Every business owner, irrespective of whether the business is a franchise or not, needs a strategy for exiting the business.
This strategy is widely known as a succession plan. Succession planning is about dealing with the inevitable - death or retirement, however, disability, a dispute, a longing for something different or the end of an agreement may drive the need to leave the business. It is important for a business owner to plan for this and make an early assessment of its options.
Begin by asking the hard questions:
1. What are your business and financial goals and what is required to reach them?
2. When will your business reach its peak? And how might economic changes impact it?
3. What should you do when the business is ‘worth all that it can be worth’?
4. What would you do if someone suddenly offered to buy your business?
5. Do you have business partners to consider? What would your business partners want to do? How would you resolve a partner dispute about whether or not to sell? What if something happens to one of your business partners?
6. If forced to sell, how long might it take to sell the business? Would the buyer be an existing employee or independent third party?
7. Are you the key person? What if something happens to you that causes your indefinite absence from the business?
8. Do you fully understand your role and responsibilities, including the characteristics and qualities that enable you to run your business?
9. Could anyone else run the business? Are your systems and processes strong and clear?
10. What risks would a change of ownership or management pose to the business and how can these be managed?
If you cannot answer any of the above questions it’s time to add succession planning to your usual planning.
It is imperative that suitable company structures and documentation - partnership and shareholder agreements, buy/sell agreements and trust documents are put in place from the outset to ensure you can exit your business in a tax effective manner and to protect you in the event of an unplanned exit from your business.
Business succession also needs to be coordinated with estate planning.
Shareholder and partnership agreements are critical even with family businesses. An agreement called a buy/sell agreement controls what happens if shareholders or partners exit a business – i.e. a shareholder or partner dies, is disabled or is otherwise incapacitated or retires. Commonly, buy/sell agreements – whether freestanding or whether incorporated into the shareholder or partnership agreement itself set out what events will trigger a buyout of the departing shareholder’s or partner’s share in the business, and rules about who can buy it.
Buy/sell agreements can also be backed by insurance policies to guarantee that there will be enough money to keep a business afloat when a buy/sell event is triggered and to ensure remaining shareholders and partners have the funds to buy the exiting shareholder’s and partner’s interest.
A well-crafted buy/sell agreement can also deal with interpersonal and family issues, and is therefore an essential tool for managing family businesses, and for ensuring spouses and children don’t suffer as a result of poorly planned decision-making. Trust deeds need to deal with the passing of control of the trust to the right person. Wills also need to reflect or be consistent with business succession plans (a spouse or executor may inadvertently be able to control or have (unwanted) input into the operation of the business).
Auditing Your Business
An important part of succession planning is keeping your business in a condition in which a third party can, if necessary or desirable, buy the business on short notice and on favourable terms. The daily reality of running a business can make this difficult, however, you can ensure your business is sale-ready at all times by:
1. Reviewing your business and addressing issues that might affect its value. For example, have you properly documented all material arrangements, including premises leases, franchise agreements, employment agreements;
2. Ensuring your management team is skilled and competent and can operate in your absence;
3. Ensuring financial figures and books of accounts are up-to-date and accurate;
4. Ensuring you have signed copies of all key contracts and agreements, including any supplier agreements, franchise agreements, licence agreements, premises leases etc.;
5. Being aware of the best economic conditions under which you could sell the business rather than simply waiting until forced to sell.
Franchising adds another layer of complexity to succession planning.
The franchise agreement will impact on your exit strategy.
The franchise agreement often set limits on the time that a franchisee or the franchisee’s key person may be absent from the business. A franchise agreement will typically dictate what will occur in the event of the death or disability of the franchisee or the franchisee’s key person.
Generally speaking the franchise agreement will specify a time frame within which a suitable replacement franchisee or key person (acceptable by the franchisor) must be found to take the franchisee’s or its key person’s position. In some cases the franchise agreement allows the franchisor to take over the conduct of the business until such time as the replacement is found.
Further the franchisor may be able to charge a management fee for taking over the management of the business, which will eat into the profits of the business. In order to protect the franchise network, the franchise agreement will no doubt also impose restrictions on the franchisee’s ability to sell. The franchisor will commonly reserve a first right to purchase the franchise and a right to approve the purchaser and/or its directors, shareholders or manager.
Other common preconditions to franchisor approval to the sale of a business are:
• the franchisee paying any money owed to the franchisor;
• the franchisee remedying any breaches of legal advice the franchise agreement;
• the franchisee paying a transfer fee, which can be a flat fee or a percentage of the sale price;
• the franchisee or the purchaser refurbishing the premises from which the business is conducted and/or upgrading equipment used in the conduct of the business, which may serve to reduce the price offered by the purchaser if the upgrades are to be performed by the purchaser;
• the purchaser and/or its directors, shareholders or manager completing any training required by the franchisor.
The sale of a franchised business will also take longer whilst the franchisor reviews the sale contract, approves the transfer, the purchaser and/or its directors, shareholders or manager.
Similar requirements will also apply in the situations where the franchise undergoes internal restructure.
Succession planning requires good independent legal and accounting advice to ensure:
• the right structures are put in place from the outset;
• the necessary agreements and documents such as shareholders and partnership agreements, buy/sell agreements and Wills are drafted.
• other key agreements such as supplier agreements, franchise agreements, licence agreements, premises leases are drafted, are put in place and are valid.
It is also important to remember to review and update your succession goals over time. If your plans change, further advice may be needed and documentation may need to be updated.
Located in Melbourne’s industry heartland, Mason Sier Turnbull has strong commercial law skills and prides itself on providing clients with great service and sensible solutions.
Raynia Theodore, Principal in Mason Sier Turnbull’s Corporate Advisory & Franchising team. Contact Raynia on