Passing the torch to your children

You were able to touch only briefly on the topic of choosing family members as successors. Two of my children work in my business. Both are smart and client- oriented, and I have always thought one or both would take over when I retire.

You commented that while passing along a business to family members was every entrepreneur’s dream, extra caution was warranted. Could you expand on what those concerns might be?

Coach says: Thanks for drawing attention to this very important topic. I, too, wish we could have spent more time on it. Let’s explore some of the challenges of a family succession within an advisory practice.

You are right about most entrepreneurs’ inherent desire to transfer the fruits of their labour to family, particularly to their children. Aside from entrepreneurs wanting good things for their offspring, I believe that what many founders really aspire to pass along is an easier path to success than they experienced themselves. We all know building a successful practice can be demanding in the early stages. So, the motivation to have kids come into an already successful business is strong.

There are several things about making a family member your successor that must be considered carefully. In my experience, family members must be:

Passionate about carrying on the business. As you have no doubt experienced, to keep going when things get tough takes a deeply felt, personal appreciation of the value of the work you do. You built your business into what it is today because you believed passionately in the importance of providing proper financial advice and appropriate products to your clients.

In many ways, being a financial advisor is more a calling than a job. So, ask yourself: “Do my children feel the same passion for the business? Will they be as dedicated to its mission as I have been?”

Free from a sense of obligation. Too many businesses have failed in the transition from one generation to the next because a parent assumed the child wanted to be “just like Dad or Mom,” when what the child felt was an obligation to the family that he or she really didn’t want.

Let me share a real-life story:I was involved in a succession-coaching engagement for a well-established husband- and wife-owned practice in which the partners assumed their son would come into the business; they had been talking about it for years. The son had worked part-time in the office during school and the summers, and even completed his licensing requirements.

Finally, the big day arrived, when the parents were going to hand over the keys, so to speak. They asked me to have dinner with them and their son to talk up how great it was that he was going to carry on in his parents’ footsteps.

Our conversation started down that path, but the son’s heart wasn’t really in our discussion, and that soon became obvious to me. So, I stopped in the middle of our meal and asked him point-blank if he really wanted to join the family business and eventually own it outright. After several anxious looks at his parents, he finally said, “No, I want to be an airline pilot.”

His parents were shocked. After a few protests from them, our dinner table fell silent for what seemed like an eternity. Finally, the son said, “I’m sorry, Mom and Dad. I know that’s what you want for me, but it’s not what I want for myself.”

“Why didn’t you say something before?” his mother asked. “We’ve talked about this so many times.”

He replied, “Because I didn’t want to disappoint you.”

When a business passes from parents to their children under these conditions, it almost inevitably begins to deteriorate right away and eventually fail completely.

Willing to give extra effort. The child of a founder will be compared to the parent, regardless of whether this comparison is deserved or fair. To measure up, the son or daughter may have to give extraordinary effort to show everyone associated with the business – clients, staff, other associates – that he or she deserves to be the successor and is not in that position only because he or she is the founder’s son or daughter.

That sounds harsh, but in the real world, there will be people who, even if they aren’t expecting or hoping the successors will fail, won’t be cheering for them. Among those withholding support may be other team members who believe they should be the successor.

Other onlookers may admire the founder so much that they believe no one else could possibly ever measure up. Or perhaps they simply fear change and, while their feelings may not be obvious, their conscious or unconscious lack of support could make things tough for any successor.

Willing and able to invest. Almost everyone will agree that having “skin in the game” leads to greater commitment to succeed. Yet, we often see family transitions in which the business is simply given to children or, at the very least, transferred at a substantial “family discount.”

From a parent’s perspective, being able to gift your business to your children is admirable. However, a far better plan is to sell it to them under current market terms and gift the proceeds of the sale to them at some later time, when they have demonstrated their ability and desire to build a thriving business on their own.

For a full examination of this question, I heartily recommend Every Family’s Business, by Thomas Deans (Detente Financial Press, 2009).

Able to manage siblings. Managing the transition to children can become even more problematic when there are multiple offspring. If they are not equally qualified and motivated, a sense of mistreatment and unfairness can develop.

Here’s another true story:

Dave (not his real name), upon his retirement, decided to transfer his relatively small, but successful practice to his two sons equally. Son No. 1 had a chartered financial analyst designation and several years’ experience as an investment banker. Son No. 2, while having a pleasant personality, had held several positions in various fields since high school. Part of their father’s motivation was to ensure that Son No. 2 had a “steady job.”

Over the next three years, Son No. 1’s ambition, knowledge, work ethic and his added financial investment in the business transformed the practice into a full-service investment counsellor and portfolio-management firm focused on the high net-worth market. Assets under management and revenue grew steadily. Son No. 2 had an administrative role in the office and frequently was late or absent and, overall, less interested in the business.

The relationship between the two brothers began to deteriorate from the beginning. Whenever Son No. 1 tried to direct Son No. 2’s activities, the response was “You’re not my boss!” The breaking point came in the third year, when the firm became financially able to pay dividends to the shareholders. Son No. 2 insisted on receiving the same dividend as Son No. 1 despite having given a significantly lower contribution.

Son No. 1 ended up buying out his sibling at half the value of the firm Son No. 1 effectively built on his own. In his words, it was like “paying for my own business – twice.”

In general, clients prefer internal transitions and, all other things being equal, they would rather see a family member take over a practice than a stranger.

The operative phrase, however, is “all other things being equal.” I stand by my mantra: “Always run your business as if it will last forever, but be prepared to sell it at any time, to the most qualified buyer, for the highest price.” If that description fits your children, they may be the ideal candidates to fulfil your dream and become the custodians of your legacy.

George Hartman is CEO of Market Logics Inc. in Toronto. Send questions and comments regarding this column to george@marketlogics.ca. George’s practice-management videos can be viewed on investmentexecutive.com.