One of the critical stories underlying the broad points in the 2015 Intergenerational Report is the burgeoning numbers of SMEs that are changing hands as their owners age and retire.
PwC estimates that 1.4 million family business owners in Australia will retire over the next 10 years, yet its global family business survey has found that just 8% of Australian family businesses have “robust and comprehensive” succession plans. This compares to a global average of 16%.
The Intergenerational Report doesn’t specifically cover the great SME ownership changeover. Nevertheless, the ability of business owners to efficiently handle this transition is crucial to how well Australia copes with a rapidly ageing population.
Australian small businesses are falling behind in global comparisons on managing family conflict, according to the PwC survey; a key issue in SME succession planning. Almost a third of our family businesses have no procedures in place to deal with family conflict.
Sue Prestney, a partner at PwC Private Clients, says the reality of an ageing population as outlined in the Intergenerational Report is that more SMEs will have to change owners over the next few years. And the businesses will sell outright to unrelated buyers or pass to the next generation of family members in some form, which may also include some sale arrangement.
Interestingly, PwC research shows that a third of family businesses are intending to pass on the ownership of their enterprises to the next generation but not the management. There are many twists to this ownership transition currently underway.
The superannuation of ageing business owners is an increasingly significant factor when family businesses change ownership to the next generation.
The size of the parents/business owners’ retirement savings is likely to influence how much money they expect from the business to finance their retirement. Another point concerning super is that many business premises are held in their owners’ self-managed super funds.
Prestney urges family owners to focus on their equity and management succession planning – even if their intended retirement is years away. She says that key factors in developing a sound succession plan – many of which overlap and are closely connected – include:
Prestney finds that parents sometimes mistakenly believe that their adult children want to takeover the family business, even when their children want different careers. “On occasions, it may suit everyone in the family if the business is sold [to an unrelated trade buyer].”
Prestney uses family meetings and confidential questionnaires to “dig down to what people in the family want and expect from each other”.
Prestney urges family business owners to do what’s best for the family – financially and for family harmony – when making a decision about the future of the ownership. “If possible, do not put additional stresses on family relationships.”
This further emphasises the need to plan well ahead for the retirement of the owners and the transition in the business ownership.
For instance, business owners often reduce their working days as they age and may eventually move from being an executive to being the non-executive chair.
Prestney recommends having a long-term succession timetable. “Ask what you will be doing in, say, 12 years’ time,” she adds, to underline the need for long-term planning.
These include ownership passing to the next generation (whether or not payment is involved), a management buyout or private equity sale – leading to a trade sale or listing.
Prestney says that the business owners need to calculate how much money they need to finance their retirement. Some will have built up considerable savings others may have most of their wealth in the business.
In turn, this may dictate whether the business is simply passed to the next generation, sold to the next generation, sold outright to an unrelated trade buyer, or whether some arrangement is needed for the parents to receive some profits from the business while in retirement.
Prestney says that as the business owners develop their business succession plans, they should be developing their estate planning and asset protection strategies, which may include the use of testamentary trusts.
Prestney says families have to question whether the family business can support more than one next-generation family. “This causes its own pressures.” Some adult children may have to leave the business.
This a key theme running through Prestney’s advice for family businesses in their succession planning, and leads back to her early point about the need to understand family psychology.
Prestney suggests that succession planning should include trying to anticipate what could cause family conflict. For instance, pressures could arise when siblings not working in the business want good dividends, yet siblings working in the business may want to plough the money back as working capital.
She says one way to address this pressure between family members who are active in a business and those who are passive is to have buy/sell agreements already in place. These agreements provide for the active family members to buy out the interests of the passive family members. And as part of these agreements, a system can be in place to value the business.
“This is all part of conflict management,” Prestney says. “If anything goes wrong, procedures should be in place to deal with it.”
For various reasons, a decision may be made for the ownership of a family business to pass to the next generation while the management is conducted by non-family members.
A fundamental question is simply: “Who’s going to run the business?”
While tax is an important consideration when planning business succession, Prestney emphasises it is just part of the mix. Business owners should consider their after-tax position while planning their ownership succession.
One mistake is for business owners to assume they will be eligible for various small business CGT concessions on the disposal of active business when they may be ineligible.
Other factors to consider here include whether or not it is better to dispose of the business now and face the possible tax consequences – depending upon the circumstances – or for the ownership to pass to the adult children upon the parents’ death.
On the other hand, the business may already be held by a discretionary trust. “You need to know your tax position and make an informed decision,” says Prestney.
