Be Ready with a Succession StrategyChia-Li Chien, Ph.D., CFP®, PMP®, CPBC
Chia-Li Chien | Aug. 27, 2014
You can’t help but feel excited when getting calls from investment bankers. It’s a boost to your ego when private equity firms and even brokers express interest in investing in your business. And before you know it, they’re in your office and you’ve gotten to know their niche and how they might help you expand your business. You like that they promise to leave all management decisions to you, and simply be available for advice when needed.
Many owners often come to me for advice, but not because discussions with these investors are complex or confusing. It’s that owners want to make sure they can strategically align with the right investor(s) and create a win-win situation for the family, customers and employees. 
That being said, using equity to finance your business or 3rd party selling is only one of twenty-seven ways for succession planning. You, the owner can be equitably compensated from your business if you align the selling methods with your goals strategically. There are two major transfer channels: Internal and External. 
Internal channels include transfers to:
- Partners/ Co-owners
- Family members
- Charitable trusts
External channels include:
- Retirement/Leaving the business
- Public offerings
Here is the reality—you want more than that.
I am not talking about only money here. Many owners tell me that money does not motivate them when succession planning. You want to take care of yourself, family, customers, employees, suppliers, community, etc. You also are very generous; you want your employees to have a piece of the action.
Jack’s business was growing, so he decided they should create an incentive plan for their key management team. In 2013, Twitter’s IPO officially created a public market for the social media platform company. Once public, anyone could own a portion of Twitter. It became publically owned. Twitter made its shares publically available. In Jack’s case, his employees or key management team would become part owners of Jack’s company. Unlike Twitter, Jack created a private market for his own business.
Thinking in terms of bonuses, retention, stock options, etc., Jack felt he had all the right people to advise him on how to incentivize employees. They believed strongly that an incentive plan would allow them to empower the employees to help the company grow.
Jack’s accounting team had forecasted the number of shares, price of stocks, and carved out a portion of that to predict the stock would move from point A to point B. They used EBIDTA (Earning Before Interest, Depreciation, Tax and Amortization) as a key metric to predict how and which employees would get a percentage of company.
However, there were few remaining questions with this plan:
A. How much was Jack’s company worth?
Jack failed to engage a certified valuation company to help determine his company’s worth. (A valuation company works like a home appraisal company that helps owners determine what his or her company is worth in the open market if they sold it. They compare your business to other companies in your industry. This gives you much more insight about his or her company marketability.) Without this determination of value, how could Jack know how much his company’s stock was worth?
B. What is EBITDA and how could the key management team grow that number?
Evelyn, the operations director, did not understand the incentive. Evelyn told me that the key management team did not understand EBITDA and how they could contribute to EBITDA. On top of that, she did not understand how the stock options worked. Jack did not engage the right specialists to communicate the incentive plan. The key management team was convinced they would never see anything from the plan and they were alienated. Four years went by, and every year they reviewed the EBITDA. Evelyn told me that annual meeting was a joke. None of the key management team got anything and could not see the point of the incentive plan.
C. Who are the right people to design and implement the plan?
Jack’s CPA, attorney and auditor indicated the plan was fine. None of these people actually designed the plan. It was all in Jack’s head and his controller put together some numbers. Since these advisors were told what to do, from their point of view, the incentive plan looked fine, was legal and fair. But their point of view had nothing to do with how to help key management team meet Jack’s high growth plan.
D. What was Jack’s overall succession strategy or plan?
Jack should have started his succession strategy before committing to any incentive stock appreciation plan. After his failed attempt, Jack asked me to review the entire incentive plan. Instead, I asked Jack to start developing his succession strategy. After several sessions, Jack realized that he really wanted to sell to a 3rd party. The question then became how could Jack sell to a 3rd party and still provide the incentive plan for his key management team.
There are so many ways owners like Jack who could accomplish his or her goals through a proper succession strategy and implementation plan. Sometimes a tactical tool, such as creating an incentive stock appreciation plan sounds nice. However, tactical tools only work if part of the overall succession strategy.
What happen to Jack? Well, after a succession strategy was developed, my team and I helped him implement it over a period of time. The growth plan was co-created with the key management team. The team set their own metrics not based on a lagging indicator such as EBITDA, but leading indicators such as 10% organic sales growth from the existing top 20% customers. The team also recommended a cash bonus plan Jack agreed to. We then helped develop a three-tier scenario along with their leading indicators. Each tier had a different range of incentives. 
Did the plan work? You bet! Jack’s team hit the top tier scenario (best case) in first year and is on track to achieve Jack’s overall succession strategy.
Before you agree to meet with investment bankers or a private equity firm, why not develop a succession strategy first? A succession strategy can help you know what type of investor is the best fit in helping you achieve your goals. Most importantly, it provides a road map to help you stay focused and continue to meet goals for all stakeholders. (Your stakeholders include you, your family, customers, employees, suppliers, potential investors, advisors, etc.)
 Blanchard, Ken (2009) Leading at a Higher Level. Upper Saddle River, New Jersey: FT Press.
 Chien, Chia-Li (2012). Work Toward Reward. Bloomington, IN: iUniverse. P71-80.
 Brush, C. G., Edelman, L. F., & Manolova, T. S. (2012). Ready for funding? Entrepreneurial ventures and the pursuit of angel financing. Venture Capital, 14(2/3), 111-129. doi:10.1080/13691066.2012.654604