Farm succession planning is one of the most complex areas of Advisory Partner’s practice.
We partner with consultants who specialise in managing intergenerational negotiations to ensure Christmas Day is still fun. Our consultants work to identify key family members’ needs and expectations about the farm succession process.
They will include the goals of all family members. Children may have varied expectations. For example, a son or daughter who has worked in the business for many years may expect farm ownership to be transferred to them (with or without payment). That may fulfill both their career and financial expectations. Some children may expect to receive financial assistance. Others may want nothing at all – simply that the business succession process leaves their parents financially secure in retirement.
Advisory Partner adds value in optimising taxation and financial outcomes. Key areas include:
- Financing the ownership change
- Cashflow to support the succession plan, which could include building a herd as an interim step
- Restructuring legal entities in cost-effective ways
- Pre-capital gains tax assets, and
- Ownership and legal structures for gas or mining royalties.
The family corporate farm – attracting the right capital
The next evolution of family farming, the “family corporate” farming operation, is likely to become a significant force in Australian agriculture.
A family corporate operation is a sophisticated business that combines the best of family farming with the benefits of a corporation model. The corporate element will bring more sophisticated capital structures, governance and scale.
How do you attract the right money and what does a successful relationship with an investor entail? The right investor is the investor with the right mindset. If you are a buyer, it might be that you are buying out another family member or you want to buy the block next door.
Most people consider cattle property values are at or close to the peak for this cycle. Market forces globally will eventually recalibrate the supply side of the market and prices will go back to a more “normal level”. Farms that have target niche markets will be less affected by that, but it will still have an effect.
The rise of genetics and the use of CRISPA technology will continue to drive change and white tick resistant angus, which has a 30% improved feed conversion, isn’t far away.
In this environment, access to capital is a key issue. It is important for farms, like any other business in Australia, to access capital to grow their business, take advantage of new technology, vertically integrate, improve water reliability and engage in geographic diversification.
Attracting the right investor is about matching the opportunity with the style of investor. There are typically two types of investor:
- Long-term, seven year plus
This type of investor is happy to back the farming business over the long term. They will most likely want to own property directly. They are happy with a blended return that is split between a yield paid on the way through and a capital gain on exit. They usually target a total return of 10% plus.
- Medium-term investor, three to five years
The medium-term investor is seeking a growth strategy that builds value through investing capital in specific projects. They are typically more involved in the process and usually targeting most of the gain at the end of the investment through a sale. The key risk for this type of investor is the exit so they will focus on that and potentially have a buyer lined up at the start of the investment. They usually target a total return of more than 20%.
The key elements to getting an investor comfortable with your business are:
- Group structure: Investors will be sensitive to the family history of the farm however they will also want to ensure there is no leakage of returns, that is, if they are investing in the business they will want to ensure they get return from the investment. A simple investment structure with one entity is ideal.
- A track record: It is hard to get an investor to take a leap of faith based on an idea or an “if we do this” proposition. A track record of profitable, cash-positive operation is important, understanding that agriculture is a cyclical business exposed to weather.
- Having the right story: Getting the story right is a key part of selling the value of the investment. An investor wants to feel they are investing in a winning strategy. It is important to communicate this clearly and concisely.
- A willingness to engage with a partner: An investor will be more comfortable with an investee who can show they are willing to engage in governance, which could include regular financial reporting and possibly a board meeting process.
Succession planning for farm businesses can be highly complex. Follow our checklist to help you understand the processes involved. Advisory Partner’s experts can help you navigate succession planning efficiently [391KB PDF].
Business succession planning
Family business succession
When considering potential purchasers for a family business, one available option is to gift or sell the business to a family member.
This is called family business succession. The succession of a business within a family creates a range of issues that must be overcome for it to be successful. They include:
- Identifying special needs associated with transferring a family business between generations
- Preparing a family tree and discussing the implications for business succession planning
- Helping the family to identify and manage each family member’s expectations
- Developing a family shareholders’ policy
- Developing a family employment policy
- Developing a family share re-purchase policy
- Developing a family policy on pre-nuptial agreements
- Understanding the separate roles of the family and the business
- Preparing a vision for the next generation of the family
Succession planning process
Some business owners start their businesses with an exit strategy in mind.
For them, succession planning is built into the original business plan. However, most businesses gradually develop over time. New products and services are added as the owner experiments with new ideas. Consequently, the business’s core activities are not always clear and individual business units may not have achieved critical mass. Real estate assets may have been added over the years, such that the current market value of the real estate is significantly higher than the value of the business operations.
The finances of the business may have become intertwined, with loans between the owners and the business being common. For those businesses, it can take some time to prepare them for sale or succession.
The ultimate destination of business succession is transferring the business to new owners. This article examines the process of business succession in the years leading up to the succession, implementation of the business transfer, and the period immediately afterwards. That enables Advisory Partner to assist as the owners transfer their assets from the business to other assets, such as passive investments to service their retirement or into another business.
The life of the business owner is inexorably linked with the life of their business. For example, a decision to sell the business may be contingent on the likely sale proceeds being sufficient for the owner to retire. The business succession planning process therefore contains elements of the owner’s personal financial plan, together with a succession plan for the business.
Overview of the succession planning process
In a pure financial sense, the business is there to meet the owners’ financial needs and wants. But a business is much more than that. It is the owners’ occupation – a crucial source of their own personal self-image and self-worth.
Business succession planning should therefore be dealt with not by treating the business in dispassionate isolation, but as an integral part of the life of the owners. To achieve a successful business transition, the first step is therefore to separate the existence of the owners from the existence of the business.
The business can serve the personal and financial needs of the owners, while being careful to keep the business and the owners as separate identities, gently introducing the concept that, as separate identities, the business and its owners must, some day, part company.
For many years, the business owners have fulfilled at least some of their personal goals by working in the business. Advisory Partner works with them to broaden their horizons in terms of pursuing self-worth outside the business.
The business owner needs to define what they want their business legacy to be. For some, it will be passing on the business to the next generation of family members. For others, it might be a continuation of the business concept by outsiders, with the previous owner now being free to use the sale proceeds to pursue other interests.
Others might perceive their goals in purely financial terms, having enough funds for a fulfilling retirement and maybe to assist their children make a financial start in life. Some may wish to acquire another business or pursue an alternative career. Whatever the angle, Advisory Partner works with you to help define your personal legacy after the business.
From our experience, no business succession occurs until the owners perceive themselves to be financially secure. Therefore, we start the succession planning process by preparing a personal financial plan for the owners. That involves creating a balance sheet and income statement for the owners.
In the initial stages, the largest source of both capital and income is likely to come from the business. Over time it is necessary to demonstrate that the owners can replace these financial resources with other sources outside the business. In some cases, the financial resources might come from a single large transaction in the form of the sale of the business. In others, it might involve a gradual plan of diverting a substantial portion of the business’s profits over a five-year period into superannuation and a portfolio of passive investments. Those investment funds might ultimately be added to from the capital proceeds once the business has been sold.
In cases where the business is unsuccessful or insolvent, it is necessary to demonstrate to the owners that the best hope of becoming financially secure is to sell or liquidate the business. The logic, however, remains the same. Advisory Partner must first address the personal financial circumstances of the owners before proceeding to deal with the future of the business.
Once the business owners’ personal and financial goals are established, it is necessary to examine the business in detail. The process starts with conducting an initial valuation. For larger businesses, professional valuers can establish a business valuation. For smaller businesses, tools can value the business using four common valuation methods and evaluate the results to enable discussing approximate business valuations with the owners. Using this approach, we seek to establish a starting point for the business succession process.
Having established an initial valuation, Advisory Partner can then discuss valuation enhancement opportunities with the owners. That may include restructuring the business to make it more attractive to potential purchasers or closing unprofitable services or divisions.
There are many situations where the sale value of the business can be maximised by selling the business assets separately. That’s often the case where the assets include an operating business and real estate. The valuation enhancement opportunities are then prioritised and progressively implemented.
The valuation enhancement process identifies items that can increase the value of the business – often items that are overlooked because they don’t have much impact on the day-to-day running of the business.
Advisory Partner works with you to ensure the business is operated effectively on a day-to-day basis. That involves preparing operating budgets and ensuring the business is managed in accordance with those budgets. That’s important because the operating budgets integrate with the personal financial plan.
The final stage of the process is to assist you in proceeding with the business sale. The funds can then be applied by the owner to finance items such as their retirement plan and/or the acquisition of another business.
The business succession planning process outlined above is just a framework, allowing adequate flexibility to accommodate a wide variety of different client circumstances.
Benefits of succession planning for business owners
The benefits of succession planning for business owners include:
- Helps to achieve maximum after-tax value from their most significant asset
- Helps the business owner recognise and deal with the expectations of other stakeholders in the business, including family members, employees, suppliers and customers
- Assists the business owner to control how and when to exit the business
- Provides an opportunity to link personal, non-financial goals into the succession planning