I received a call last week from a friend who inherited her family’s business. Her father passed away unexpectedly with no succession plan. Even though the business has been in the family for decades, my friend didn’t know how to determine her best next steps.
I was happy to sit down with her and talk through my thoughts on how she could approach the next few months. As I was thinking through how best to advise her, a few things struck me:
What a hard thing to go through at an already distressing time.
In a perfect world, there are no sad surprises, and there is a good plan for every contingency. The reality is that times change, lives change, businesses change, the tax code changes. I could go on.
If you are in control of a business or significant assets, I implore you to set up a contingency plan. At a minimum, a basic plan is critical if your heirs are in any way vulnerable or not capable of managing a complex situation like this. Every estate and trust attorney I know can tell stories of clients with significant assets and responsibilities but absolutely no estate or business succession plan.
A good plan helps, but in many cases, heirs will still need to deal with unforeseen matters after the loss of a family member.
She is not alone
An often cited statistic: 90% of US companies are closely held. A closely held firm is managed and controlled by a small group of owners, in most cases, these are family businesses. In contrast, a publicly traded firm has a very large number of shareholders and is governed and operated by professional managers. Most closely held, family businesses are not required to give account to their shareholders on a regular basis. Many of these businesses don’t issue debt that comes with reporting requirements. If an external accounting firm is involved, the firm may simply compile and format the businesses internally prepared financial records for tax purposes. It is very normal to have a business that appears to be thriving, yet behind the scenes, the reporting and operating disciplines are very weak.
It is important to take stock and get organized quickly
Depending on how the business operated, it might take some work to get a handle on the health and prospects of the business. It is a good time to bring in all of the company’s current service providers: legal counsel, accountants, bankers, and insurance providers to quickly assemble the following records and documents:
- Corporate formation documents and shareholder agreements
- Financial statements
- Insurance policies
- Debt ledger
- Banking records
- Tax returns
- Customer contracts and lists
- Vendor contracts and lists
- Payables and receivables reports
- Employee list
- Any current or pending legal matters
- Operating leases, title to land, buildings, machinery, and equipment
- Any key license agreements for operating assets (software, technological IP)
Job number one is to keep this business running as close to normal as possible during an unsettling transition. Depending on the state of things, it could be the right time to bring in a third party interim executive to guide you through your first months on the job.
I told my friend that the best thing she could do for herself is to act like a professional investor (or a business appraiser, like me!) and go through a thorough due diligence review. Undertake a full scope effort, examining every facet of the business in detail. It will be cumbersome, time-consuming and may involve interpretation of financial records and legal documents that are complicated and potentially outdated or wrong. To remain objective, this is a good time to utilize that third party interim executive to prevent emotion from clouding your perspective. If you come across things that are not in good order, that doesn’t mean the business is doomed; it just means that this business was not in “salable” condition. That’s quite normal for closely held companies.
On the downside, this due-diligence process could reveal that there are serious matters to contend with and the best path forward could be an exit.
On the upside, the process could unveil significant opportunities for growth! One common term bankers and people like me throw around is the “lifestyle business.” I see SO MANY mature businesses that produce enough cash flow to pay the bills and finance some fun, but far underperforming the business potential. It could be that my friend has received a great gift: an established business that she can lead to new successes and build upon her father’s legacy.
At the end of that process, she should feel fully informed about how the business has performed, what opportunities may exist and what her best next move might be, whether it is stepping up as the next owner of the business or preparing the business for sale.
