Successful succession

The process of business succession can often throw up a whole range of awkward situations, but Richard Willsher discovers how a touch of forward planning could help avoid many potential obstacles

Microsoft, General Electric, Fiat, Marks & Spencer, Gucci and Versace are all companies that at one time or another have had to wrestle with the issue of succession. Some have been more successful at it than others.

Larger quoted companies perhaps have an easier time of dealing with succession because, typically, the owners and managers tend to be different and separated. Directors are likely to have defined and relatively short term contracts, which means that questions of who is going to run the company will always be on the agenda if not of immediate concern. In addition, non-executive directors and the separation of chairman and chief executive functions should provide an open and professional path to ease the transition of the business from one generation of management to the next.

But, even so, indecision and uncertainty over key positions can have serious effects on the share price and on the confidence of shareholders. Think back to the amount of press coverage generated when Bill Gates sidestepped from CEO of Microsoft. More recently the deaths of Gianni and Umberto Agnelli caused speculation on Fiat's long term future. And elsewhere in Italy the dynastic struggle, the death and the ageing of their eponymous family members have made fashion houses Gucci, Versace and Armani respectively the stuff of both the business pages and the gossip columns.

Private business

Succession may be a particularly crucial issue in the fashion sector, where businesses are typically founded and run by talented individuals, but all family run and privately owned businesses have to face it sooner or later. This is underscored by Professor Bill Keogh, enterprise co-ordinator at Scotland's Heriot-Watt University, who has questioned why it is that only '30% of the world's family businesses are passed down to the second generation and only 10% to a third generation. 'Is [this],' he asks, 'because more than half of owner-managers have no succession plan, and one in four do not know what would actually happen to the company shares if a major shareholder died?'

Not all companies can pass this test with such flying colours as Germany's eight-generation writing implements group Faber-Castell, or Barilla, the Italian food company now in its fourth generation. And just how big an issue this is is demonstrated by a 2004 report published the UK's Small Business Service. Passing the Baton - Encouraging Successful Business Transfers incorporated research across a range of countries which showed that, in the US, 40% of business are facing a transfer of ownership, in Germany (the state of Baden-Wurttemberg) 11%-15% of all existing businesses are forecast to undergo an ownership change in the next three years, and in the Netherlands the transfer of 25% of all businesses would occur in the next 10 years - a total of 80,000 businesses.

This is a matter of widespread concern regardless of where businesses are based. Paul Hennessey, partner in charge of business and wealth services for PriceWaterhouseCoopers in the Republic of Ireland, notes: 'Once you have equity in a privately owned business and you have offspring you've got to think about the succession issue because it's not just succession in terms of who manages the business but also in terms of who owns it.'

Hennessey stresses that the earlier a business starts considering its succession arrangements the better. Even in newly established businesses, typically founded say by a single person, a husband and wife team or a small number of directors, there is the operational issue on what happens to the business if for any reason a key member of staff falls away. Who will fulfil his or her role operationally and in terms of ownership of the company? What is the right thing to do about the shares they own in the business?

Businesses, perhaps longer established, where there are other family members involved in one capacity or another - either passive or active - pose some difficult questions. Some of these can be whether any of the family has the ability to run the business and the willingness or interest in doing so. Then who owns the shares and what rules does the business set regarding disposing of those shares?

Things can get complicated, which is why Paul Hennessey stresses the importance of allowing plenty of time for discussing and deciding on such matters. And it is not purely a matter of time but also one of method. A business needs to define what he terms an 'inclusive process' by which key issues are discussed between the interested parties and that ways of dealing with them are agreed and established for when future action needs to be taken.

Control, information and tax

Control is often a primary consideration, especially where outside shareholders and managers become involved. For example, according to Robert Klein, a director of 3i in Germany, many founders of medium sized German companies care deeply about the degree of social responsibility they owe to their local communities, about the independence of their businesses and about maintaining a high level of family control. Simply selling up and leaving the business is not an acceptable option.

However, management buy-outs and buy-ins are commonly used in a number of countries as methods of passing on a business to new management either from inside or outside of the company. The business owner can realise value for his equity but the new management will also typically want to benefit from any future increase in the value of that equity as a result of its efforts. This will be especially true if private equity providers or other outside financiers are involved. They will want to ensure there are as few constraints on their upside as possible once the investment decision is made.

Another key issue highlighted in research carried by Nottingham University's Centre for Management Buy-Out Research is the transparency of information available from family owned businesses. Among the conclusions that it arrives at are that 'considerable mismatches of information may exist between family firm owners and MBO/I purchasers of family firms'. In addition there can be a lack of trust between business owners and new investors and management teams that can lead to breakdowns in communications.

If control and quality of information are concerns for the next generation, tax will be a big issue with the old guard. Understandably, a retiring entrepreneur will want to reap the best value he can from the business that he worked long and hard to develop. Paying some of his gains to the government is unlikely to appeal. Not only is careful forward planning well in advance highly desirable but business advisers working on succession issues need to have a high level of tax planning capability to bring to bear on the situation.

As mid-20th century baby-boomer entrepreneurs face old age in increasing numbers, planning for successful succession is a major concern for them as well as for those working for the businesses they created. And it is also the case that any business, large or small, public or privately owned or run, will have to deal with succession issues sooner or later. Succession experts uniformly say that starting early in thinking about them is vital. They say that setting up workable succession processes can save a lot pain and distress later on and that succession should in any event always be under review, even if it is not a subject for immediate action.

Accountancy Practices and the Provision of Ownership Succession Advice by Chris Martin has been published as ACCA Research Report No 8. Read the executive summary, or download the full report in PDF format, at www.accaglobal.com/research/summaries/2290672.
Richard Willsher is a financial and business writer with a background in investment banking.