What if something happens to you and you can no longer run your business? Who will take over your business and run it the way you want it to?
Establishing a solid business succession plan helps ensure that your business passes over smoothly.
Business succession planning, also known as business continuation planning, is about planning for the continuation of the business after the departure of a business owner. A clearly articulated business succession plan specifies what happens in events such as the owner’s retirement, death, or disability.
A good business succession plan usually includes, among others:
· Articulation of objectives, such as who will be authorized to own and manage the business;
Retirement planning, disability planning, and business owner estate planning;
· Articulation of the process, such as to whom to transfer shares and how to do it, and how the transfer will finance the transfer;
Analyze if there are existing life insurance and investments to provide funds to facilitate the transfer of ownership. If not, how will the gaps be filled?
Analysis of shareholder agreements; and
Assessment of the business environment and strategy, management capabilities and deficiencies, corporate structure.
Why Should Business Owners Consider Business Succession Planning?
The business can be transferred more easily, as potential obstacles have been anticipated and addressed.
Income for the business owner through insurance policies, for example, continuing income for the disabled or seriously ill business owner, or source of income for the family of the deceased business owner
Reduction of the probability of forced liquidation of the company due to sudden death or permanent disability of the owner of the company.
Financing is required for certain components of a good business succession plan to work. Some common ways to finance an estate plan include investments, internal reserves, and bank loans.
However, insurance is generally preferred as it is the most effective and least expensive solution compared to the other options.
Each owner’s life and disability insurance ensures that some of the financial risk is transferred to an insurance company in the event that one of the owners dies. The proceeds will be used to purchase the deceased owner’s business share.
Homeowners can choose their preferred property from insurance policies through either agreement, “cross purchase agreement” or “entity purchase agreement”.
Cross purchase agreement
In a cross-purchase agreement, the co-owners will buy and own a policy with each other. When an owner dies, the proceeds from their policy will be paid to the surviving owners, who will use the proceeds to purchase the outgoing owner’s business interest at a pre-agreed price.
However, this type of agreement has its limitations. One key is that, in a company with a large number of co-owners (10 or more), it is impractical for each owner to maintain separate policies from each other. The cost of each policy can differ due to a great disparity between the age of the owners, resulting in inequity.
In this case, an entity purchase agreement is often preferred.
Entity purchase agreement
In an entity purchase agreement, the company itself purchases a single policy for each owner, becoming both the owner and the beneficiary of the policy. When an owner dies, the business will use the proceeds of the policy to purchase the deceased owner’s business interest. All costs are absorbed by the company and equity is maintained between the co-owners.
What Happens Without a Business Succession Plan?
Your business can suffer dire consequences without a proper business succession plan in the event of an unexpected death or permanent disability.
Without a business succession plan in place, these scenarios could happen.
If the business is shared among the business owners, then the remaining owners can fight for the shares of the leaving business owner or for the percentage of the business.
There could also be a possible dispute between the sellers and buyers of the company. For example, the buyer may insist on a lower price versus the higher price of the seller.
In the event of permanent disability or serious illness of the business owner, business operations could be affected as they may not be able to work. This could also affect customers’ faith, income, and morale in the company.
The income stream for the owner’s family will be cut off if the business owner, who is the sole breadwinner, dies unexpectedly.
Don’t let the entire business you’ve built collapse the moment you’re not there. Planning ahead with a proper business succession plan before an unexpected or premature event occurs can help secure your business legacy, ensuring that you and your family are well cared for.
