Buying out the parents

Generational handovers in family business are dangerous times. Treating family members fairly and with equity is vital but hard decisions often have to be made.

More than 60 per cent of CEOs are older than 50, according to the 2011 KPMG – Family Business Australia national survey. This suggests that succession should be increasingly on the minds of owners, advisors and policy makers.

Passing on the business to the next generation represents a great opportunity to build on the successes of the family business, but how does one do this successfully? Using an Australian family business as an example (names have been changed to protect confidentiality), we see two of the key challenges in passing ownership to the next generation;

1.     How to finance the buyout of the parents and

2.     How to treat all family members equitably.  

Ian and Janet Booth, founded their business over 40 years ago which now encompasses the retail industry and a portfolio of property investments. They recently sold their multi-award winning retail business, which employs over 70 people, to two of their four children, Harry and Andrew.

This was the outcome of a process which Ian commenced over 10 years ago as a result of turning 60, a heart attack, Harry and Andrew taking over the management of the retail stores of the business, and his mother teaching him to always plan ahead. Ian was also motivated by the desire to see the successes that he and Janet had achieved through the business to be available to their children.

Not knowing what were the ‘right’ steps to take when planning for succession, Ian decided to organise a family forum which included their children’s spouses. Ian wanted to educate the family members about the business, encourage their interest and input on (and hopefully their involvement in) its future.

These family forums took place every 6 months and culminated in the family decision that Harry and Andrew would ultimately become the owners of the retail business as the other two children had established careers interstate. A nominal price for the business was agreed on by the family, the plan was for Harry and Andrew to buy-out their parents over time through the use of the dividends that were normally paid to them.

However, a couple of issues caused Ian and Janet to revisit their plan. Firstly, in the process of the planning to open a new large retail store, it became increasingly clear that Harry and Andrew had very different management styles and views of the future of the retail business. Despite talking these issues through with the family and others, these differences were irreconcilable. The other issue was the disappointing performance associated with another retail store which the boys together had decided to acquire.

In the end, the family agreed that the best way forward (for both the family and the business) was for the retail business to be split, where Harry and Andrew would become individual owners of the retail stores they managed. Ian and Janet have never believed in free handouts which can encourage an ‘entitlement’ mentality amongst the family. As a consequence, Harry and Andrew (with their spouses) were required to purchase the stores through use of bank debt. The proceeds of this sale (value was determined through independent valuation), were split equally between the four children, which reduced the amount that Harry and Andrew would need to borrow to buy out their parents.  Although Ian and Janet have yet to work through the management succession of their property investment company, experience gained through the succession of the retail business will assist them greatly.

What can be learnt from the experience of the Booth family?

First, developing a succession plan takes time so start early! It needs to be flexible to the changing needs of the family, the business, and other issues that may arise. By undertaking planning well in advance, the family is able to determine alternatives on how the buy-out the current generation can be financed. Putting it another way, the less proactive a family is in planning for the exit of the current generation, the fewer options they will have when the time comes.

Second, regardless of what the wishes of the current generation are, it’s important to listen to the next generation. Although from a business perspective, carving up the assets amongst the family reduces the future potential of family wealth, sometimes it’s actually better (for both the family and the business) not to force family to work together but to allow them to pursue business interests which are aligned with their passion and skills.

Finally, don’t underestimate the value of regular family forums (including family members outside the business). The one issue which has the greatest potential to pull a family apart is when there’s a belief that that not all family members have been treated fairly / equitably. Through ongoing dialogue, family members are able to ensure that whatever succession/exit plan is agreed on, it is perceived as equitable. Janet played a critical role in facilitating communication amongst the family members, ensuring everyone was heard, and understood. In essence, her role was that of the CEO (chief emotional officer).

Dr Chris Graves and Dr Jill Thomas are the co-founders of the Family Business Education and Research Group and are senior lecturers in The University of Adelaide Business School.

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