Business Succession - means planning for the future

This article follows on from “Is your business structured correctly?” published in the April, 2010 issue of Marine Business.

Death, retirement and long term disability are seldom at the forefront of one’s mind when deciding to form or enter a business. But if any one of these things were to happen, where would this leave you, your family and your business? It is here that the concept of business succession planning becomes important.

A business succession plan provides for the passing of ownership of a business from the hands of its current owner/s into the hands of others and can occur through several ways discussed later in this article. Whilst ideally entered into at the commencement of a business, creating a succession plan further down the line remains a critical step in running a successful business. Armed with this knowledge it’s important to act in a timely manner and put a succession plan in place, before any of these unexpected events have the opportunity to occur.

Planning for various types of businesses

Business succession planning varies according to the type of business that is involved. The simplest form of business is the sole trader. For a sole trader the main advantage of business succession planning lies in its relative simplicity with the process involving one person passing on the business, whether through selling, willing or gifting it to another person or family member. The family member scenario of gifting may occur where a son has worked for the business for many years and the parent hands down the business without payment. The succession plan in this instance may be as simple as the owner setting out a statement of what is to happen in the case of sudden death or how the business is to be sold, etc. However, any plan or agreement should carefully consider such things as; the valuation of the business, how its liabilities are dealt with, what capital gains tax events are triggered if any and clauses in Wills if willing the business.

Business succession becomes slightly more complicated within a partnership as numerous persons are involved.  Similarly to a sole trader, any business succession plan or agreement should be carefully considered by the partnership. Succession is important in determining when, how and on what terms one partner can divulge themselves of their part in the partnership. A major part of the process is determining the agreed value of the interests that each partner has brought into the partnership. The best and fairest method should be chosen, as well as obtaining the consent of the other partners involved of how this process looks.

At first glance this would appear to be a particularly difficult consideration; how do you determine the exact percentage of what an interest is worth in a way that would be fair to all partners? Rather than a major stumbling block, this can be viewed as a challenge that can be overcome through the attainment of appropriate legal and financial advice and active participation by all those involved.  

The third type of business structure is the company, which may be more appealing as shares are readily transferred alleviating the requirement for valuation of the owners input. An important part of the company structure is perpetual succession, which means that a company will continue until it is either formerly wound up or dissolved. Thus, the death of a director does not affect the existence of a company, in contrast to a sole trader or partnership that is deemed to have come to an end upon the death of a partner. Succession within a company operates by way of a formalised arrangement that may be contained in the constitution (or rules) of the company. An effective company succession plan will include such things as ensuring continuity of leadership within a company by having a process in place whereby if a director requires replacement a suitable well-trained and skilled replacement can immediately step in and fill the position. Further, valuation is not in question as shares are already valued and are readily transferable where a director dies leaving his shares to his family. In this article a reference to directors is a reference to those who are the directors and owners of the company.

Business succession in practice

The creation of an effective business succession plan will require the professional expertise of an accountant and solicitor. It will also need to be regularly reviewed to account for changes in the business or personal situation of its owners. The form that a business succession plan will take also depends on the type of business that is involved; from the owner operated mobile shipwright through to the big dealerships buying and selling large vessels.  

Firstly, consider the example of the sole trader; a mobile shipwright who has commenced business for the first time and is self-employed. It is important that business succession planning is considered as the success and continuation of the business is tied directly to the ability and health of the shipwright.  

In terms of succession our shipwright has a number of options at their disposal. Within the terms of their Will the shipwright could nominate a person to whom they wish to leave their business, in the event of their death. But if merely wanting to retire, or wishing to embark on another venture, our shipwright could choose to sell the business to someone else, or give it to someone as a gift as previously discussed. The latter could be a particularly attractive option if our shipwright desires to keep the business within the family.  
Continuing with the theme of the shipwright, consider that our shipwright is approached by someone bringing an identical business to the table. The two shipwrights decide to become partners, with the composite business benefiting from an expanded service area, shared business systems, increased capital and machinery and shared experience. In order to try and avoid the problems that can often accompany partnerships, the shipwrights in this scenario should enter into an agreement, ideally at the beginning of the partnership. That being said, the sooner the process of succession is considered in an existing partnership the better. Each shipwright should make their intentions clear as to the future of their particular interests should an event such as death, retirement or sickness occur.

A number of issues which relate to business succession should be included in this agreement.  Essentially, the owner of the interest being disposed of should be identified, as well as the type of interest that is involved. The agreement should also specify who is to acquire the interest, how the value of the interest is to be determined and when a review of this value should take place.

As noted earlier, determining the agreed value of a partner;s interest is an important and often complicated component of a partnership agreement, especially as what is brought into a partnership may not necessarily take a monetary form. A new partner may bring with them any contacts that they already have established within the marine business world, thus bringing more business into the partnership.  But how would you determine how much this is worth? In this situation it would be important that the process of valuation is clearly defined within the partnership agreement to avoid the potential for disputes in the future.

But let us pause for a moment to consider the following scenario. Our shipwright mates, prior to forming their partnership, are approached by a marina operator who wants to incorporate their expertise into a single one stop shop where the customer can purchase new, fully imported and locally produced vessels; have the vessels maintained, serviced and stored in dry storage or on the marina; and sell or trade up the vessels.  

Using this example, let us assume that the shipwright and the marine operator become the directors of a company. Although more expensive and complex to form and maintain, than a partnership, this would be the business structure of most benefit to directors due to the differences in what they bring to the table. Further, there is considerable scope for tax plans and trust creation, shares can be bought and sold without altering the corporate structure and perpetual succession would ensure the longevity of this business venture. The directors would need to be proactive in ensuring that a business succession plan is in place, whether contained in the constitution or by some other established agreement.  

Given the broadness of this topic this article cannot canvass all succession possibilities however; it provides practical solutions specifically with respect to the three scenarios above and some insight into the mechanics of succession planning. Athough each type of business has its pros and cons attached to the implementation of a succession plan the protection it affords to the future of you, your family and your marine business cannot be understated. If your business doesn’t have a succession plan, given the possibility of unexpected events, now is the time to be planning your business succession.