Succession: Putting it in writing

Coach says: This series has generated a lot of feedback, most of which has been very positive. We obviously struck a chord with a large number of people.

I frequently receive requests for sample documents to cover partnership agreements, contingency plans and succession plans.

My general rule is that I do not provide such samples because I believe you should always seek independent legal advice before entering into any agreement as important as this. I am happy, however, to offer some guidelines for what I think should be included in order to give your professional advisors something on which to base the more formal documentation.

Here are the essential components of a written succession plan:

– state your intention. Start the document by clearly stating its purpose. This not only lets everyone know what you are thinking, it also makes the whole process “real” for you. For example:

“This document is intended to outline how ABC Financial will carry on its business when the founder, Charlene Smith, either chooses or is compelled by circumstances to retire fully or partially from the business or to sell all or part of her practice to a third party.”

– define possible scenarios. State the “trigger events” that could launch your succession plan. For example:

“This plan will be activated by:

– “the planned full or partial retirement of Charlene Smith from the business;

– “a significant and irreversible reduction in Charlene Smith’s participation in the business due to death, disability or other factors affecting her ability to carry out her duties within the practice.”

– Describe your successor. If you have already chosen your successor, tell everyone who it is and why he or she has been selected. For example:

“The person designated to succeed Charlene Smith is Bill Anderson, who was selected because of his credentials, experience, familiarity with the firm, relationship and financial capability.”

Remember, it is not necessary to have a successor in place to begin to document your plan. If you have not yet identified your successor, describe what that person, ideally, will look like in terms of credentials, experience, reputation and other qualities.

– Lay out your timetable. Recall that you don’t have to have a date for your retirement chiselled in stone in order to develop an effective plan. However, stating key dates or milestones, even approximately, gives you and everyone else affected by your plan some sense of the timing.

This schedule can be reassuring for those involved in your plan. Also, it imposes some responsibility on you to stick as close to the intended timeline as is reasonable.

For example, you would list approximate dates for such events as identifying a successor, making the announcement to clients, reducing your workweek to 20 hours and the transfer of ownership.

– Determine your price. Outline how the value for your practice will be calculated at the time of transfer. Ideally, you will have had a valuation completed in advance so that it forms part of the discussions with any potential successor. If the transition process is lengthy, you should update the valuation closer to the actual date of transfer. For example:

“The value of ABC Financial will be determined within 30 days of the transfer date by:

– “a calculation of [your methodology, such as percent of assets under administration or a multiple of revenue];

– “an independent third-party valuation to be completed by a qualified business valuator, the choice of whom both parties agree;

– “or other methodology [for example, fixed price].”

– Detail how you will be paid. Few practices trade hands today for 100% cash up front. There almost always is some sort of earn-out or short-term revenue-sharing arrangement. In that case, it is important to state how payments will be made. For example:

“The value of ABC Financial at the date of transfer will be paid according to the following schedule:

– “25% cash down payment at time of transfer;

– “three-year promissory note from the purchaser for the balance, with quarterly progress payments equal to one-twelfth (1/12) of initial balance. No interest is due on the promissory note, unless progress payments are not fully made. Otherwise, 6% annual compound interest will be charged.

– “annual retention bonus to be paid in cash at the end of each of the first three years, equal to 10% of any outstanding promissory note balance, provided AUM from original clients is at least 90% of the amount at date of transfer.”

– Allow for contingencies. As John Lennon said, “Life is what happens to you while you’re busy making other plans.” Your plan should state what happens if an unexpected event occurs. For example:

“In the event that the transition and transfer of the business cannot be completed due to disability of one of the parties, death of one of the parties or other circumstances as defined in the legal agreement, the ‘survivor’ may continue with this agreement, at his or her option, or declare it void and enter into new negotiations. Both parties agree to maintain adequate life and disability insurance to protect fulfilment of the agreements.”

– Tie it up in a legal agreement. The details above represent your succession plan – not a legal document. Regardless of how well you know your successor, do not rely on a handshake or friendship as being adequate protection for either party. What starts off as a mutual agreement can turn into a nasty battle if things go wrong. Engage legal counsel to draft an appropriate, binding agreement.

This is the final instalment in a five-part series on succession planning.

George Hartman is managing partner of Accretive Advisor Inc. and CEO of Market Logics Inc. in Toronto. Send questions and comments to george@marketlogics.ca.

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