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According to Exit Planning Institute, an astounding 79% of business owners have no written transition plan and 48% have done no exit planning at all. On top of that, roughly 50% of all business exits are involuntary and are forced by dramatic, unanticipated external factors.
A business typically represents 80-90% of an owner's total net worth — that certainly warrants succession planning attention! You need to have a well-thought-out plan of what should occur if something unexpected happens to you or someone in your family and directly impacts your business.
Dwight Eisenhower once said, "Planning is everything. The plan is nothing." A great plan provides the strategic scaffolding to respond to change and handle the certainty of uncertainty. Planning should be active and always present tense.
Business owners need to plan for how they want to walk away from their business not only in a perfect scenario, but also in a worst-case situation. Researcher and author Jim Collins famously identified productive paranoia as a common leadership trait of top CEOs. By asking "What if?" and planning for unexpected change, leaders can handle disruptions more easily.
Throughout the exit planning process, it is critical to consider the following scenarios that can force owners to exit their businesses abruptly, often leaving value on the table. Thoughtful contingency plans can help to protect and preserve owner value. These contingencies are often referred to as the 5 Ds:
We often think that a will addresses the needs of a business upon the death of an owner. If your partner or spouse passes, do you have the ability to continue their job at the level they were performing it? If you’re put in a position where you need to stay home to take care of a suddenly sick or disabled family member, what will happen if you are forced to exit your business due to your inability to come into work?
It is important to run through the tough questions about what you want to happen to your business if you have to exit your business prematurely. Studies have shown that in the four years following an owner’s death, sales declined 60% on average and employment fell 17%, resulting in a decline of the overall valuation of a business. Additionally, two years after an owner’s death, firms are 20% more likely to fail or file for bankruptcy.
It is important to have a succession plan in place to avoid these issues happening to your business in your sudden absence.
What do you want your family, clients, and management team to know? What do you want to happen if you die or become disabled? What should happen if you or your spouse wants a divorce? What happens if there is a disagreement between business partners? An unplanned exit can not only impact the day-to-day operations of your business, but also the tax and legal aspects of it, along with the value of your company. You need to create contingency plans for each of the 5 Ds to be properly prepared for any unplanned scenario.
While each of these unplanned events will undoubtedly be treated differently, an important step to take is creating and communicating the action plan for each contingency. This is done through a contingency letter, which serves as a playbook that is a shorthand to your operating agreement and your estate planning documents. Your contingency letter should outline what you, as the owner, would like to happen if you can no longer operate the business.
Have you planned for these contingencies? Part of the role a Certified Exit Planning Advisor (CEPA®) plays is to educate a business owner on how to de-risk the business. Collaboratively, risks can be identified and mitigated. If you want to start planning for the 5 Ds and would like more information, contact our succession planning experts today.