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Successfully planning for succession planning

Published 6/14/2014 6:29:39 PM

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Bad planning is usually more successful than no planning
By Randy Kuchenmeister

There are five options that Electrical Distributors usually choose from in succession planning.

1. Do Nothing. This approach is used either when the business owner is "too busy" with daily operations, or feels that they will live forever.
Upside: You saved a few thousand dollars on professional fees.
Downside: After dying face down in your cup of coffee and spilling it all over the customer year to date variance report, your family has a financial disaster. The assets of the business may need to be sold off to offset tax ramifications that your family faces. There is no continuity for your customers, employees, and vendors to keep things together. The federal government is the only winner.

2. Internal succession. This is where you find one or two internal leaders to buy your business through the profits that your company makes in the future.
Upside: You do sell your business.
Downside: You never really get separation from the business. The high level employees that were not selected will likely feel slighted and eventually leave. In the end you gave the business away, not receiving the value of your hard work and investment.

3. Find a local/regional competitor to merge with so they can buy you out.
Upside: Increased talent pool to help lead into the future. You will get a fair value for your hard work and investment. Your business may benefit from the best practices of the other firm.
Downside: If the deal doesn’t work, you now have a very smart competitor that will raid your employees, vendors, and customers.

4. Pass the business along to the next generation. This process has served many Electrical Distributors well through the years.
Upside: With proper time, this can help avoid the double taxation that we commonly call the "death tax". If started early enough, and the next generation is qualified to lead the company for the next twenty five years, smaller companies can maintain and even grow.
Downside: You often put the pressure of your retirement square on the shoulders of the same people who have the new found pressures of running a business. You also will not get the financial benefit from your hard work and investment, but the recipients of these is often your own offspring. You will also run the risk of losing high level employees as they respond adversely to nepotism, thus making it even harder for your offspring to achieve what you have.

5. Sell outright your business to a larger distributor. For most of us this means a large regional, national, or even international distributor. Unfortunately this option does not exist for the smaller or marginally profitable distributors.
Upside: This is the absolute best chance to get paid for your hard work and investment. The larger distributors will likely make your business more profitable and bring in new resources to grow the business. Larger companies are always trying to find excellent employees. This also gives the top performers the best chance for advancement. Many of the "deals" have continued income through no-compete agreements, consulting agreements, and lease arrangements.
Downside: Your company will likely lose some of the close knit charm that most of us enjoy working within. Once you close, it is their business to make whatever mistakes they wish to, and you can't stop them.

So where do you go from here?
At any age, size, or geographic footprint, you need to successfully plan on the succession of your company. You owe it to your family, employees, customers and even your vendors. Start first with trying to employ a facilitator of this process, someone that has nothing to gain and who will look out for your best interest. This person has to be someone whose opinion you are willing to listen to. Next, meet with your family, then financial and legal counsel. The whole world does not need to know your business, but someone needs to have a plan.

Finally, know what does and doesn't work; do some homework.
Simple statistics from Harvard Business Review show that only 30% of all businesses are passed down to the next generation. Only 10% survive the second generation, and less than 3% will survive the third generation. Roughly half of the acquired companies (45%) will ultimately succeed, but that is fifteen times greater than a third generation transfer. Traditionally, Electrical Distributors fare somewhat better than these statistics, but you still need to know what the prospects of continued success are once you no longer lead your company.

During a break in negotiation of a recent deal, the prospective acquirer gave me his take on generational differences. He said, "We buy first and second generation distributors at a premium… third generation is usually bought out of bankruptcy court." In full disclosure, not only do I not own these statistics or statements, they are what I have experienced through the years.

In addition it is only fair that I tell you I was a second generation Electrical Distributor, and that upon my departure, the third generation is now beginning to run that business. I also believe that they will do just fine.

So, there it is. The most important part in a successful succession plan is… having one.

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Randy Kuchenmeister is a consultant at Electrical Distributor Consulting. He can be reached at randy@electricaldistributorconsulting.com.

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User Comments
Good article, although it appears that the ESOP option was not mentioned. Not for everyone and plenty of downside risks, but an option nevertheless.