Roundtable on Succession Planning for Private Companies

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Succession of leadership and ownership is critical to the long-term success of a business. For privately-held companies, the current economic climate makes this one of the most opportune times in recent memory to transfer interests. Three Chicago-area executives involved with succession planning shared their thoughts on this vital process with Crain’s Content Studio.

How are you and your organization involved with succession planning?

Rick Fradin: At Chicago Capital we help our clients plan their financial lives. Basic financial plans involve wills, powers of attorney and investing for retirement. As clients’ financial lives become more complicated, trusts and other entities often enter the picture. The single most important item in many financial plans is often the process to select who will be the decision-makers down the road. Our team has decades of experience with these issues, and we help clients design and navigate those road maps.

Susan L. Goldenberg: Attorneys at NGE represent business owners and entrepreneurs, providing advice on corporate structuring and transactional matters as well as estate planning. Succession planning—a hybrid of corporate and estate planning—is the bread and butter of our practice. We routinely counsel clients about succession from a business continuity perspective as well as from a tax perspective. Working with families is a key component of this process, whether the business is owned by one family or by unrelated owners who are concerned about integrating what’s best for their business and what’s best for their family. We work with clients on every aspect of succession planning, including leadership succession within the business and ownership succession within their families. This often involves tax considerations as well as family dynamics.

Larry Brand: Succession planning has been a top priority for Elkay over the past five years, as we prepare for retirements within our senior leadership team. Five out of our eight most senior-level executives are retiring within a three-year period. We’re currently halfway through this process. Because of our proactive focus on succession planning, we’ve been able to fill four out of the five transitions through highly qualified and well-prepared internal promotions.

Why is succession planning important?

Goldenberg: Succession planning ensures the continuity of the business into the future. It’s vital to plan for anticipated events, such as the gradual transition of leadership when business leaders approach retirement, and unanticipated events, such as the untimely death of a business leader. I tell my clients to “hope for the best but plan for the worst.” There must be a plan in place for all contingencies. Succession planning is also vital for estate planning purposes—passing business interests to heirs who are ill-equipped to manage them can have disastrous effects on the business and an owner’s family. Tax issues must also be accounted for in succession planning; if a business owner dies without having the necessary liquidity to pay estate taxes, it may be necessary to sell the business to generate funds, often resulting in a fire sale and thwarting the desires of future generations to carry on the business.

Fradin: Thoughtful succession planning can provide significant value to all parties. This seems obvious when you have a multigeneration family business. However, succession planning is also important for many smaller entities, and can be the primary determinant of future success—or failure—of trusts, estates and family harmony. Good planning can provide the necessary continuity to help families avoid friction and remain focused on achieving common goals.

Brand: Our employees and alumni will tell you that it’s our culture that sets us apart as an employer. Attracting, developing, and promoting internal talent plays an essential role in maintaining this wonderful work culture, while also ensuring business continuity around the globe. Perhaps more importantly, our employment brand grows stronger when employees realize that we prefer to develop them and promote from within rather than sourcing talent from outside the company. Data shows that internal promotions increase a company’s efficiency and productivity, while reducing cost. This makes our focus on succession planning a key differentiator for our company. Personally, I think it would be very difficult for an organization to achieve long-term success without an effective succession plan.

What’s the most common question or concern you’re currently hearing regarding the process?

Fradin: Clients often ask, “Do I really need to worry about succession planning? Everything seems to be working just fine.” We believe effective succession planning is an ongoing process that benefits from collaboration and inclusion. The sooner you involve your successors in the process, the more likely things will stay on your desired path.

Brand: The most common challenge we face is getting our managers to slow down and fully engage in a robust talent review process. During the pandemic we’ve also noticed that it’s more difficult to have constructive “healthy conflict” conversations when we’re speaking via Zoom rather than in person. We sometimes hear about confusion from employees below the manager level who don’t fully understand the inputs and outputs of succession planning and the supporting talent development program. These employees require further education about the purpose of the program. While the company supports every employee in the pursuit of their individual development plan, not every employee belongs on a path to succession.

Why is now a good time for individuals and businesses to review their succession plans?

Goldenberg: The federal gift tax exemption—the amount any person can give away during his or her lifetime and not pay gift tax—is higher than ever before at $11.7 million. This makes it prudent for business owners to use the exemption to transfer business interests to the younger generation to facilitate ownership succession and reduce the estate taxes that the senior generation may have to pay. However, because the controlling party in Congress and the President may move to reduce the federal gift tax exemption, it may be wise to consider transferring interests in a business to the younger generation now before Congress reduces the exemption.

Brand: You should always be cultivating and continuously improving your succession planning process so that it can be leveraged at a moment’s notice whenever changes take place in key roles. If senior leadership reduces its emphasis on and investment in succession planning and talent development for economic or other reasons, it creates an unfillable gap. It’s hard to predict the timing, but it will always be there. Another consideration is that the economic uncertainty of the past 12 months brought on by the pandemic will create pent-up demand in the marketplace for key talent. High-value employees who’ve not been identified and nurtured through effective succession planning may be contemplating their advancement options. These individuals are ripe for poaching by other organizations. Companies that aren’t ready to identify and plan for the advancement of their top talent through succession planning are at risk of losing their best players.

What are some key factors to consider?

Fradin: We encourage clients to focus on the process of succession planning, not just the outcome. Key items include the processes by which people are selected, how performance is evaluated and how adjustments are made over time.

Brand: A consistent employee assessment and talent development process should span across new hires and existing employees to help identify the top talent for consideration during talent review. It helps to have a talent development technology in place to reduce administration and improve information insight about the development needs and progress of key talent. A cohesive, well-designed program has common themes and learnings that dovetail nicely from one level to the next, so they work together as a successful employee moves up through the full series. Unfortunately, you can’t develop every employee simultaneously, so the selection process of who gets into these programs can at times be quite competitive. While perfect timing is more art than science, your succession plan should predict the anticipated timing of when you’ll need each of your top performers to be ready to advance to the next level. Your talent development programs can then focus on having your top performers at each management level ready to advance when the right time comes.

What are some common challenges to the process, and how can they be addressed?

Brand: Some of the most common challenges to having a great succession plan are making the necessary time commitment and financial investment, protecting the program through economic downturns, and having a strong internal talent development team and external training partner. To ensure you’re getting the time commitment you need from key leaders, make sure the processes are endorsed by your board of directors and enforced by example through the senior leadership team. Start modestly, then build the program year over year while helping leadership understand the true value of the programs so they’re not the first items cut when an economic downtown arrives. A strategic talent development leader and strong internal talent development team will help the program gain the necessary influence across the organization and build credibility with the senior executive team, which is critical to the program’s success. Couple this with a strong external training partner who appreciates your commitment, understands your success criteria, and is loaded with talented people to help you create and deliver great leadership development programs.

Fradin: Many people see succession planning as a one-time event, but good financial planning is flexible and ongoing. Circumstances change over time and a good succession plan should include flexibility to evolve with the changing environment. Refining the plan over time can help adapt to changes and tailor the plan to fit the evolving goals of the group.

In what ways has the pandemic affected the process?

Goldenberg: Although the pandemic has taken a terrible toll on so many of us, it may present an interesting opportunity for business owners who wish to transfer their assets to younger generations for estate reduction purposes. If a business has been negatively impacted by the pandemic—such as a business in the hospitality sector, for example—an appraisal of the business, which is typically used to substantiate the business’ value for estate planning purposes, will reflect the lower value. The client can leverage the lower appraised value by using it as the basis to transfer business interests, versus at a pre-pandemic value or waiting until the economy and the hospitality sector have recovered. Another benefit is that the appreciation on the transferred interests is removed from the client’s estate, thus reducing the future estate tax burden on the family when the client passes away.

Brand: We’ve had to pivot everything—including talent review and flagship training programs—to a virtual platform, which was challenging at first, but ultimately played out in a very effective manner due to the flexibility and enthusiasm of our employees, the strong leadership of our talent development team and the partnership with our external training partner, Lake Forest Graduate School of Management. We have key leaders who’ve announced retirement plans and all processes have continued to move forward through the pandemic.

Fradin: The COVID-19 crisis has led many of us to re-focus on the importance of family, community and health. Many businesses have been stress-tested and loved ones have been lost. The pandemic has brought a renewed focus to succession planning, especially for family businesses.

Over the last few years, what new planning strategies and tactics have become available for privately held businesses?

Fradin: In recent years, dynasty trusts and limited liability companies have become popular strategies for privately held businesses. A dynasty trust is a long-term trust created to pass wealth from generation to generation without incurring transfer taxes such as the gift tax, estate tax, or generation-skipping transfer tax for as long as assets remain in the trust. Limited liability companies, as the name implies, provide protection to owners by limiting their personal liability. We advise clients to keep their plans flexible because the business environment is increasingly competitive and rapidly changing. Tax laws also change over time. That’s why we believe good succession plans are ongoing and should be updated periodically.

Brand: Privately held companies like Elkay are fortunate because we can access public records and data from publicly traded companies to better understand the external talent pool. This allows us to target talent acquisition, internal processes, and development strategies to compete for the best talent. Meanwhile, private companies such as Elkay can keep our financials, succession planning, key processes, and strategies close to the vest as there are few public reporting requirements, which can be a competitive advantage in the war for talent.

Goldenberg: Interest rates for loans are at historic lows, making it easier to facilitate a sale of interests in closely held businesses from the senior generation to the junior generation. The appreciation on the value of the transferred business interests will also escape estate tax and result in more assets passing to the junior generation. As mentioned previously, the current federal gift tax exemption is $11.7 million, which is at an historic high, permitting business owners to make more tax-free gifts than ever before. These two factors combine to make now a particularly advantageous time for business owners to reduce their estates. There’s some urgency since the new Congress may reduce the federal gift tax exemption, so time is of the essence.

How important is succession planning to the long-term viability of a company?

Goldenberg: Long-term continuity planning is essential in terms of future leadership. Future leaders need to be mentored to develop skills and leadership qualities. But succession planning also involves other strategic issues such as the long-term need for equity, defining goals for expansion, taking on strategic partners or potentially a liquidity event. Succession planning may involve future owners, particularly for family businesses. If a father wants his daughter to inherit his business, how does he equalize other children who will not inherit it? If he designates one child to control the company in the future, but other children will still be partial owners, it’s critical to plan to protect the interests of the non-controlling children while providing the controlling child with the freedom she needs to lead the business. It’s essential to consult with an experienced adviser who has guided other business owners through this process.

Brand: A good succession plan is one of the most valuable assets a long-standing company can implement and maintain. Without it, much time, energy, and money will be spent on urgent, unplanned external talent acquisitions to address unexpected turnovers. Elkay has been in business for 101 years and we intend to be successful for 100 more. Investing in talent development through an effective and robust talent review and succession planning process is the best way to achieve this.

Fradin: The importance of succession planning cannot be overstated. Disagreements among owners or managers can have a devastating impact on companies and their owners. It’s important to establish a process for succession that addresses both governance and dispute resolution. It’s also helpful to involve other key stakeholders in the process, so they understand and accept their roles and responsibilities.

What priorities does your organization have for succession planning in the next five years?

Brand: We’ll continue with our three-year journey to be prepared for the planned retirements to ensure we have an internal bench to step into these key roles. We’ll also continue to upgrade and improve our flagship development programs. Business trends and requirements move very quickly, particularly those which touch technology, and we must constantly evaluate our content to ensure we’re developing our next generation of strong leaders. We’ll continue to curate, adapt, and implement contemporary training and emerging educational topics for our developing employee base.

Fradin: Our main priority is to help our clients win, by helping them with their long-term financial planning. The focus remains on planning as a process. The priority of continuous improvement inherently helps to develop new leaders.

What advice might you give your associates who aspire to get on or stay on the succession track for key leadership roles in your organization?

Brand: Never assume everyone knows what you want—tell them! Talk to your manager so they know your career aspirations. Ask for constructive feedback, then act on it and proactively engage in the talent review process. Every employee should create an individual development plan addressing their short- and long-term career goals. I recommend doing this in conjunction with your manager and HR so everyone is aware of your desired career outcomes. If you’re lucky enough to get into a flagship development program, be appreciative and accountable to the commitment. The company is making your professional development a priority, so you should too! Avoid taking it for granted. Beyond that, approach your career as a lifelong learner. Organizations can only stay on top of so many emerging business trends. To stay ahead of your industry peers, never stop acquiring fresh knowledge. Read, attend webinars, network, identify learning opportunities for yourself and ask your organization to sponsor you at educational events.

Fradin: We advise our associates to always focus on clients’ long-term financial goals, while learning the functions in the process to help them succeed. It’s important that they understand how we’re helping our clients achieve their objectives. We then encourage them to consider whether the process can be improved so that clients’ benefits can be sustained or enhanced.