Succession Planning: Who Is in the Running?
Due to changing perspectives on life planning among the younger generation, options outside the family business are increasingly being considered. As a result, succession by someone from outside the family—whether through an MBI (management buy-in), an MBO (management buyout), or by expanding the shareholder base to include a financial investor or strategic partner—is increasingly emerging as a viable option.
At the outset of the succession process, the owner’s personal life plans are central: Should retirement follow immediately upon the sale, or should the owner remain at the helm for a certain period of time? In the latter case, a sale to a financial investor or strategic investor is typically the only realistic option. This usually requires that the existing management remain on board for several years.
The entry of “outsiders” into the shareholder group means that key decisions can no longer be made alone. The ideal buyer should therefore not only be a good fit financially, but there should also be good personal chemistry and shared values.
Business Planning: The Basis for Valuation
A robust multi-year business plan is one of the most important success factors in the succession process: This plan—which the buyer should thoroughly validate as part of due diligence—typically forms the basis for determining the purchase price. To present a plan that is as transparent as possible, it is advisable to create an integrated plan. This means that the income statement, balance sheet, and cash flow statement build upon and influence one another. If no business plan exists, preparing a realistic, multi-year business plan is an absolute “must” as a preliminary step.
In practice, such in-depth data is rarely available, and the task of creating an integrated business plan therefore often exceeds the company’s existing capacity. In such cases, engaging an experienced consultant can offer significant advantages. The consultant should initiate this process early on and support the company throughout. Among other things, this helps prevent the sales process from being unnecessarily delayed—or, in the worst-case scenario, rendered impossible—due to a lack of reliable planning figures.
Due Diligence: “A Hassle,” but Necessary
In a due diligence process, the buyer or their advisors first examine various areas of the company, particularly customer and revenue structures, technology and products, finances, legal issues, and the organizational and operational structure. Depending on the specific case, further aspects—such as an environmental audit, an assessment of patent and licensing law, or other considerations—may be necessary.
For the seller, due diligence —involving the collection, preparation, and coordination of documents and data—initially represents a considerable burden in addition to day-to-day operations. Nevertheless, the importance of due diligence for the seller should not be underestimated. Typically, a purchase price target established in advance can only be achieved with the appropriate level of transparency; the business plan and its assumptions must be validated, verified, and made comprehensible. At the same time, the process also provides certainty for both parties; appropriate transparency has a positive effect on both the subsequent phases of the transaction and any business relationship that may continue. Finally, due diligence forms the basis for a release from liability under civil law in accordance with the principle of “sold as is.”
Based on practical experience, it is therefore advisable to begin gathering data and information early on to ensure that the due diligence process is as comprehensive, professional, and seamless as possible. Here, too, the advising consultant plays a crucial role.
Purchase Price Financing: The Seller Can Also Provide Financing
Traditional succession financing is provided by a bank or a consortium with a significant equity contribution. If the financing is based primarily on the target company’s projected cash flow, it is referred to as a leveraged buyout. In the latter case, the target structure plays a central role, as comprehensive access to cash flows is a prerequisite for many financiers. In business succession transactions involving only a partial sale of shares, therefore, attention must be paid to the financing and transaction structure as well as any resulting liabilities.
If the buyer and seller agree on a performance-based payment structure, this is referred to as an“earn-out.” Initially, a portion of the purchase price is due upon the transfer of shares; the amounts of the remaining installments are often tied to defined milestones or targets (usually EBITDA/EBIT). Through this structure, the seller continues to bear the business risk for a certain period of time. At the same time, if the business is successful, additional proceeds beyond the nominal purchase price can be realized.
Vendor loans are also now quite common. In this arrangement, the seller acts as the financier for portions of the purchase price. Vendor loans are typically subordinated to other debt claims, meaning the vendor loan is classified as economic equity; in return, the seller normally receives a risk-adjusted rate of return. This type of purchase price financing generally requires a high degree of trust between the parties.
Conclusion: Preparation Is Key
Succession planning is a long-term endeavor that must be carefully prepared. Sufficient lead time, concrete preparations, proper timing, and realistic expectations are crucial factors for a successful business succession.
PEBCO Aktiengesellschaft is a management consulting firm and service provider specializing in strategy, markets, business processes, and finance. The design of succession processes and their active implementation are central focuses of its work. As an “enabler for small and medium-sized businesses,” the company deliberately positions itself as a generalist in order to develop holistic solutions for overcoming growth barriers. Since its founding in 2015, PEBCO AG has grown to a team of four partners, supported by a solid foundation of senior and junior consultants. The company’s range of services is rounded out by its Financial Advisory, M&A, and Private Equity divisions, which have been further expanded in recent years.
