fuels our country’s economy. The U.S. Small Business Administration (SBA) defines “small businesses” as those which have less than 1,500 employees and generate a maximum of $38.5 million in average annual revenue.1 According to the SBA, small businesses employ 47.1% of the private sector workforce in the U.S. and generate approximately 44% of U.S. gross domestic product.2* This segment of not so small businesses, many of which are family owned, represents a major component of the U.S. economy. However, when it comes to family-owned businesses, unique considerations and complexities arise in their successful operation, governance, and succession from one generation to the next.
Happily ever after – the business version
According to SCORE, a non-profit resource partner of the SBA that helps small businesses “get off the ground, grow and achieve their goals,” only 30% of family businesses in the U.S. survive from the first to the second generation, and only 12% make it to the third generation. This often stems from a reluctance to consider or a misjudgment of key concerns in determining the best strategy for the future of the business. Among some of the most significant are:
Should you promote family members into management positions? Family dynamics and interrelationships are always tricky, and the involvement of family members in the business can be fraught with emotions and high and/or misguided expectations. To avoid family and business woes, it is important to ensure that family members working in the company are held to the same standards as other employees, to define a logical reporting hierarchy, and to set clear parameters on the power held by family members who are not involved in running the business.
Who will run the company? It may be your dream for the next generation to take over the business in the future. It is often the case that one or more family members have been identified and are prepared to assume the role. But what if there is no one who is qualified or no one in the family who wants to take that path? It may be necessary then to look outside of your family for the next generation of leadership. This may involve hiring a professional recruiter to identify the best candidates. Additionally, hiring new nonfamily employees for senior positions may also bring up controversial compensation issues, such as having to pay the nonfamily employee a “market rate” which might not be in line with the family employees’ current salaries and grants of real or phantom equity ownership as part of incentive packages.
To sell or not to sell? You have poured your heart, soul, time, and capital into building your business, with the hope/expectation that the next generation is eager to carry on your legacy. But future generations may not have that same commitment and passion for what you have created. In addition, the next generation may not be able to reach consensus on the future of the company. Selling the business to one or more family members or outside buyers may be one way to maintain family harmony. There is no single correct answer, and your decision depends on your unique family circumstances.
What is the value of your company? Whether you are considering selling or not, knowing the value of your company is essential as you contemplate the future. The value of your firm might be vastly different depending on the type of buyer, and this may factor into your future business succession plans. If you have a buyer that is interested in purchasing your business for strategic reasons, such as expanding his or her business or entering a new market, you may be offered a price that is above the “market price.” On the other hand, a sale to family members or existing partners typically involves a lower price but comes with the confidence and satisfaction of truly knowing the buyers and providing continuity for the business.
Klingenstein Fields Advisors has experience and a unique perspective on the concerns that family-owned businesses face. We provide guidance to clients on an array of issues that families confront in their personal and business lives. We welcome the opportunity to meet with you and members of your family to discuss your situation and goals.
For more information, we encourage you to contact us directly, by phone, at 212.492.7000 or email us at firstname.lastname@example.org. You’ll find News and Insights on our website and can view our educational webinars on a variety of financial topics on our YouTube channel. And please don’t forget to follow us on LinkedIn, Instagram, and Twitter.
1 U.S. Small Business Administration Office of Advocacy FAQs 2016. https://www.sba.gov/sites/default/files/advocacy/SB-FAQ-2016_WEB.pdf
2 U.S. Small Business Administration Office of Advocacy FAQs 2020. https://cdn.advocacy.sba.gov/wp-content/uploads/2020/11/05122043/Small-Business-FAQ-2020.pdf
*These are pre-pandemic figures