"Passing Down a Business Need Not Be Recipe For its Failure", Vancouver Sun

by Janice and George Mucalov

Passing a business down the family tree is fraught with difficulty. Witness the high-profile feuds between the French fry Mcain brothers and Canadian Tire's Billes family.

The other 90% of lesser-known businesses that are all family-run and which blanket the Canadian business landscape face the same bleak future. A full 70% of family businesses never survive the transition from the first generation to the next; only 1 in 10 makes it to the third generation. So difficult is it to hand over the reins successfully that there's even a Canadian Association of Family Enterprise (CAFÉ) dedicated to helping family businesses overcome the odds.

The problem is usually a lack of planning - the failure of the founder to discuss with the successors and plan for the effective transfer of control of the business.

The aim of succession planning is to pass on ownership and management of your carefully built business to younger family members without conflict and with minimal tax consequences.

Thinking ahead is particularly important if all the good will in the business rests with you as the founder. Without a trained successor whom customers and clients trust, the value and profitability of your business will plummet when you leave.

Consider which of your offspring are best able to take over the business. Who has the vision to grow the business? The smarts to keep it profitable? The integrity and people skills to maintain the business values you cherish?

Equal ownership isn't the wisest decision. You're better off to transfer ownership and management to those family members most capable and interested in making the business succeed and have other family members participate in your estate in some other way, than to transfer equal ownership to all family members and have the business fail.

Understand also that just because you're a successful first-generation owner/manager doesn't mean your progeny will be. You may need to separate the roles of owner and manager and recruit outside employment to help manage the business for younger family members.

There are basically three ways to transfer a family business during your lifetime:

• through a sale,
• through a gift of shares, or
• through an estate freeze.

If selling the business to a family member, the sale must be at fair market value. But to reduce the cash payable, the recipient can, in addition to making a small downpayment, sign a promissory note which you can forgive in your will.

If giving away shares in your company, you can retain non-participating but voting shares so you don't lose control over the company until you're ready to pass on the torch.

The third way - an estate freeze - is like the gifting of shares, but is more sophisticated. It's often the cornerstone of successful family business succession planning. A legal tool for minimizing the capital gains tax due after your death, it freezes an asset's value and passes on future growth or profit to the next generation. Insurance can be bought to fund those taxes that will still inevitably have to be paid.

Where the business is run by a company, a shareholders' agreement between all shareholders or certain classes of shareholders can be particularly helpful in ensuring the smooth transfer of control to the next generation.
Some clauses could include:

• The right of the company to buy back your shares on your retirement or death so the surviving shareholders' interests are preserved.
• Options to buy or sell the shares of those family members not active in the business so that only those involved in it are entitled to control the business.
• A right of first refusal requiring each shareholder to offer their shares to other shareholders before selling to a third party - permits keeping control of the business within the family.
• Provisions for mandatory mediation so that squabbles between family members over the operation of the business must be referred to a mediator.

Gracefully letting go of the business you've painstakingly built is sure to be challenging. But taking the appropriate steps to ensure its survival can be your ultimate legacy.

© Copyright by Janice and George Mucalov

A version of this column was first published in the Vancouver Sun. The column provides information only and must not be relied on for legal advice. Consult your lawyer if you need legal advice.