Getting succession planning right can be difficult, even in the most robust of economic environments.
There are many working parts involved in a succession plan from identifying the right time to go, identifying the right successor (ie, whether that be someone in your business or a trade sale), matching of the motivations and drivers of the vendor and successor, how to structure the succession to ensure you have addressed any tax planning issues as well as the funding requirements of the succession. Getting these parts all lined up should lead to receiving a fair cash value for the business you have built.
Based on experience in assisting with the funding of succession plans for financial planning and accounting firms it is important to get the structure right in order for the funding mechanism to be effective.
A succession plan can take anywhere from one year to beyond five years depending on the timeframe the vendor has stipulated they wish to exit over and the funding capacity of the successor. The financial constraints of the typical successor mean that successions are being stretched out over longer periods.
In structuring the succession it is important for the parties to understand each other’s motivations and time lines. This enables the structuring of a gradual sell down over a prescribed timeframe. It is also important for the vendor to understand that the successor, whilst buying into the business, is buying EBIT (earnings before interest and tax) which will be used to fund the principal and interest repayments to the bank to allow further equity to be acquired by the successor over time. Vendors need to maximise the business EBIT to make it attractive for a successor to acquire equity in the business.
The succession should be structured so that all parties have some ‘hurt’ in the succession. Hurt in the succession could be in the form of the vendor providing equity in the business as security for bank funding provided for the succession, cash equity provided by the successor towards the succession or the successor pledging personal assets in support of bank funding provided for the succession.
When providing funding for succession typically banks are looking for the following as a minimum
- Security over the whole business including the vendors remaining equity share
- Security over the entity the successor is using to acquire equity from the vendor
- Guarantee from the successor
- Tripartite Deed with the financial planning practice’s Dealer Group (not applicable for own AFSL practices or accounting practices)
In summary succession structuring can be complex however for all parties involved there can be great rewards if done right. Typically it pays to engage your trusted advisors and succession experts at an early stage.
