Building Your Business Succession Plan: 3 Areas to Focus on First
Key Takeaways:
- Understanding the value of your business is crucial for making informed decisions about retirement funding, potential sales, and attracting investors.
- Choosing a timeline involves evaluating personal retirement goals, market conditions, and the possibility of reinvesting assets elsewhere.
- Picking a successor requires careful consideration of family dynamics, employee relationships, and the overall future of the business.
When an employee leaves their job, whether it’s for retirement or to pursue a new opportunity, the company carries on in their absence. But when you’re the owner of a business, your absence can have a much greater impact on the long-term success of the business. That’s why business succession planning is such a critical part of owning a business, yet it’s something people don’t tend to think about until they’re approaching retirement.
But business succession planning goes beyond your transition into retirement. It’s about preparing for unforeseen circumstances, establishing a blueprint for your family, and protecting your employees, clients, and reputation.
While succession planning involves many components, there are three areas in particular you may want to focus on first:
Understanding the Value of Your Business
Knowing what your business is worth is important for several reasons. If you plan on selling the business to fund your retirement, it can help you understand how much more you’ll need to set aside to feel more confident and enjoy a comfortable retirement.
Having an understanding of what your business is worth can also help you better evaluate an unexpected offer to buy your business—especially if that offer comes with a short window for consideration.
In addition, understanding the value of your business can help you:
- Decide if it’s a good time to sell
- Attract new investors
- Request additional lines of credit
- Reassess insurance policies
- Prepare for potential tax events
There are a few common ways to value your business, each with its own benefits and considerations. You may want to review these options with your financial advisor and business tax advisor to determine which suits your business best.
Common small-business valuation methods include:
Income-based valuation: Using a discounted cash flow analysis or other formulas to account for risk and expenses, this method estimates the value of your business based on anticipated future earnings.
Market-based valuation: This method compares your business to other similar businesses, either publicly traded companies (which offer widely available financial data) or recently sold private companies.
Assets-based valuation: To determine your asset-based valuation, you would add up your company’s total assets, subtract all liabilities, and determine your net asset value.
Again, you and your advisor should select the valuation method that best suits your specific needs and goals—and keep in mind that these valuations may vary based on a number of factors, like market conditions and industry trends.
Choosing a Timeline
While it’s always subject to change, your succession plan should incorporate an anticipated timeline for when you may want to transition out of the business. In fact, you may want to work through a few different potential scenarios with your advisor to figure out when, why, and how your exit would work out.
As you consider your timeline, ask yourself a few clarifying questions including:
What does retirement look like to me? Some people want to retire earlier than traditional retirement age so they have ample opportunity to travel the world, start an encore career, or pursue other passions. Others enjoy the work they do and don’t see themselves retiring until they physically have to.
Are there any advantages to selling soon? The sale of your business may be impacted by outside factors like the strength of the economy, industry or consumer trends, tax laws, market volatility, and more. Depending on how these factors are playing out, you may want to either move up or delay the selling process to avoid a drop in valuation.
Is my capital better used elsewhere? If your intention is to sell the business to fund retirement (as opposed to keeping it in the family, for example), you may want to work with your advisor to determine if it’s worth holding onto the business or selling and reinvesting your assets elsewhere.
Picking Your Successor
One of the biggest advantages of having a comprehensive business succession plan is that you get to decide who will take over the business in your absence. There will likely be an emotional component to this decision, especially if you’re opting to hand the keys off to another family member.
As you navigate this consideration, try to focus on what’s best for you, your employees, your business, and your family. While you may feel obligated to put your child in charge, consider all options—especially if they haven’t been intimately involved in the business before.
Other options you may want to consider include:
- Selling your business to an industry peer or competitor.
- Allowing your existing management team (or employees) to purchase the business.
- Selling to a private equity group, though this will typically require you to remain actively involved in some capacity after the sale.
The Importance of Communication
If you are considering keeping it in the family, make sure you’re communicating your wishes to all involved family members. In many cases, children or grandchildren are more than willing and capable of taking over the family business. But it’s also possible they have other dreams or goals, which may not align with what you’re envisioning for their future.
Let’s Build Your Business Succession Plan
Whether you’re approaching retirement or far from it, a business succession plan can help you maintain control over your legacy and the future direction of your business. If you’d like to reevaluate your existing plan or discuss the steps involved with establishing a succession plan, we encourage you to reach out to our team today.
Wells Fargo Advisors is not a legal or tax advisor.
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