Generational wealth: How to give your business a better chance at survival

BOITUMELO NTSOKO: Welcome to the Money Savvy podcast. I’m Boitumelo Ntsoko.

The scenario is all too common: a once-successful family business falters as soon as the founder hangs up their cap. But there are also plenty of these enterprises that have survived the generational transition. So what’s the difference between these two scenarios? The key may be succession planning.

Richus Nel, who is a certified financial planner at PSG Wealth, joins us on this episode to discuss the importance of succession planning, as well as key points to consider when looking to the future. Welcome, Richus.

RICHUS NEL: Thank you Tumi, and thank you for the opportunity.

BOITUMELO NTSOKO: Richus, could you please explain to us why succession planning is so important for family businesses?

RICHUS NEL: Yes, Tumi. I like to compare or to use a farming example, with something that people can relate to when explaining succession planning – in particular with a family business.

If you take farming, obviously it’s very costly to build up a farm, [and] it’s built up over years. There are many invaluable lessons learned from a generation and passed on to generations over time, from the region or the weather, the cultivars or whatever farming they actually are involved in. Those things come with time.

Now it’s never easy to farm, but over time it does get easier as farmers manage to work down debt, when there’s more experience in that particular field, some costs that have already been paid in terms of infrastructure, and so on. And then obviously scale makes a difference.

In many instances farming is a way of life, and in many instances it’s like leaving a legacy, in many instances providing for financial dependants. It’s also a big sense of achievement if you end up on the other side as a successful farmer. Now, all of these [things that] I explained are quite tragic if this build-up and momentum is actually broken and ended because of, let’s say, death, illness, or age [of] the original owner. Unfortunately without proper financial planning, this is the outcome.

Currently worldwide the number of family businesses that reach the third generation – not even surviving the third generation, just making it to the third generation – is only 12%, and many family business owners bank on the idea of selling.

So if there’s not a line of succession from a family point of view they, in many instances, bank on the idea that the business can be sold. Unfortunately the statistic in South Africa is that 95% of businesses never sell, which is a very high percentage of succession failure also linked to that business owner’s retirement plan.

So the two go hand in hand. Retirement planning and succession planning in essence are the same thing.

BOITUMELO NTSOKO: Richus, when is the ideal time to start succession planning?

RICHUS NEL: Tumi, the short answer is to start with it today, because it will always involve a transition period, even if someone just goes and writes down their cross-generational vision and objectives for that business or for their family, whatever the case might be.

I think these objectives and vision that someone then pens down eventually form the backbone and the roadmap of what someone would achieve. Interestingly, quite a few years ago I already mentioned that we are so short-term focused.

When you start thinking about cross-generational planning and wealth planning and succession planning, it’s quite interesting that instead of a couple of years, short-term cross-generational focus is one generation; medium-term is then probably two generations; and long-term is three generations plus. It just shows you how perhaps our thinking should adapt when we start thinking about cross-generational succession planning.

BOITUMELO NTSOKO: And how do you start the conversation with your family about it?

RICHUS NEL: There are actually professionals that focus on this, and they are called ‘accredited family business consultants’. They deal with this on a daily basis and are obviously very skilled. They’ve probably got [someting] of a psychologist’s nature as well, because they deal with the family member.

But what needs to happen is the initial family owner, business owner, who starts planning in terms of the line of succession, needs to identify these objectives. As soon as they are identified, those objectives should be discussed with one of these professionals.

These professionals will help formalise a process of initiating and forming a ‘family constitution’, which is a formal document that lays out and sets out a set of rules designed by the family and agreed [to] by all the family members, [who] then basically abide by [them], whether the initial founders are still alive and involved or not.

It’s a very delicate process. You are obviously dealing with people from different backgrounds, depending on how big this family is, people with different business and life aspirations, with different capacities in terms of business acumen, and so on.

This set of rules is basically to help this family to endure during times of challenges, making certain decisions and so on, and to be very clear [that] the success of any family business basically rests on the business performance itself, which would obviously be suboptimal if the family is ununified; and then secondly, how well and how quickly family matters and disputes and distractions are basically resolved.

So it’s a formalised process. As I said, it includes something like the family vision, family mission. There’s a culture and sets of values in there, and the numerous forms of policies that actually provide these guidelines. As I said, these are in the hands of qualified family-business consultants rather than necessarily in [those of] the financial advisors.

BOITUMELO NTSOKO: Well, you mentioned a family constitution. What else goes into developing a good succession plan?

RICHUS NEL: What I’m referring to today is slightly, I almost want to say, the second level of succession planning for probably a bigger family business than just one where we would actually refer to a will, a proper functioning legal will, that will move a family business into different structures.

Let’s say out of a family owner’s personal estate, it can include when this family business has been moved into, let’s say, a company structure held in trust, and the like.

So the tools that we generally use in succession planning in terms of key-man and buy-and-sell agreements, key-man insurance, contingent liability insurance and so on – this is almost like the second layer of those already. So in a way this is almost [at a] high level, especially when it’s quite certain that there’s a cross-generational wealth succession plan needed, instead of just one passing on to a second generation, and after that the assets and the benefits would’ve been consumed.

BOITUMELO NTSOKO: How can you ensure a smooth implementation of this plan? And what, if any, external support should families enlist? I know you mentioned a consultant earlier, but should you then include your family financial planner in this process as well?

RICHUS NEL: For the family-business consultant this is their bread and butter, this is what they deal with on a daily basis. I see them basically as the conductor of this process. You can imagine what sort of intellectual property over time they’ve built up and experienced in setting up that framework that we referred to.

But I would expect that with a process like this it’s beneficial to have family legal representation in there, to have the family accountant and auditors in there, and obviously the family financial advisor to focus on all of these aspects while this framework and organisation is actually put together, pointing out certain pitfalls – especially someone like a tax expert.

You would’ve expected that perhaps from an accountant or auditor, but a lot of the time this runs into an across-board tax specialisation, which again is in some instances necessary for assets held across in different jurisdictions.

BOITUMELO NTSOKO: And then from an estate-planning perspective, what [does] the owner need to do?

RICHUS NEL: From an estate planning point of view, as I said, this is almost like the second layer of succession planning.

The first would’ve been to focus on, or to minimise the estate duty and capital gains tax implication in terms of the death of the initial owner. That would’ve been taken care of by this stage, and these assets left for multiple and cross-generations thereafter – you would’ve expected [them] to have been moved into suitable structures already, and that it would be out of the individual’s personal estate.

BOITUMELO NTSOKO: Earlier on you mentioned that when you’re having this conversation with your family, some of the children may have different career aspirations. How does this then change the succession plan when one of the children who is to take over the reins shows no interest in going into the family business?

RICHUS NEL: I think this is really the challenge.

If you look at private family businesses instead of public companies, for instance, in family businesses the shareholders and the beneficiaries – even the custodians, the trustees, and also the management a lot of the time – end up being the same individuals.

This is where the complexity really starts; it’s hard but not impossible, but it is difficult to separate the interests and the management of these organisations.

I think this is where I find those consultants invaluable, because [within] that constitution and that framework, they basically need to get to a balance of people and family members working in the organisation, while benefiting, versus members – or let’s call it non-participating family members – also having to benefit.

I think that is the difficult thing to reach. That’s why I don’t lay that responsibility or that expertise necessarily in front of an accountant or a lawyer or a financial advisor. I think it’s a particular skillset, where people over time understand that every family is different. Every business is different, and really the expertise of having these right conversations [enables one] to actually identify the objectives, understanding where every family member is in terms of those aspirations.

But it’s actually a very common phenomenon to expect that not all your children will go into your family business.

And then the other common phenomenon is that most founders of those businesses would like the children perhaps to have benefits in an equal and equitable way.

BOITUMELO NTSOKO: Can you maybe give us an idea of how you can ensure that your children have some kind of benefit?

RICHUS NEL: One way would be – and it’s not always that possible – to separate the running of that business versus the benefits that the business actually produces, because the benefits can be shared equally, but not necessarily the responsibility [for] that business.

So it’s reaching a balance in terms of [whether] that business would’ve been an independent business, and individuals having roles of responsibilities and benefits as employees versus them having benefits in an equal manner from being a beneficiary of the family wealth.

As I said, I think reaching that balance is the challenge.

BOITUMELO NTSOKO: What other key points should we consider?

RICHUS NEL: The biggest point, or the biggest challenge or objective of any succession plan, in particular with family businesses, is to unify the family.

That’s why that constitution really forms the foundation and the cornerstone of reaching that. So it does document and arrange people’s expectations to a big extent as to how they would like this organisation to succeed, and what the benefits are that they would actually [receive].

So it’s a process of where everyone is able to take part in this process. And it’s for all stakeholders, making sure that it’s an inclusive conversation, because if it’s not there’s no use having all of this process going [on] and you are unable to unify the family [in] trying to sustain the business into a second or third generation.

The main objective has to be to keep the family together.

BOITUMELO NTSOKO: Thank you so much, Richus. That was Richus Nel, who is a certified financial planner at PSG Wealth.