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Deciding on the Type of Business Ownership Transition: Internal, External, or Closure?

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Business succession planning is a process. It takes time to define your goals and structure your plan to best achieve those goals. This blog is the third in a series of six designed to help small business owners make important decisions about business ownership transition.

The first blog, "Business Succession Planning: The Key to Your Future," provided an overview of business transition planning. The second blog, "Defining Your Goals and Starting the Business Succession Planning Process," discussed how to begin the process by defining your goals and developing a relationship with an experienced business lawyer.

This third blog will help you learn about business transition model basics. There are essentially three types of transition you may choose to pursue: internal, external, and closure, usually in that order of preference. You may also be pursuing more than one of these options at the same time based on your circumstances. Let's take a closer look at these transition models.

Internal Ownership Transitions: Great for Family and Professional Businesses

For a business owner who wants a gradual transition to retirement or another endeavor, internal transition will often best meet that goal. Transition of company ownership to one or more employees can provide continuity and stability for investors, clients, and employees and allow the business owner to pass the baton, so to speak, over a period of time. Internal transitions are often ideal for small, family-owned businesses and for professional businesses, such as law firms, medical practices, or engineering firms.

An internal ownership transition also allows the business owner much more latitude over how the transfer of power takes place. However, this type of transition usually takes longer than other models. It can be difficult to identify a suitable candidate, so it is sometimes necessary to attract new talent to the business.

In the alternative, the business owner may decide to reward the long-term loyalty of a key employee. However, internal candidates frequently lack adequate resources to finance the purchase. Although the owner may provide assistance in locating financing, this can be a time-consuming process.

Internal transitions can also allow the owner to retain some control over the company, to continue receiving certain owner perks, and to continue receiving an income stream. The internal transition is also the best bet for continuing a legacy, as the owner controls who takes the reins and how the transfer takes place.

External Ownership Transitions: With Time, Can Be Great for Maximizing Value

If an internal transition of company ownership is not viable, business owners may opt for an external transition. This typically involves a sale of the business to a third party or a merger with another company.

External ownership transitions can sometimes be difficult because there is often a lack of trust and mutual goals. Not having worked together or built a relationship, the parties' interests are not always aligned. This can make negotiations more delicate, and it generally precludes a gradual transfer of power. External transitions often implicate tax issues and can rattle the nerves of customers and employees alike.

Most business owners do not favor external transitions because of the limitations they present to their goals. However, one potential advantage is that your legacy may live on if the right buyer is found. In addition, if you begin the process early and pursue it systematically, you have more time to achieve a higher value in an external transition.

Closure: Provides a Predictable Outcome

Closure is often the last resort for business owners who want to retire or otherwise move on. When the doors are simply closed, the owner receives no compensation for intangible assets, such as customer lists or goodwill. Instead, the company's value is reduced to the value of assets on hand.

Many business owners want to avoid this outcome. Instead, they want to extract value they have built up through a lifetime of developing and running their businesses. They also may feel an obligation to their clients, customers, investors, employees, and the community to keep the business in operation.

While closure can often be avoided by starting early to develop and execute a transition plan, some business owners like the predictability this outcome provides.

Work with an Experienced Ownership Transition Attorney for the Best Results

It is helpful to obtain professional advice when deciding on the type of ownership transition that is right for you and your business. While owners know their businesses best, they are often too close to the issues to evaluate the options objectively. An experienced business attorney can help you explore the options available to you and best position your company for a smooth transition.

Remember, starting the process early is essential to meeting your goals. Don't wait another day. Contact me, Stephen J. Golder, by calling (866) 617-4736 or completing our firm's Contact form. We pride ourselves on helping business owners in West Virginia, Kentucky, and Ohio achieve their goals.

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