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Preparing for Transition

Carla McCabe
Feb 27, 2018

Whether it’s a long-term planned event or the result of an unforeseen circumstance, the transition of your firm will be the most significant change your business will ever face. We often hear advisors say, “I’ll never retire!” And while that may be the case, the reality is that all firms will eventually transition; no one lives forever.

It seems to be regarded as a four-letter word in the industry, but succession planning is really just one component of your overall corporate planning and it’s simply the process of perpetuating your firm into the future – or handing over the keys while preserving value. Most people are paralyzed by the thought of their own mortality and often put off any type of planning that will lay the groundwork for a smooth transition. We always encourage business owners to start planning for their exit the day they open their doors, but the good news is – it’s never too late to start. It’s most important to remain open-minded and flexible, be realistic, and understand where you are today in the process.

When it comes to transitioning your firm, there are basically two available options – an internal transition or an external sale. The question becomes, “where do you start?” so that you can decide on one of these choices and begin formulating your plan. The following actionable steps will get you started on the right path.

  • Determine what you want. Begin to visualize what you want retirement (or semi-retirement) to look like. The identity of most owners is closely tied to their business so start thinking about what the next chapter of your life may look like to bring you a sense of fulfillment. Keep in mind, just because you’re retiring from ownership, doesn’t mean you need to leave the industry. You’re simply monetizing what you’ve build and eliminating (or lowering) your risk.
  • Define your attributes. It’s important that you begin to look at your business the way a potential buyer might look at it. That means you need to get very clear on what your strengths and weaknesses are. Your vision, culture, platform, capital, and story are all key components to defining what makes your firm unique. Spend considerable time exploring each of these areas – you’ll need to have 100% clarity on each one, particularly as you start vetting potential successors or buyers.
  • Know your value. Owners typically have a number in their head as to what their firm is worth. Unfortunately, these are often unrealistic or based on archaic formulas. Instead, a valuation should be based on the stability, sustainability, and predictability of future cash flow. It’s wise to have a professional valuation done on a regular basis to help you determine what your “baseline” is. More importantly, be sure to have a good understanding of why your valuation is what it is. Given enough time, owners can make changes within the business to improve their valuation and realize full value when monetizing their ownership.
  • Review firm structure and operations. Ideally, your corporate structure should be re-examined every few years to be certain that you’re utilizing the correct structure (your attorney or accountant is a good resource). This can make all the difference in the world when it comes to completing a transition. Additionally, take an objective look at your operations and remember that capacity is different than scale. Perhaps you’re not making enough of an investment back into the business. Many owners are conservative when it comes to expenses, not realizing that this can sometimes lower the value of the business when it comes time to sell.
  • Assess client demographics and stability. Clients are at the core of your business, so it’s important to understand how your client base affects a potential transition. With the aging demographic of baby boomers, the average client age is on the rise. When looking at your business through the eyes of a potential buyer, critically ask yourself whether your asset (i.e., your aging client base) is a depreciating asset. If outgoing AUM via distributions is higher than “younger” incoming AUM, you may need to consider making some changes. You will also need to consider how “sticky” your clients will be in the event of an ownership change.
  • Evaluate potential successors. One of the toughest decisions when considering transition is determining who your successor will be. Internal transitions are generally easier, can gradually be done over time, and the owner can retain control for a period of time. External transitions typically generate a higher purchase price and are less risky, but are often more emotional. Each has its own list of pros and cons. Ownership transitions to a child or other family member are often expected, but remember that being a good advisor doesn’t necessarily mean someone will be a good business owner.
  • Utilize employee retention mechanisms. Making sure that key employees are properly incentivized to remain with the firm post-transition is something that is frequently overlooked, but can have a huge impact on whether you realize full value for the business you have built. Consider the use of employment agreements that include non-competition and non-solicitation clauses. Also determine if synthetic equity, such as a rolling vesting program, can be utilized to help retain key staff.
  • Remember death and disability. While planning for your long-term exit, don’t forget to plan for the unexpected. There is actually a higher risk for disability than sudden death, but both will have a dramatic and immediate impact on your firm. In the event of an owner’s death, revenue typically drops 60% or more. Disability can be a little trickier to plan for since there are many unknowns and your strategy must be a little more thorough and complex. Take the time to work through these tough decisions before they might actually be needed. An Advisory Board or Business Continuity Trust are just two of the available solutions.
  • Prepare your strategy. Once you have started working through your options and your feelings around them, take the time to properly prepare your strategy. Work with your attorney, accountant, business consultant, and personal estate planner to make sure the correct documentation is in place. Be transparent with key staff, as well as your clients. Having the correct strategy in place needs to be a concerted effort among those closest to the business in order for it to succeed. Most importantly, remember that this strategy can (and probably will) change over time as your business grows and evolves. But it is much better to have a plan in place (and a back-up plan B) than to be caught unprepared.
  • Allow yourself enough time. The crucial thing to remember about transition planning is that it is a process, not an event. This type of planning does take time and you want to be thoughtful about your decisions; you cannot compress time and expect to have a viable plan. Ideally, you should begin implementing your transition plan seven to ten years before you would ultimately like to leave the business to make sure the process goes smoothly and you realize maximum value.

Given proper consideration, transition planning shouldn’t be the dreaded process that most expect. It’s merely another, albeit important, part of your strategic corporate plan. Start incorporating the above components into your regular planning process and in time it will become something that you routinely think about and prepare for, without the trepidation that you may feel today.

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