by
Craig Hall
| Feb 07, 2025
Small businesses are the backbone of the U.S. economy, having generated 12.9 million net new jobs over the past 25 years, accounting for two out of every three jobs added to the economy1.
As a small business owner, this is a testament to your significant contribution to economic growth and job creation. To help ensure the continued success and longevity of your enterprise, it's essential to have a robust succession plan in place. Without a structured transition strategy, businesses risk operational disruptions, valuation declines, and unforeseen tax implications.
Why Succession Planning Matters
Like many business owners, you may hope to one day step back from your firm to enjoy a well-deserved retirement. However, funding that retirement often depends on the wealth or income generated by the very business you’re stepping away from. Therein lies the core issue addressed by succession planning: maintaining the financial value of a business even as the current leadership team steps aside.
Depending on the circumstances, succession planning could be about far more than your personal finances. Closely-held businesses are often family organizations, designed to be passed down to children or heirs. Despite the importance of succession planning in maintaining generational wealth, surveys indicate that as few as 34% of family businesses have a transition plan in place2.
A succession plan can also prevent personal disappointment tied to an owner’s emotional investment in a company. According to a McKinsey & Company survey, more than a quarter of all executive transitions are viewed as a failure after two years3. For this reason, a robust succession plan needs to address the ‘soft’ questions involved, such as an owner’s hopes and goals for the business after they step away. In fact, answering these questions is one of the first steps in the succession planning process.
Key Steps in Creating a Succession Plan
1. Clarify your objectives and timeline.
Any effective plan needs to be oriented toward an objective, and a succession plan is no different. The first step involved in succession planning is to clarify an owner’s goals and personal timeline.
Key questions to answer at this stage include:
Answers to these questions don’t need to be finalized immediately. Thinking through your responses, however, can help guide the rest of the succession planning process.
2. Identify and prepare a successor.
Selecting and preparing a successor is a crucial step in ensuring a successful business transition, especially for internal successions. Simply assuming that a child or relative will take over one day does not guarantee the long-term success of the business. While family dynamics can add complexity to the process, evaluating potential successors based on their leadership abilities and experience helps preserve the company’s value. A smooth transition is more likely when successors are given gradual leadership responsibilities over time. Proactively identifying skill gaps and creating a development plan ensures they are well-equipped to take on ownership and leadership when the time comes.
3. Business valuation and financial preparation.
Understanding what your business is worth can be a complex endeavor. Valuation can be approached in myriad ways, including cash flow analysis, comparable company analysis, and liquidation value. Working with professional, independent valuation experts can help synthesize these approaches and offer a dispassionate look at the true worth of your business.
The valuation process can also help you make key transition decisions, like whether to keep the business as an income-generating asset or sell your shares entirely. Finally, this step will involve preparing your firm’s financial statements and accounting processes to be managed by new leadership.
4. Develop a legal and structural transition plan.
After making your business succession decisions, you’ll still need to implement the legal structures necessary to make those decisions binding. These can include buy-sell agreements, partnership contracts, and power of attorney documents. In addition, vehicles like Employee Stock Ownership Plans and Family Limited Partnerships can potentially improve the tax efficiency of the transition.
5. Communicate the succession plan.
Once the succession plan has been decided upon and implemented, business owners should communicate that plan to key stakeholders. Fostering transparency with employees and clients will build confidence and buy-in. Moreover, clear communication with family members can help navigate tension that might arise due to succession decisions.
Common Succession Pitfalls to Avoid
With disciplined planning and the support of key advisors, owners can achieve a successful transition without compromising business value. This process is not without risks, however, and common pitfalls can trip up even committed owners:
- Lack of a clear timeline. Because succession planning does not result in an immediate payoff, it’s common for owners to put off the process while focusing on day-to-day needs. Delaying planning, however, can cause rushed or incomplete transitions, potentially impairing value or disrupting operations.
- Unprepared successors. Having a competent heir is critical, with up to 25% of failed family business transitions lacking a well-prepared successor4. Ensuring that family members understand the choice of successor is important too, with 60% of failed transitions also involving strained personal relationships.
Failing to assemble a team. Failing to assemble a team with the proper experience or expertise can lead to issues that undermine long-term wealth preservation. Potential problems include inaccurate valuations, failure to account for tax considerations, or agreements that leave owners open to legal liability.
As you prepare to engage in succession planning, an experienced and committed partner can help you avoid pitfalls and execute a successful transition. At Badgley Phelps, we work closely with our entrepreneur and executive clients to navigate business transitions and support their succession planning process.
How Badgley Phelps Can Support Your Business Succession Plan
As an experienced wealth management firm, Badgley Phelps can provide comprehensive financial planning to support your business succession process. That includes not only guidance on valuation and tax minimization, but also post-transition financial plans to complement your existing retirement plan. To ensure that all elements of your succession plan are aligned, we engage in close cooperation with other members of your succession team, including legal and tax professionals.
Thanks to our collaborative client relationships, we’re also proud to serve as a source of counsel on navigating the personal dynamics of family business transitions. Our intergenerational approach to wealth management can provide a measure of continuity, even as leadership changes hands. Ultimately, no business transition can hope to be perfectly seamless – but with proactive planning, tailored guidance, and expert support, succession can serve to both preserve long-term wealth and cement a lasting legacy.
Conclusion: Preparing to Succeed
Succession planning is an essential step in preparing for a business transition, but successful planning cannot happen overnight. To allow sufficient time to nurture the next generation of business leaders and access the right professional guidance, planning should begin years ahead of a prospective transition.
While it can be challenging for business owners to justify spending time on topics far removed from day-to-day operations, succession planning helps ensure the long-term viability of a company. That can be important not just for your personal retirement plan, but also in terms of leaving a legacy for the next generation.
Are you a business owner ready to start your succession planning? Contact Badgley Phelps today to explore how our experienced wealth management team can help you navigate the process. By integrating succession planning with other long-term financial goals, we strive to help business owners unlock lasting value for both themselves and their families.