When Bill Gates decided to give up his responsibilities at Microsoft (NASDAQ:MSFT) to focus on his philanthropic activities, it marked the culmination of a long transition over the past several years. After spending much of his life as the active head of the business, he started giving up certain responsibilities to others, keeping his fingers in the management of the company but making sure that the pieces were in place for him to leave when the time came. Having gone through this phase-down process, Gates can rest assured that his company will continue to succeed and to provide him with the financial security he enjoys as the richest individual in the world.
Now, I know you're not Bill Gates, and your business isn't Microsoft. If you're a small-business owner, however, you've invested a lot of sweat, tears, time, and money into your company. In contrast, you probably haven't taken a lot of money out of your business. For most owners, their interest in their business is the biggest asset they have, and few business owners use valuable cash resources to diversify their holdings and invest in a variety of different assets. As a result, many business owners are counting on their business to provide them with the financial support they will need for themselves after retirement and for their families after they die.
Of course, getting cash out of your business isn't as simple as handing over the keys and having someone write you a check. Your customers use your products or services because they trust you. If they stop seeing you, they may think twice about patronizing your company. Making your customers comfortable with who will take over your business is essential to your company's continuing success.
Who should take over?
Deciding who should run the business after you retire is extremely difficult. If you have children, one or more of them may want to be involved, but this raises some serious concerns. First, because your business represents so much of both your life and your financial net worth, it's hard to pick one child to run the business without seeming unfair to your other children. Second, from an objective point of view, your children may not be the ideal candidates to run your business. You may have longtime employees who know your business inside and out and would do a much better job of retaining customers and managing the company.
In the end, your decision about who will take over your business will depend on a number of factors, including not only financial considerations but also family values and community responsibility. There is no one right answer, but for any solution to work, it will take family members, company employees, and customers working together and communicating with each other.
Getting money for your retirement
A big part of succession planning is figuring out how you can get money to meet the personal needs of you and your family after you retire or die. To figure out the best solution, there are a number of considerations for you to ponder.
It's important to work out a long-range retirement plan well before you expect to retire. Competitors or business owners in related businesses may have an interest in purchasing your company, but they will need assurance that the business will be as valuable in their hands as it is in yours. Business purchase arrangements come in many forms, ranging from an outright one-time purchase price to long-term payouts over several years that are based on how well the business does in the hands of the new owners. These arrangements vary widely among different industries. The nature of your business will dictate what sort of arrangement will work best.
If you plan to have family members or employees take over your business, then they likely will not have the financial resources necessary to buy out your entire interest in the company immediately. However, by having the company pay you a return on your ownership interest in the form of dividends, you may be able to get the cash you need for your living expenses. With your immediate needs met, you may then have the flexibility to let your successor buy the business from you over a longer period of time, making payments in installments over several years.
Insuring against the unexpected
One of the hardest situations families face is when a business owner dies without a succession plan. Without good planning, it may be impossible to continue the business, and much or all of the value of the business may be lost. If the business has substantial debt, creditors may end up foreclosing on business assets, leaving nothing for family members.
A common way to avoid this is for either the named successor or the company itself to buy a life insurance policy on the business owner's life. Sometimes called "key man" or "key employee insurance," the policy provides cash when the business owner dies. The successor or the company then uses this cash to purchase the ownership interest in the company from the estate of the business owner. The end result is that the business owner's family gets the money it needs to meet its financial needs, while the successor is able to obtain ownership of the company in order to continue running the business.
Investing for yourself
Although it's difficult, the best strategy for making sure you can retire is to get money into a diversified investment portfolio throughout your lifetime. Whether you do it by taking advantage of the many retirement plan options available to small-business owners or simply by investing part of your salary or draw, having at least some assets outside your business gives you a safety net against unexpected challenges.
Planning for how your business will go on without you is as challenging as planning for how your business first started. Having succeeded in creating your business, there's no reason why you can't succeed in planning for its continuing success.
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Fool contributor Dan Caplinger welcomes your feedback. He doesn't own shares in any of the companies mentioned in this article. The Motley Fool has an ironclad disclosure policy.
