The 6 Steps Of Succession Planning
Practice Management & Strategic Issues

The 6 Steps Of Succession Planning

July 2, 2018

by Tony Vidler  CFP logo   CLU logo  ChFC logo

Unless you plan to work to the grave all practice owners need to be thinking “succession planning” at some point – preferably as early as possible.  Maybe right even from the beginning of your practice.

 

Succession planning is simply about working out how to exit the business at your preferred time, in your preferred way, and hopefully at your preferred price.  That is definitely worth thinking about right from when you first start your own business.

 

Achieving the ideal succession planning strategy successfully though is quite a journey, and will involve significant thought and planning together with sustained execution of the plan.  There are 6 distinct phases to an ideal business succession plan, and they are:

1.  Establish the Owners Objectives

2. Understanding Where The Value Is

3.  Building & Maintaining Practice Value

4.  Creating the Sale

5.  Completing the Sale

6.  Personal Planning & Legacy Issues

 

Establishing the Owners Objectives

At the very beginning of any succession planning you have to answer the essential questions of “what, when, who and how” as they establish the framework of what is trying to be achieved.

  • What is it you are going to be selling?  Is it just assets (such as a client base), or a “going concern” that includes potential liabilities, is it partial ownership of an entity or structure that caries limitations for incoming owners?
  • When do you want to sell it (ideally)?  Is the timing driven by your needs and personal plans, or others?  Have you considered how much impact timing can have upon price?  If timing can have a large impact upon valuation (e.g. if selling a multiple of trail commission on a funds under management book where value can move with market performance and confidence) are you able to prepare the business for rapid sale at a time of premium values?
  • Who are you most likely to sell it to? Who would it be most attractive to….an internal successor or an external party? Do you have, or are you building, the type of business which is more attractive to somebody looking to build upon their own sweat equity and create their own income stream for the future, or are you building something which carries potential synergies and leverage for external investors?  Are those systems and key IP you might be building of interest only to investors from within the same industry, or are you thinking of a turnkey operation that opens up the possibility of being appealing to external investors that are not looking to work in the business itself?
  • How…at this stage is really “how much makes it worthwhile?”  What is the price range that makes a future sale worth doing – for you.  How much are you wanting, needing, or hoping to get from it that can become a key driver of the investment you will make in positioning the business for optimal succession value, and also trigger the succession process?

 

Understanding Where The Value Is

One of the key questions at the outset was understanding what it is you are selling – a business, an interest in a business, just an asset sale?  It follows that once you have worked out what it is you are selling you need to understand what components add or create value within that.  Considerations will include:

  • balance sheet, P&L’s and other standard financial measures and reporting.  In particular, what areas contribute the greatest value from an investors perspective?  What areas might be open to serious negotiation given widely different interpretation (e.g. goodwill, intellectual property values, brand value)?
  • current value, and valuation methodology.  Apart from what the business is worth now, is this value tested in a range of methodologies such as discounted cash-flow analysis, EBIT, future maintainable earnings x industry multiples, any comparable sales data?
  • business structure, and any limitations this may introduce (such as minority shareholders, shareholder agreements, preferred agency arrangements, etc) or additional opportunities it may create (strategic alliances, preferential access arrangements, absolute control or incoming owner, etc).  The governing documents of the business (constitutions, resolutions, licensing restrictions or authorizations) can add to, or detract from, the value of the business depending on whether they create certainty and control for investors, or whether they introduce restrictions and limitations.
  • governance of the business.  Is there a robust decision making framework with a strategic focus and a level of external thinking and/or skills that are adding value to the business?

 

Building and Maintaining Practice Value

Having established a clear picture of what it is you are hoping to achieve, and how others would consider where value might lie within the business, it becomes somewhat easier to then focus upon the areas that can add the most to practice value, and therefore enhance the return from your succession planning.

 

These might include:

For pure “asset sales”:

  • persistency levels
  • commission, trail, contracted fee agreement growth rates
  • client demographics and regional breakdowns
  • policy or investment types, and mix of types. if there are multiple lines of business, does each carry the same valuation multiple?
  • quality measures (e.g. client satisfaction surveys; book attrition rate, client complaints history)
  • taxation impact (e.g selling with or without GST or sales taxes – can that make a difference?)

 

For entire “entity sales”:

  • marketing and prospecting systems that are replicable and repeatable
  • quality staff & management, and supporting policies and procedures
  • financial controls and management information systems
  • business plans and budgets
  • positive and growing cash flows
  • client data management systems
  • shareholder and stakeholder communications and relationships

 

The first three steps of succession planning are arguably the most difficult, in that they are focussed on understanding the objectives, the levers that drive value, and then building a strategy (or plan) around how to achieve the optimal value.

 

That is only half of the battle…

 

Because to active the ultimate objective of the succession plan an exit has to actually happen.

 

Creating the Sale
  • Buyer identification cannot be left to chance and the whims of the market.  Have you considered what type of purchaser is a natural fit for your business?  Who would stand to gain exponentially from incorporating your business into theirs?  Are you able to create a “prospective purchaser” list of candidates?  Have you considered “internal” potential purchasers as well as “external” parties?  Internal may be other (remaining) shareholders, or staff, or contracted advisers.  External might be current competitors, or simply strategic buyers (investors) looking for additional business opportunities.
  • Part of the process of identifying ideal prospective purchasers is understanding the internal issues (if any) that may need to be resolved or addressed in advance, or managed through a sale process, and then planning for those.  Internally, there may be issues to consider with remaining minority shareholders; contracted advisers or business partners, staff and employment contracts, and, any ongoing corporate commitments (leases, loans, funding agreements, etc). All can have an impact on the structure of a deal, the value of the business, and the ease of creating a sale.
  • Are there external stakeholder issues to consider? Preferred agency or platform arrangements, contractual provisions that may be triggered by substantial change in shareholding, regulatory or licensing restrictions and so on.
  • Funding considerations. Once you have begun to form a view of the optimal purchaser (internal v external; stakeholder issues or restrictions; etc) it is prudent to think through their options for how they might fund it.  Strictly speaking this is not your problem of course, but the more you understand the mechanics of making the deal happen from both sides, then the better you are placed to be able to make the deal happen in the way you’d like.
  • You need to consider what type of approach to market is most suitable.  Having identified ideal prospective purchasers, would an open and rather public contestable tender or negotiation process work for you, or would it create potential problems with your staff and customers?  Is an exclusive and highly confidential process best?  Does that require an external facilitator or broker to manage the process?  Or, are you best to use industry networks and key contacts and good old fashioned word of mouth to attract the right potential purchasers?  All have their advantages and disadvantages of course….

 

This step of the process is often focussed on the “consideration” aspects alone, and while the structure of the settlement of the sale is very important, the elements outlined above are just as important.  The consideration, or how people will actually pay you for your business, will typically come down to one of the following (ranked from most favourable to least desirable in my view):

  1. cash upfront (a lump sum payment if given to you)
  2. deferred compensation.  (a proportion typically paid up front, with further tranches or payments triggered by ongoing business metrics being achieved)
  3. leveraged buyouts (either from minority shareholders or staff)
  4. earnouts (you continue to work or consult to business and be paid for it, and the new owners use the business earnings to pay you out)
  5. vendor financed.  (Similar to earn outs except there is no expectation of you continuing to work inside the business, you have swapped your equity position to one of being a financier relying upon the ability of the business to repay you).
  6. buyer-of-last-resort, or guaranteed buyback arrangements with suppliers
  7. equity swaps. (Typically used in a merger situation, may involve some cash or debt obligations being attached as well.)

 

Completing the Sale

When it is time to begin the actual sale process you will need to be prepared with:

  • Valuations.  Preferably 2 or 3 using different methodologies
  • Confidentiality Agreement.  The Due Diligence process can be rigorous and revealing – but is no guarantee of an eventual sale.  It is vital to ensure that any information revealed during this stage is kept confidential.
  • Restraints of Trade.  Consider what protective mechanisms need to be in place to enhance the probability of completing the sale to a buyers satisfaction, from yourself as an exiting principle and also when it comes to any staff.
  • Stakeholder communications.  Key suppliers, bankers, strategic alliances, staff and customers all need to be told the right thing at the right time, and it is best to be prepared in advance with a communications plan and timetable.
  • Transition timetable. Transferring ownership and management seamlessly is never an overnight task, but a smooth transition can be managed if all the steps have been anticipated and planned for in advance.
  • Finalizing the financials.  Upon handover ensure that the financial statements are finalized, and all legal agreements required to ensure transfer of liabilities, deeds of guarantee and future asset ownership are in place and completed.
  • finally, consider including a buy-back provision in the Sale & Purchase Agreement.  In the event that for whatever reason the new owner fumbles the ball, or defaults on payment schedules, or breaches their obligations…consider what might trigger a buy-back provision, and on what terms.
  • …then, settle the deal.

 

Personal Planning and Legacy Issues

At this point it is finally all about you!  Of course you will have prepared for this if you have been diligently creating the perfect succession plan, although it is surprising how many professionals get to this point and only then begin thinking about how to structure their own affairs.

 

Minimum considerations should include:

  • A personal retirement plan (if not a full personal financial plan, which would be much better).  Have a clear plan as to how much of the business sale proceeds need to be parked away for your own future – for most of us there will only be so many times we can build a business and sell it for a decent sum.  Don’t blow it.
  • Check that all commercial personal guarantees and obligations are removed or exhausted. Despite being covered in the Sale & Purchase Agreement, it pays to follow through and make sure any parties holding interests or guarantees have released you personally.  Don’t leave it to chance or think the sale agreement provides absolute protection.
  • Review & Update key estate planning documents.  Wills, powers of attorney (especially any limited POA’s that might have been made in favor of a business partner), trust deeds….all should be reviewed.  This is the area where professional advice and attention can provide the best chance that you get to keep and use the sale proceeds the way you want.  It is worth the money getting good advice in this area.
  • Taxation planning.  Deliberately placed after the personal retirement planning and the estate planning review as it is more important to get the strategic decisions right first, before moving to what is essentially a tactical area.  At this point if all has gone well you will have an estate that can create some additional taxation considerations, and an investment portfolio that will have tax implications as well, so it is prudent to manage the taxation position holistically.

 

As you can see, putting together the optimal exit from your business can take as much thought and preparation as the building of the business itself.  Of course a business owner doesn’t have to go to all this trouble – and most don’t.  Most go for a simple rule of thumb valuation that is typically accepted within their particular sector of the profession and go for little more than an asset sale.

 

The difference between doing that and working to a full succession plan where you sell a well structured business that is attractive to new investors can be, and usually is, many extra zero’s.  In your pocket.

 

The hard work is usually worth it though.

 

You might also be interested in this related article:

Business Planning A Struggle? Perhaps You Should Plan “Life” Instead…
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