Contractor Transition Strategies

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Business Continuity Planning – Your Business Can Survive Even if You Do Not

I have been posting information on creating a business transition plan for your eventual exit from your business and the steps involved in implementing that plan. Simply, you will be leaving your business, and hopefully, this will happen in a planned and deliberate fashion. This is something every business owner will address. Unfortunately, things do not always go according to plan. Those of you in the remodeling industry deal with project-driven plan changes weekly!

Now, successful owners are usually optimistic people, somewhat averse to dwelling on the more unpleasant aspects of business. Contemplating one’s demise certainly qualifies as an unpleasant aspect.

Sorry for the somber tone here; you as a business owner must address the future of your business in case you are critically injured or die tomorrow. This is referred to as business continuity planning. Business continuity planning is the roadmap to address various transfer events and consequences that can impact the business for the remaining (or new) owner when the original owner leaves.

The problem I: Loss of Continuity of Business Ownership

Sole-Owner Company:

Continuity of business ownership is a critical issue in solely owned companies. In fact, there is no continuity unless sole owners take steps now to create a future ownership group or groom a successor.

Multi-Owner Company:

Continuity of ownership is not an issue when a buy-sell (or business-continuity) agreement, funded by life insurance or disability buyout insurance, has been implemented. The problem is that most owners and their advisors fail to keep their buy-sell agreements up to date and, as a result, those agreements often can create more problems than they resolve.

Solutions to Problem I

Sole-Owner Company:

You can implement a plan to allow the business to continue after you are gone. If there is no co-owner, you must provide for the business continuity by securing your most important employees' continued services. Do everything you can to prevent your employees from leaving because they are indispensable to the business’s continued existence. Secure their continuation by compensating them at a substantially increased level (usually 50–100% more than they ordinarily receive). This is accomplished using a documented Stay Bonus.

A Stay Bonus is a written, funded plan that provides monthly or quarterly bonuses, usually over a 12- to 18-month time frame, for employees who remain with the company during its transition from your ownership to new ownership. (This applies whether the business is transferred to a third party, employees, or family members.) The Stay Bonus provides a cash incentive for your important employees (perhaps 20–50% of the total workforce) to stay.

Typically, the Stay Bonus is funded with life insurance in an amount sufficient to pay the bonuses over the specified time period. The plan is communicated to the important employees when it is created so that they know a plan exists and, consequently, that thought and planning (and money to pay salaries) will ensure the continuation of the business. At the very minimum, you must communicate, in writing, your wishes as to what should be done with the business upon your death or permanent incapacity:

  • Designate key employees or others who can be given the responsibility to continue and supervise business operations, make financial decisions, and oversee internal administration.

  • Name these individuals today through a business-continuity form (I have examples of this form, so if you would like a copy, please contact me).

  • Name advisors and others who should be consulted in the ownership transfer process. (Again, the idea is to put these names on a business-continuity form).

  • If it is your wish that the business be sold, state that intention. List the names and contacts of businesses that have expressed an interest in acquiring your company or who you think would make an appropriate successor/owner. Do so, in writing, on a business-continuity form. You may wish to indicate your desire for the business to be sold to key employees, continued in the family, or liquidated. The choice is yours, but you must make it while you are alive. There is no better time than the present to do so.

  • Finally, give the completed business continuity form to the person you trust the most (e.g., spouse, child) and copies to your advisors.

Multi-Owner Company:

From a continuity standpoint, the nicest thing about having multiple owners is that the business will continue if one of the owners dies, provided measures are taken—usually in the form of an up-to-date, adequately funded buy-sell agreement—to allow the remaining owners to acquire the deceased’s interest in the business. However, the chances are that your buy-sell agreement has not recently been reviewed, does not reflect current business value, and does not completely address the following possible transfer events:

  • Death

  • Disability

  • Retirement

  • Transfer to a third party

  • Termination of employment

  • A business dispute among owners

  • Involuntary transfer due to bankruptcy or divorce

As may be apparent, the biggest risk to the continuation of co-owned businesses is not the death or disability of one of the owners. The biggest risk is that the above-mentioned events are considered once and then memorialized in an agreement. All further thought and action on the subject are then shelved, along with the agreement. Do not allow that agreement to be shelved! Make sure that your buy-sell agreement is current and up to date.

Problem II: Loss of Key Talent (i.e., You)

Sole-Owner Company:

Your death likely has the same impact on your business as does the loss of any key person. Your talents, experience, and relationships with customers, employees, and vendors may be quite difficult to replace. Without planning, few businesses have the financial resources or successive management to weather this storm.

Multi-Owner Company:

Multi-owner companies seemingly avoid many of the problems endemic to single-owner companies. However, as it relates to the loss of key talent, this is only true if surviving owners can readily compensate for your loss. To the company, your death is the same as losing a key employee. If the remaining owners do not have your experience or specific talents, the business suffers as sorely as if it had been solely owned. Unless there is a key employee (co-owner or not) to fill the void, the business is wounded—perhaps mortally—upon the death of a co-owner who fulfilled the following roles:

  • Marketing guru on whom the other owners were dependent to provide new clients

  • Hub of most of the industry, customer, or other key relationships

  • Overseer of the company’s operations

Solutions to Problem II

Sole-Owner and Multi-Owner Companies:

In a solely owned business, the key employee is almost always the owner. Usually, it is the owner’s entrepreneurial drive, experience, and dedication that stimulate the business. Losing its key employee is a blow from which many businesses do not recover. If your business is a mirror image of you, it is unlikely that any amount of key employee life insurance or other sources of cash will suffice. You must create value (within the company and distinct from you) in the form of successive management capable of filling the void left by your unexpected departure.

In a co-owned business, the owner's loss is not as drastic, provided your co-owner can carry on without you. If your co-owner cannot replace you, you must train employees to perform the same or parts of the same role as you. You must take the same step if you desire to sell the business for top dollar during your lifetime. In either scenario, the underlying need is the same: capable employees must assume the responsibility of running the business. If the owner is ready to leave the business in a lifetime transfer, but the business cannot thrive or survive without him or her, the owner is forced to continue operating the business until successive management is located and trained.

However, when an owner dies, the absence of successive management is more devastating because the owner is not available to do anything. The best hope is to provide the company with adequate cash, in the form of life insurance proceeds, to survive until replacement management is located and trained. That cash is also used to produce a cash-based incentive plan designed to motivate and retain the new management.

In a co-owned business, an owner's loss can severely strain the business. Still, the remaining owner can, especially with sufficient life insurance proceeds, find and train replacement management and provide that replacement management with a significant cash-incentive plan.

As you well know, finding and training your replacement can take years. Thus, you must prepare your company for an ownership transition starting today. Remember, at some point, you will not be in your business. I hope your absence will be due to a sale to an outsider or perhaps to the key employees you have brought into the company. However, your exit may be due to death or disability. No matter the cause, your business will survive and thrive only if you have found, trained, and motivated your replacement before leaving the business.

Realistically, a business's continuity is reliant on a transition of ownership from you to equally capable individuals of an operationally and financially sound company. In the situations we have discussed, primarily the death of an owner, life insurance can instantly provide significant financial strength. However, the business also requires talented and motivated key-successor management, and for that, there are no quick fixes. The benefit of starting to search for that key-successor management today is that you will be building value within the company that will be converted to cash when you leave it.

Problem III: Loss of Employees and Customers

An unprepared owner's death ignites a cascading series of events for the business. Chief among these are the departures of employees and customers. The loss of employees is followed immediately by defaults under contracts. Because of the inability to perform promised work, customers inevitably leave.

Usually, employees leave because they fear that the business will not survive, thus jeopardizing their salaries and future employment. Additionally, when the owner’s leadership role is hastily transferred to anyone other than a recognized successor, employees and customers grow uneasy. With uneasiness comes migration to new employment and other vendors. These financial and personal concerns must be quickly quelled by implementing a preconceived, funded continuity plan.

Sole-Owner Company:

A common and natural consequence of an owner’s death is the speedy departure of employees and customers unless an existing continuation plan is immediately implemented. Employees must know that a plan that guarantees their compensation and clearly names their successor exists. With these assurances, most employees and customers will stay with the company. Without such a plan, the key and non-key employees will wonder where their next paychecks will come from. Typically, they leave for greener and more secure pastures.

When the workforce leaves, contracts cannot be completed, and work is unperformed. Resulting losses can require payment by the deceased owner’s estate.

Multi-Owner Company:

Companies with multiple owners must cope with the normal l’ normal lifetime retirement. In most cases, retirement imposes a significant cash drain on a company. In a death scenario, the surviving owners must keep both the employees and the customers. Simply having a successive owner is not sufficient. These successors must maintain cash flow and the confidence of the business’s employees and customers. Confidence is best gained by having a written, well-capitalized continuity plan.

Solutions to Problem III

Sole-Owner Company In a solely owned business, financial and personal concerns about succession are handled through the following:

  • A written Stay Bonus Plan (described earlier), funded by life insurance and communicated to employees when it is prepared

  • A succession-of-management plan, which you prepare now, that names the person to take charge

  • Your decisions—made today or as soon as possible—regarding the sale, continuation, or liquidation of the business in the event of your demise.

Multi-Owner Company

In a multi-owner company, the loss of employees and customers does not usually present a problem because of other owners' presence.

Conclusion:

Business-continuity issues can be divided into two camps: those that occur while the owner is alive and those that arise upon the owner’s death or disability. This article reviews the latter. In the case of transfers during an owner’s lifetime, you have the luxury of time to find and train your replacement. This is not so in the case of death. Your company must have ongoing management and adequate cash (almost always subsidized by insurance on your life) to survive the following:

  • Loss of key talent (i.e., you)

  • Loss of employees and customers

  • Company’s loss of financial resources

  • Loss of continuity of business ownership

In the short run, money is required to do the following:

  • Trigger a buyout

  • Provide capitalization

  • Provide cash incentives to entice your employees to stay

  • Replace the loss of business value that you brought to the company. The management team must be capable and motivated to grow the company and incentivized to stay long after your demise.

In the end, a successful business is one that you can either sell for top dollar and exit in style or one that can survive your exit in style. A failure to plan for business continuity can irreparably damage your business’ sale value and prevent you from exiting in style.

If you have any questions or would like to receive a sample business continuity form, please contact me at david@remodelforce.com.