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How to prepare your closely held business for an internal succession

November 22, 2022

by Scott Mason, CPA

When you own a closely held or family business, it can be hard to imagine ever stepping away from your role. Nevertheless, one day you will likely have to pass the torch. That said, transitioning your business to a family member or longtime employee can be a way to keep your company independent while creating a rewarding experience for all.

If you’re envisioning an internal succession, here are a few things you can do now to facilitate a smooth transition.

Identify potential buyers

To sell your business to an internal buyer, you need to have one. Of course, this might not be a question if you’ve had a family member who’s worked in the business with the expectation of future ownership.

If you don’t have family members working in your business, you’ll need to determine if any key employees are interested in taking over your business and if they would be a good fit for an ownership role. (Yes, we could write another article on this topic, but we’ll save it for another time.)

Remember, an offer of ownership can be a highly effective employee retention tool.

Determine your retirement needs

Part of transitioning your business is figuring out what you’ll need in retirement. In addition to cash flow, you should determine what you’ll need for health insurance, as well as which business perks, such as a company vehicle or expense account, you’d like to continue. Keep in mind that if you sell your business before age 65, you won’t qualify for Medicare.

Once you’ve laid out your needs, you can assess what you’ll need from your business—in addition to other income streams, like social security and IRAs—to enjoy a comfortable retirement. For instance, if you need $10,000 a month during retirement, what sale price would allow you to achieve this?

Leverage gifting

If you’re left with a significant difference between the value of your business and your retirement needs, you can fill it in by gifting a portion of your business to family members.

In addition to tax benefits, gifting allows you to designate ownership changes during your lifetime. Waiting to designate these until after you pass can result in sibling rivalries. If possible, consider resolving both ownership and operation roles sooner rather than later.

Consider owner financing

Your heir apparent may not have a nest egg from which they can draw to purchase your business. In addition to gifting, you can ease the transition for your employee buyer by offering owner financing, possibly in tandem with bank and/or U.S. Small Business Administration (SBA) loans.

We can run multiple scenarios to determine what this means for you and your buyer. Of course, the transition must work for both parties. The last thing you want is for your buyer to walk away, requiring you to retake the business after you’ve embraced retirement.

Share your knowledge

Besides sorting out the numbers, it’s important make sure your heir apparent knows your business through and through. Sharing your knowledge with them should begin as soon as they’re brought into the mix as a potential owner.

To successfully run your business, your employee buyer should ideally be involved in these aspects of your business: production/operations, marketing, and finance. Specifically, they should know your banking relationships, how to manage cash and sales goals, and your primary customers. They should also have a role in your company’s year-end or state-of-the-company meeting.

Make sure your financial reporting and accounting systems in good shape

These systems give you a way to monitor, train, and plan for a transition. At a minimum, your reporting system should allow you to easily generate and report the top metrics for your organization.  And yes, this requires more than a basic accounting system.

Here’s one reason why this is so important: Even if your vision is to sell your business to your children or a longtime employee, it might not happen. If you end up having to bring your business to market, you’re going to need data to support the due diligence needed for an outside sale.

Get support for your internal succession

When it comes to succession planning, it’s much easier to focus more on the “succession” rather than the “planning,” especially when you’re in the throes of running your business.

At Abdo, we can guide you through the succession planning process. We’ll light the way forward and take care of critical pieces such as determining your retirement needs and an appropriate sale price. If you’d like to set the next generation of your business up for success, contact us today.


Meet the Expert

Scott Mason, CPA

Now retired from Abdo, Scott maintains a passion for helping family-owned and closely-held businesses stay ahead of the curve.

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