Bradley J. Franc is an attorney for the Pittsburg-based Houston Harbaugh Law Office. He concentrates his practice in the areas of business planning, commercial transactions, federal and state tax issues, and estate and succession planning. Brad has structured sophisticated estate and succession plans for closely held business owners and high net worth individuals. He has worked with affluent business owners to strategically integrate their business estate and charitable planning objectives. Clients represented include closely held businesses, technology-based firms, professional athletes and affluent individuals. This two-part Q&A with Brad was a chance for Industrial Distribution to find out exactly what succession planning involves, and what some common mistakes are in the process.
Industrial Distribution: Why is succession planning for a business so important?
Franc: More than 70 percent of businesses fail from one generation to the next, and the chances of it failing from second to third generation are in the teens. Those who have it on their radar screen understand that it is important to address this issue.
ID: Your job as a succession planning attorney highlights just how important succession planning is to you and to a company. Is it true only for family owned operations, or is it just that much more important for them than for public companies?
Franc: Publicly held companies are slightly different. What I try to tell people is that closely held businesses, not just family held businesses, are at risk and face challenges with succession planning. You may have one or two or three business owners that are not related at all and they are starting to age and to question becomes what happens to their ownership with respect to when they want to exit and who takes over the business. The family business becomes more of a challenge because while all business decisions have a degree of emotion to them, you add a higher level emotion when it is a family member or family members. Now it becomes a decision between selecting and picking a particular family member over another family member. I heard a quote a while back “There is a difference between ownership and management. Ownership may be something that you are entitled to by inheritance, but management has to be earned.” That is why I think it is a little more of a challenge although you still have succession planning with a closely-held, non-family business. The publicly held companies aren’t as much of a challenge, but one of the biggest companies in the US, Berkshire Hathaway, has already talked about finding a succession plan for Buffet.
When you have a founder who has done succession planning and the next generation happens to pass away, what do you do then? What happens then? What I try to tell people when I do succession plans for them, from generation one to generation two or from two to three, is that you need to make sure that the next generation has their estate planned and in order as well. What you don’t want to have happen is for the parents to transfer the business to the son or the daughter, and then the son or the daughter pass away, and because they don’t have a will, the business transfers back to the parent. Now you have double taxation. When you are transferring a business down to the next generation, you have to keep in mind, or have to plan for, what happens if that next generation passes away and where you want things to go from there. When I am working with family business owners, a lot of times what we have happen or that we do is transfer the stock down to the next generation. If the next generation dies unexpectedly, instead of giving it back to the parent, and if the children of the next generation are too young, what we do is put it into a trust for the child, but let the original parents be the trustee of the trust. Then they don’t get the property back from a tax standpoint, but they still get to have some control in the business as the next generation gets ready to run it.
ID: It is important to have the succession plan in place for the next generation, and the estates in order for generation number two, so it has somewhere to go in the unlikely event that something was to happen to them. So if a company doesn’t have a succession plan, what is the first step they should take to create one or where should they start?
Where they would start, or where they should start, is to try to find some professionals who are experienced in succession planning. That may sound a little self-serving, but there are many attorneys, accountants, financial planners out there, and they all have their own areas of expertise. It is not unusual for me to come in and work with another law firm or lawyer that just doesn’t have the experience that I have. You should find an experienced professional, not because I am smarter than the next person, but because someone like me has seen all the different options and different events and can bring that experience to the table. The business owner can say that they "like plans A, B, and C," but don’t like C, D, or F. But I can tell them that A & B might not be available, and that is how I can help them. That’s what experienced professional brings: it’s just options that you can provide to the businesses.
The second thing is those experienced professionals and the business owner need to sit down from a very high level standpoint and decide what their objectives are with respect to the business.
What I try to tell people is that the first person that I need to make sure to represent and protect is you. Great estate planning technique might be to give all your business to your kids, but now you are a pauper. It is a balancing act. One of the objectives of course is to take care of mom and dad and they need to make sure that they are financially provided for. The next objective is typically to take care of the business. We have this business that takes care of many families: how is it best to lead this business into the next generation? Identifying the heir apparent is also an important objective. Then the other objective is how are we going to get there? What is the process? How costly is it? How long is it going to take? There are short-term steps and there are long-term steps that we need to take.
When I say to a business owner, what are the most important objectives for you and this business? They may get overwhelmed at first but after they name four or five, they generally start to run out of really important ones. I am here to educate, but the client ultimately makes the executive decision. They may not want to give the business to anybody: they may want to give it to charity and that is just as okay. It is their decision.
So if you are in this position now, deciding how to transfer this business on, you need to find some professionals that you can trust to take care of you first, and then you need to spend some time identifying your objectives. Only after you have done that, only then do you need to engage the second generation and discuss your thoughts. Aks them: What are your thoughts? Do you even want to be involved? I had one woman who was very upset twenty years later because her father had told her that this business wasn’t a place for women. He never got her input as to whether or not she agreed or disagreed with it. It is important not to just talk to the next generation, but to listen to the next generation and explain to them what you are thinking.
Make sure to tune in next Friday here at Industrial Distribution for the second part of this discussion on succession planning with Attorney Brad Franc.
