3 Crucial Steps for Generational Succession Planning

Generational succession planning for any family business can be particularly challenging. There are many issues that can derail the duration of a family-controlled company, including philosophical differences about the direction and growth of the company, ill-defined roles and responsibilities or the lack of a pathway out of the arrangement for a departing member. The good news is that with some forethought and planning, a legacy company that continues to thrive is possible.

First Citizens Bank, by way of example, is celebrating 125 years of business under third-generation leadership. The company is now the largest family-controlled bank in the United States, with a unique legacy of stability and long-term thinking that has helped personal, business, commercial and wealth clients build lasting financial strength.

Planning for a prosperous generational transition involves many steps, but there are three critical milestones owners should consider to achieve intended outcomes.

1 Transfers should be fair, not equal

When a second generation of adult family members is seeking to take over a company, deep consideration should be given to how that company will be transferred to those seeking to assume leadership. Let's consider an owner, Charles, with three adult children.

• Sam works in sales and joined the business after pursuing another career for several years. While he's friendly and the other employees like him, he's neither the best salesperson nor the most knowledgeable about running the company's other departments to keep it operating.
• Liz has been working in the company since graduating from college. She does all of the accounting work to keep the business's financial statements clean and in positive territory. She has also obtained several certifications over the years to help improve its processes and automation.
• Keith isn't involved with the business and instead works for a nonprofit. Because his work is charitable and he doesn't earn a high salary, Charles supplements Keith's income.

Given this situation, what would be the outcome of an equal transfer? What if another option was more appropriate? Consider the following scenarios.

Equal-dollar distribution

As owner, Charles wants to give a 1/3 interest in his company to each child. This is often the distribution parents default to as a way to treat their children equitably. But it's important to point out that equal in dollar amount isn't necessarily fair. An even distribution doesn’t consider Liz's years of hard work in the business or her seniority. It also doesn't consider that both Liz and Sam will have to work to make their inheritance pay off, while Keith can get the same payout as a passive owner.

What if Keith begins to rely on this income to pay a mortgage or other obligation, but Liz and Sam don't make distributions from the company to grow or expand? Keith wouldn't have a voice in this outcome, but it would likely affect their sibling relationship.

Involvement distribution

Charles may consider an alternative solution that separates the distribution according to involvement by transferring interests in the company to Liz and Sam. There are numerous wealth transfer techniques that could be used to accomplish this, including a grantor retained annuity trust. Transferring some or all the company interest through a compensation package to Liz and Sam allows their ownership amount to reflect their merit and seniority within the company as well, enabling Charles to give each child uneven amounts to compensate each for their own work to build the company.

Keith's inheritance can then be either a life insurance death benefit or annuity structured to supplement his income. The separation of his inheritance from the running of the company allows the siblings to keep business out of their familial relationship, especially when one of them isn't involved in the business.

2 Build conflict resolution structures before the transfer

Business owners have great decision-making power. They control long-term goals like the vision and growth of the company, as well as short-term goals like hiring and operating hours. Sometimes these decisions will need to be made quickly without all the needed information—or under stressful situations like the recent pandemic.

Sole owners, married owners or partners who built a business together often have a long relationship and cadence of communication that allows them to navigate and make such crucial decisions easily. However, as a business is transferred to successive generations these decisions must be made among more people, who often don't have the same level of closeness and parity as a long-married couple. Conflicts and disagreements will inevitably arise. An owner who has built a family governance structure to resolve conflict and help govern the company before a transfer can help ensure discord won't derail the train.

Family governance is a disciplined, open communication process that helps families recognize their own dynamics and manage competing interests within the family. It also allows the family unit to gain and strive toward a collective vision. Ratifying the governance system should be accomplished via voluntary buy-in and consideration of all inputs, even if some haven't been directly included.

With multiple owners, informal decisions are impractical. A governance structure helps to handle issues a family may want to avoid and promotes professionalism and candor among family members. It's vital during a crisis and can be a safe forum for airing and resolving disputes.

Some examples of family governance structures include:

• Board of directors: The board represents the physical body of the company and has direct responsibility and fiduciary duties to it. It accepts the responsibility to enhance shareholder value, as well as to represent and protect shareholder interests.
• Board of advisors: This is an informally organized outside group that gives owners support, advice and assistance. It also complements and augments senior management. There's no legal responsibility with this type of board.
• Family business council: This provides a forum to discuss and resolve issues that are internal to the family yet critical to the success of the family business. The council shares many of the concerns of the company's board of directors and can provide perspective on how company board decisions affect the family.

This type of support structure can help create an appropriate forum for discussion and allow for alignment of goals and priorities. It also helps prevent miscommunication and over-dominance between owners and senior management, and keeps business decisions outside of familial relationships.

3 Create a timetable to relinquish control

As the ownership transition begins, each family reaches the awkward crossover point where parents must relinquish control to adult children. While this may feel like an obvious point in the process, not everyone acknowledges it—and their emotions can often get in the way of passing the baton.

In this crucial phase, parents often feel like they're being fired—which can trigger feelings of being unmoored or unnecessary to the company they built and identify with personally. Meanwhile, adult children can feel micromanaged and not allowed to take the company forward with their own vision.

There are two critical steps of the business succession process that an owner must do to keep this process moving as smoothly as possible.

Have a clear idea of post-ownership life

This means having a plan for their days rather than a vague idea of playing golf or seeing grandkids. Most people have a short period of unstructured time where they regroup, but they should then start to build activities into daily life that keep their minds and bodies active.

Examples include volunteering, serving on boards, teaching, working part-time or turning a hobby into a business. Without a clear plan for post-ownership, many owners come to regret the sale or transition of their business, which can lead to feelings of isolation and even depression.

Establish a timetable for moving forward

Owner parents and their adult children should set up a timetable that outlines the skills the next generation must acquire while allowing parents to start phasing out. This will allow each party to hold the other to the agreement.

Once adult children exhibit the ability to take on decision-making roles for the business, the parents then will relinquish it. If both parties agree, parents can continue to work in the business as consultants or transition out of the business entirely.

The bottom line

In the end, successfully transitioning a family business from one generation to the next takes smart planning and open lines of communication.

Need a plan for the future of your business? We can put our 125 years of experience and legacy of long-term thinking to work for you. Contact a First Citizens Wealth Consultant and ask about First Citizens Business Advisory to get started.