Canadian businesses score poorly on succession planning

After a lot of blood, sweat, tears and long nights, your small business is thriving. Smart planning helped you get through the recession, and you managed to avoid some of the most common mistakes on the road to building a profitable enterprise. You’ve done well, but one day you start to think it might be nice to step back and do something else.

The only problem is that so much time and energy went into getting the business up and running, you never stopped to think about when you might be ready to hand over the reins. So now what?

According to TD Waterhouse's early October Business Succession Poll of 609 small business owners, just 24 per cent of small business owners surveyed said they had a succession plan worked out for retirement.

The good news is, you’re not alone.

With the baby boomers reaching retirement age, a large number of companies are expected change hands in the coming years. When the Canadian Federation of Independent Business (CFIB) polled its members recently about when they planned to exit their businesses, almost two-thirds said they would do so in the next decade.

That’s a huge number of businesses, but the same CFIB poll found that barely 10 per cent of entrepreneurs had any sort of formal plan in place to make it happen.

According to TD Waterhouse's early October Business Succession Poll of 609 small business owners, just 24 per cent of small business owners surveyed said they had a succession plan worked out for retirement.

Of those polled, whether they had a formal plan or not, 23 per cent said they would simply close their business when it came time to retire; 20 per cent planned to sell their business to a third party; 18 per cent expected to transfer it to a family member; 12 per cent said they'd sell to a partner or employee; and 27 per cent said they were not yet sure what they'd do.

Don’t wait to plan

Whether retirement from your business is an urgent development or a dream for years in the future, it’s never too early to start planning for it, experts say.

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Getting a windfall for selling a good business to someone is a key cog in ensuring a financial sound retirement. Having it all fall apart because of poor planning can be devastating.

"I always say the succession planning process ideally starts the minute you open your doors and start your business," consultant Susan Smith says. "That’s rarely the case, but in an ideal world it happens."

She knows of what she speaks. Formerly an accountant, Smith sold her stake in an accounting firm she founded about a decade ago.

"I woke up one day and realized I didn’t want to own an accounting firm any more, so I set about finding the best way to make it happen," she said.

More than the financial payout, one of her major concerns was making sure her clients would be satisfied with any transition. Because she had a plan in place that identified her major concerns, the search for a successor went smoothly. She ended up selling her business to a rival accounting firm relatively quickly.

Her customers were happy with how things turned out, as were Smith and the purchaser. "I knew I wanted to stay in touch with my clients for consultancy work, but I had no intention of trying to work with them as an accountant ever again," she said.

Because she had done her homework, Smith was able to structure a deal that kept everyone happy. The buyer paid for a client list, and the people on it remained loyal and continued to need accounting work.

Smith, meanwhile, was able to ensure her clients were happy, but she was also allowed to continue to work with them on other projects without stepping on the toes of the purchasing firm.

"They’ve gone on to buy two or three other accounting practices over the last decade and they still tell me mine was their happiest purchase because every angle was taken care of," Smith says.

Family planning

It all went smoothly because Smith had a plan that looked at a number of succession-related issues and was well thought-out in advance. No matter the business, a number of factors need to be considered before the owner plunges into negotiations.

A family business often presents unique challenges, for example. It’s not just the life’s work of a parent and the major source of income for an entire family, that’s being handed off, there’s also pride and family dynamics at stake.

Entrepreneurs are notoriously bad at putting a fair price tag on their business because they often can’t step back objectively and look at the operation without bias.

"If your business is family run, emotional ties make these decisions even more difficult," says Martin Rochwerg, a senior partner at Miller Thomson LLP.

Handing over the keys to a son or daughter is the dream for many small business owners. But even in cases where there’s a child ready and willing to take it on, there are pitfalls.

Valuation can be a mess, for one thing. For a fee, a chartered business valuator can help figure out what, empirically, a business is actually worth. Entrepreneurs are notoriously bad at putting a fair price tag on their business because they often can’t step back objectively and look at the operation without bias.

"They’ve typically spent decades building the business to be what it is, so it can be hard to pull back and have an outsider come in and put a number on it," Smith says.

Even if everyone can agree on a number, emotional problems can arise with other members of the family. Even if the successor is clearly the most qualified and has earned the right to buy the business, other children may feel cheated out of their inheritance.

"If you plan to leave the shares of your business to one of your children, you might want to leave non-business assets of equivalent value to your other children," Rochwerg advised in a CIBC report on succession planning recently.

When you can’t keep it in the family

"Unfortunately, you also have to plan for the worst-case scenarios," Rochwerg says.

If no suitable heir inside a family exists, the next typical exit strategy is to sell to existing employees or partners

"The management buy-out can be advantageous in ensuring continuity of personnel and the business itself," a CFIB handbook for small business owners advises. "Many proud owners of small- and medium-sized businesses don’t want to risk losing their company’s identity or seeing loyal employees transferred or terminated after the sale. These risks are more likely to be offset with a management buy-out rather than a sale to an outside party."

While selling to employees is often preferable, experts say it’s important to identify a possible successor early on and get them as involved as possible while the entrepreneurs is still in the picture.

"You need to figure out if one of your employees wants the business and can run it before you’re thinking of getting out, not after," Smith says.

Not that it always works perfectly. Smith recently worked with a customer who was doing everything right. She had identified an employee at the company who was capable and seemed eager to take over the reins one day. As it turns out, she just didn’t start the process early enough.

As the time neared and discussions got down to dollars and cents, the employee got cold feet. "At the last minute, she decided she didn’t want to pay for it," Smith said. "She decided to open up next door and sell to all her old clients from her new company."

"You can imagine, that wasn’t a fun conversation," she says.

That ugly situation could maybe have been avoided, Smith says, if she had been brought into the process sooner. Laying the groundwork for a handover years in advance, with a succession plan and transparent business evaluation would have laid the groundwork for a better outcome.

The big pitfall

One of the most common mistakes that experts come across with small businesses is a lack of succession planning simply because the entrepreneur can’t imagine life outside their small business.

"I see them all the time," Smith says. "They’re working 80 hours a week, they have no interests outside of work — these are the ones I know are going to have a hard time with the process because they think they’re ‘never going to retire.’"

Some only think about a succession plan once they’ve made a decision to retire. Or worse, they’re exiting the business kicking and screaming because of family or health issues, which means they won’t be satisfied with what comes next.

There’s nothing wrong with wanting to stay active in something you’ve created. But having an up-to-date strategy for the inevitable day when you need to move on ensures your needs are met, no matter what they are.

"It’s important to review your succession plan at least once a year to make sure it accurately reflects your current wishes and situation," Rochwerg says.

And when it comes right down to it, some entrepreneurs don’t need a pot of gold at the end of the rainbow.

"You need to figure out if you’re building a business you’re going to sell one day, or if you’re just building a job for yourself, one you’ll be happy to just walk away from one day," Smith says.

Both are valid options, but they have different requirements that take the owner down divergent paths while the business is running.

"Both are fine, but you need a plan to get there," Smith says.