How to successfully succession plan in a family business

What of your legacy?

You, and perhaps your predecessors, have fought the odds to build a successful business. Have you considered whether it will be in the right hands to protect your legacy and/or to provide an income for your family in the future?

Evidence shows that only 25% of family businesses survive to the second generation. That survival rate is cut to 13% and 3% when considering 3rd and 4th generations respectively. The likelihood of continued and future success of a family business can be improved with clear and well thought out succession planning.

 

How?

There are two aspects to succession planning; ownership succession and management succession. The right answer for one of those elements may not necessarily be the right answer for the other. For example, you may want your family to retain ownership but allow a specialist management team to manage the business (subject to shareholder protections) for the benefit of all.

Management

With regard to management, if you have key employees in the business driving growth and they have the skills and experience to manage the business in your absence, you should consider incentivising them in such a way that retains those employees in the business to continue their good work after your departure. This can be achieved in any number of ways, including:

  1. enterprise management incentive (“EMI”) schemes;
  2. company share option schemes (for those companies who do not qualify for EMI schemes);
  3. growth shares;
  4. long term incentive plans; and
  5. other incentive schemes that do not involve parting with equity in the company (such as phantom share plans).

Ownership

With regard to ownership, you should consider whether you want to leave the ownership of your business to your family, or whether the lump sum proceeds of a sale of the business would be more beneficial to them.  You need to consider whether your Will adequately addresses your desires for your business and, if you do not have a Will, you should be aware that on your death your business will be distributed as the law dictates, which may not be as you would wish. Further, as noted below, there may be tax advantages with regard to the timing of divestment of your shares to your family, if that is your ultimate goal.

Other issues

If there are other shareholders in the business already (be they family members, third parties or key employees), is there a shareholders’ agreement in place that provides for what will happen to the shares in certain circumstances. For example:

  1. Sale of shares – a shareholders’ agreement commonly provides that if a minority or non-family shareholder wants to sell his shares to a third party, such sale is restricted or even prohibited to ensure that the company is kept within the family;

 

  1. Sale of the company – in the event that you want to sell the business to a third party to provide a lump sum to your family but other shareholders do not want to sell – you could include provisions in a shareholders’ agreement that require minority shareholders to sell their shares to that third party at the same time.

 

  1. Death or incapacity – a shareholders’ agreement can contain provisions that, in the event a shareholder dies, becomes ill or is no longer able to participate in the business his shares are sold to the other shareholders. Such provisions can be backed up by a life policy (where appropriate) which provides the funds necessary for the purchase of the shareholding – this has two benefits; (i) the remaining shareholders can afford to buy out those shares and (ii) the family of the selling shareholder receives value for those shares as the sales proceeds contribute to his overall estate. You may also want to consider control/decision making procedures.

Tax

Tax advice should be taken in considering your approach to succession planning, in particular ownership succession. Whilst we do not advise on tax, a number of succession plans we have put in place have had a positive impact on various tax positions, including inheritance tax and capital gains tax.

 

How can we help?

Tughans has experience in implementing an array of incentive schemes and succession planning initiatives. If this interests you, please do get in touch. We can discuss your business’ specific circumstances and your wishes so that, together with your tax adviser, we can devise a succession plan that will give you the confidence to know you have given your business and your family the best chance of future success.

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While great care has been taken in the preparation of the content of this article, it does not purport to be a comprehensive statement of the relevant law and full professional advice should be taken before any action is taken in reliance on any item covered.