The risks of being unprepared
It’s been said that a lack of a decision is itself a decision — and succession planning is a great example of the truth of this expression. But often, business owners fail to understand that their business even needs a succession plan. Michael Wozniak, Executive Vice President at Wintrust Community Banks, explains: “They think it’s not for them, especially those on the smaller end of the market. ‘I donʼt need to do this; my business is just me. If I die, my spouse will take over.’ But you can’t just assume — you have to have that plan in place.”
Without a succession plan, decisions often occur under pressure — in the face of illness, amid sudden offers, during economic downturns or even after an unexpected death. The consequences can be severe, impacting nearly every aspect of a business, from disruptions in operations when leadership becomes unclear to costly missed opportunities for tax and legal protections. Here are some of the pitfalls of putting off succession planning until it’s too late:
- Disruption to the normal flow of business: Without a clear succession plan, day-to-day operations can stall as employees and managers wait for direction. Decision-making slows, priorities become muddled, and key initiatives can grind to a halt, often at the exact moment the business most needs stability.
- Loss of value: Businesses are often most vulnerable during leadership transitions. Delays or confusion in naming new leadership can cause revenue dips, diminish goodwill and even lower the company’s market valuation.
- Cultural breakdown: Leadership changes without preparation can fracture a company’s hard-won culture. Longstanding norms and shared values may erode if new leaders aren’t aligned with the company’s vision or if staff feel disconnected from or shut out of the transition process.
- Legal and tax-related setbacks: Poorly planned transitions can trigger avoidable tax liabilities, missed filing deadlines and even legal disputes.
- Employee uncertainty: When employees don’t know who will lead next — or whether their roles will change — they may disengage or start seeking work elsewhere, eroding morale and institutional knowledge.
- An erosion of customers’ trust: Clients and customers notice instability, especially when it begins to slow down decision-making or productivity. Unclear leadership or operational hiccups can cause them to question the business’s reliability, opening the door for competitors to step in.
- Family conflict: In family-owned businesses, succession decisions made under pressure can inflame long-standing tensions or create new ones. Disputes over control, compensation and vision can damage not only the company, but also personal relationships for years to come.
These are frightening potential outcomes. But a proactive approach to succession planning is the antidote to all of them.
The human side of succession planning
Obviously, the numbers matter — valuations, tax obligations, financing terms and so on — but succession planning is also about relationships, capabilities and knowing what truly matters to people. Owners often must wrestle with questions like:
- Will my successor preserve the culture I’ve built?
- Will employees be taken care of?
- What will my role be after I hand over the reins?
Whether a business owner is planning to bestow the business upon a family member, employee or outside buyer, these questions are at the heart of a well-considered plan.
Why is it important to name a successor well in advance? Research shows that it can take between one and two years for someone to become fully productive in a new role. A long runway means a better chance for a seamless transition.
An array of potential approaches
Setting a succession plan starts with asking yourself a series of questions — and chief among them is what you truly want, value and hope is possible as a business owner.
“One of the most basic succession planning questions is whether you care about legacy or not,” says Wozniak. “Do you want to gift or sell the business to your kids? What if there’s no next generation? Do you have key leaders or managers in a position to take over? Are you looking to slowly transition, or exit all at once?”
Of course, you can always opt not to transfer your business to known individuals, choosing instead to find a buyer. “If you’re not thinking about legacy,” Wozniak continues, “thatʼs when a buyer may come into play. But then, do you sell it to a competitor or to a private equity firm if they have interest in the space you’re in?”
The questions don’t end once the transfer is made. “Afterwards,” Wozniak says, “each possibility has different tax implications. You’ll also have some liquidity if you sell, which you’ll likely need advice on. So, as we talk about legacy, taxation and then the wealth impact, it’s really important to have your team in place. You’re going to need a private banker, tax adviser and a legal adviser to make sure everything is coming together.”
It’s important to remember that no single approach suits every business. The optimal plan depends on factors such as ownership structure, industry, market conditions, financial goals and the owner’s personal priorities. Here, we dig deeper into the options, including potential advantages and disadvantages for each.
Sale to an outside buyer: An outright sale to an external company or investor is a common choice for owners seeking a complete exit. There’s a potential for a significant windfall if the business is performing well (and a valuation agrees), plus the opportunity for immediate liquidity. However, there’s every chance that a buyer won’t align with the existing culture of the organization, and that new ownership may opt to relocate or restructure. Further, a business owner fully cedes control and influence by selling outright. For these reasons, selling to an outside buyer is best suited to owners without a natural successor who prioritize financial return over ongoing involvement.
Transfer to family members or children: Many business owners prefer to keep ownership within the family, transferring shares and leadership to children or other relatives. Doing so often helps retain the business’s culture and values, and, if the successor has been involved with the business prior, can ensure that new leadership is already familiar with operations. However, there may be a gap between a business owner’s hopes for a family member and their interest in taking over — or their ability to do so. There may be family disputes over roles and equity. And to avoid placing a tax burden on the next generation, owners must engage in careful estate and tax planning. The upshot? This model of succession works best for businesses whose succession plan, heirs, and financial and tax planning team are well-prepared for the road ahead.
Employee stock ownership plan (ESOP): An ESOP is a qualified retirement plan that enables employees to acquire ownership in the company, often gradually. Such an arrangement both rewards and helps retain employees, and it ensures that company culture remains solid as owners make their exit. An ESOP also offers tax advantages for both the seller and the company. It can also allow business owners to stay involved, many times retaining their management. “One of the beauties of an ESOP is flexibility,” says James Swabowski, Senior Vice President and Team Lead at Wintrust ESOP Finance. “It doesnʼt need to be all or nothing. In fact, we work with a company that has had a partial ESOP ownership since the 1980s.” However, arrangements like these are complex, requiring financial know-how to establish. ESOPs also demand a certain level of profitability, and they may present compliance obligations that some owners aren’t prepared to meet. In other words, an ESOP is an invaluable tool, but it makes the most sense for reliably profitable companies with strong management teams and owners who value employee stewardship.
Management buyout (MBO): An MBO involves selling the company to its existing management team, either directly or with outside financing. As with ESOPs, this is a great way to preserve company culture and ensure that those in leadership positions have a solid knowledge of both the business itself and the industry as a whole. An MBO can make the transition to successor(s) easier, and it can be structured in a way that transfers power gradually to decrease the financial strain of the sale. However, management may find it difficult to secure necessary financing, and if some members of the management team are excluded from the buyout, it can result in potential conflict. “We make sure to ask owners, ‘Have you set your business up for this plan? Do you have the depth in your management team to really execute this plan?’,” says Swabowski. In other words, this solution works best for businesses with a capable, committed management team and no family successors.
Merger or strategic partnership: Rather than selling outright, a business may merge with another or enter into a strategic alliance to facilitate a gradual transition. This can expand a business’s market reach, resources and capabilities. It allows for a gradual exit for the owner, who can better ensure that their vision continues in the partnership, and may provide more long-term stability for the business owner than a direct sale. However, negotiating a merger or partnership can be arduous, as can integrating existing entities. Cultural and operational differences can cause friction, and employees may worry about the security of their jobs. Ultimately, taking this route is best for organizations whose owners are seeking growth opportunities even as they craft a plan for succession.
Liquidation: Many business owners opt to sell off assets and shut the business down — an outcome that Russell Romanelli, Director of Strategic Client Planning for Wintrust Private Client, says he has been seeing more often in recent years. He attributes this to fewer children of business owners being interested in taking over their parents’ business and to the rise of private equity firms. “Early in my career,” he explains, “owners’ kids got into the business, and that was the avenue just about everybody took. But nowadays, parents are allowing their kids to choose what they want to do instead of pigeonholing them into the business. That’s a good thing, overall. In addition, all these private equity firms have sprung up, and never in my career has cash been so readily available to a selling party.” Selling off assets and closing down may be necessary if the business has no willing successors or if the current owner simply doesn’t wish for the business to continue. Liquidation tends to be a straightforward process, depending on the industry, but an experienced advisor can help ensure that you’re well-positioned to net the greatest possible sale amount.
The role of life insurance
Life insurance can be a powerful tool in succession planning, providing liquidity when it’s needed most: upon the death or disability of an owner. For many businesses, the challenge in a transition isn’t just finding a successor, but ensuring they have the resources to take over without straining the company’s finances.
One of the most common uses of a life insurance policy is funding a buy-sell agreement between co-owners. Each owner takes out a policy on the other, with the proceeds earmarked to purchase the departing owner’s share. This approach protects both the surviving owners and the deceased owner’s heirs, ensuring a smooth transfer of ownership without forced asset sales or emergency loans.
“Many people have buy-sell agreements in place, but they never address the funding of that buy-sell,” says Linda Ells, Vice President, Wealth Planning and Insurance Specialist, Wintrust Private Client. “So, you’ve agreed to buy out this family, but how are you going to do it? What’s going to need to be liquidated? If that agreement is not funded properly, it can cause some very big issues.”
In family businesses, life insurance can also equalize inheritances — for example, leaving the company to one child while providing cash to others. It’s also used to cover estate taxes, protecting the business from being sold to settle tax liabilities, and in key-person coverage to offset the loss of a leader whose skills or relationships are critical to operations.
Whether the plan is for a family handoff, management buyout or partner buyout, life insurance can provide the financial bridge that keeps the business intact during a difficult transition. Bear in mind, though, that there is no one-size-fits-all life insurance solution. Deciding on the right policy for your business requires a thorough examination of your individual circumstances, says Ells: “Itʼs really about knowing what their need is, what they want to accomplish, what their cash flow is like, and how much they can allocate.” A trusted financial adviser can help guide you toward the most appropriate policy.
Taking the next steps
You’ve weighed the options, explored your financials, clarified your goals, asked yourself countless questions and been honest with yourself about what will work — and what won’t — in your unique situation. Now it’s time to start nailing down the plan. Note, however, that this could take a while.
“Many business owners come up with a succession plan or a vision for one and then want to swiftly exit,” says Swabowski. “But often they haven’t spent enough time really setting things up.” Romanelli agrees, pointing out that before any steps are taken, everyone involved needs to come together to hammer out the plan. “I would definitely request that your CPA be involved, your banker, your attorney,” he says. “And depending upon which way you’re headed, for key stakeholders to be present in these discussions, too.”
The roadmap should look something like this:
Step 1: Identify and prepare successors
Training, mentorship and gradual delegation can help build both confidence and competence in your chosen successor, giving you peace of mind that they won’t just be ready to take over — they’ll be ready to take the business to the next level.
Step 2: Get a professional valuation
A realistic understanding of your company’s worth is the foundation for any plan, regardless of which path you choose. As Romanelli colorfully puts it, “Business owners almost always have a bigger value in mind than what their business is worth. Sometimes you have to be brutally honest with them.” Once everyone is on the same page, with a realistic idea of the business’s true value, discussions can proceed.
Step 3: Assemble your advisory team
Wintrust can offer guidance on all steps of the succession planning process, and its experts are quick to say that assembling your dream team of advisers can — and likely should — start far earlier than you might think. “I think business owners should be finding the right team, which is your tax accountant, your attorney, your wealth adviser, and getting them all in the discussion as they’re forming the business,” says Wozniak. “But nobody does that, right? Because you only have so much bandwidth. Youʼre wearing multiple hats — you’re HR, you’re sales, you’re everybody. But as soon as that settles down, do not hesitate to get everybody involved.”
Step 4: Communicate the plan
Clear, intentional and well-timed communication with co-leaders, employees and other stakeholders reduces uncertainty, setting everyone up to feel involved and respected.
Step 5: Review and revise
Life and business are subject to change, and your plans might evolve. Be sure to review your plan every few years, or after major shifts in your organization, industry, revenue and personal goals.
The ultimate takeaway is that succession planning is not a one-time exercise; your plans must adapt to whatever changes arise. “One of the biggest mistakes I see,” says Wozniak, “is people saying, ‘Okay, I did my plan, and it was 15 years ago, and I havenʼt updated it since.’ Thereʼs a risk in doing that, because these are living documents. Things change. Maybe your legacy plans change. One of the biggest things we see is that the next generation doesn’t want to take over — maybe they did five years ago, but don’t now. When things like that come up, you have to pivot. I would say that you should touch your plan at least every one to three years at a minimum.”
By now it should be clear: Business owners who start early, deeply consider their options and work with experienced advisers are best positioned to achieve both personal and professional goals in their transition out of their business. Wintrust has the experience, know-how, specialization and capacity to guide business owners toward the exit strategy that suits them best.
The experts at Wintrust know that succession planning is as much about people as it is about numbers. The most successful transitions happen when owners think beyond the transaction, considering how their decisions affect employees, customers and their legacy. A well-structured plan doesn’t just protect the value of the business. It protects the relationships and reputation honed over the years and provides the peace of mind business owners need to pass along what they’ve so carefully built.
When it’s time to start thinking about the next chapter for your business – we’re here for it with a different approach to banking. For more information on Wintrust’s succession planning tools and expertise, visit wintrust.com/commercialbanking.
