Succession Planning in SMEs and Selling the Company

Many logistics service providers are small and medium-sized enterprises. Often, succession can be arranged within the family. However, very often the children do not want to take on the exhausting task of managing a logistics service provider. What to consider, especially in the case of external succession, is described by Hannes Caj in his article.

By Hannes Caj

“Succession” is undoubtedly a task that affects every small and medium-sized enterprise (SME) sooner or later. The definitions of what constitutes succession planning and what “succession” actually means are less clear. This article focuses particularly on the (family) external form of capital succession.

First, it is important to define “succession” more precisely. The term is rarely understood comprehensively because everyone wants to have a say and earn from this topic. It is particularly important to distinguish between operational succession (“Who runs the business?”) and capital succession (“Who owns the company?”).

While operational succession is a personnel issue (“Who brings the necessary knowledge, skills, and experience?”), capital succession is an M&A issue and thus our specialty. Therefore, this article deals with the sale of a company and temporarily disregards the question of the personal succession of the entrepreneur.

Timely Search for Operational Successors

Of course, both aspects – personal succession and the sale of the company – are ultimately the different sides of the same coin: Typically, in a Swiss small or medium-sized business, the owner is many things all in one person: managing director, marketing manager, key account manager, head of development, etc., and at the same time 100% owner. When succession is imminent, it is very difficult to sell the company (capital succession) while simultaneously stepping away from the operational business. This inevitably leads to the seller (previous owner) having to continue working for some time: Normally, at least two to three years with a decreasing workload. During this time, the buyer must look for a suitable operational successor – which poses a risk for them that directly affects the purchase price of the company.

It is therefore better if the owner seeks a successor themselves before the sales process, and this successor proves themselves over two to three years. This way, a company that continues to operate independently can be sold. Of course, the buyer will also want to involve the seller further, but this will usually be limited to a role as a board member – perhaps also maintaining relationships with key customers.

Different Variants of Sale

The sale as part of a succession arrangement can take place in various forms: In the simplest case, the company is sold 100%, and the purchase price is paid immediately in full. In another common variant, the buyer initially acquires only a majority stake in the company, along with the option to later acquire 100%. In such a constellation, the seller can still benefit from future growth. At the same time, however, they are “at the mercy” of the buyer because the buyer holds the majority of the company. Therefore, a good shareholder agreement is of utmost importance: It must guarantee full minority protection and also regulate the purchase options. Here, the involvement of experienced advisors is recommended, as standard documents do not achieve the desired outcome.

Structuring the Purchase Price

There are also numerous variants regarding the structuring of the purchase price. We will mention just a few exemplary ones: The seller leaves part of the purchase price as a loan in the company. This loan is repaid over the years with the company’s profits. It is important that the loan is repaid solely from future profits and not from the company’s assets, which would have adverse tax consequences for the seller (“indirect partial liquidation”).

Another variant is a variable purchase price component called “earn-out.” Here, part of the purchase price is made dependent on achieving future goals: For example, it can be stipulated that if EBIT exceeds one million, an additional purchase price tranche of two million is to be paid to the seller. Thus, the purchase price or the seller – unlike with a seller loan – is directly dependent on the future success of the company, even though they are no longer responsible for management and thus have little influence. Nevertheless, an earn-out can be sensible in certain situations, such as when a new product or project is in development or before market entry but has not yet generated revenue. Instead of valuing the company before the sale, market success can be taken into account with an earn-out: The profit then also benefits the seller with a higher (total) purchase price.

Financing the Purchase Price

Another important element in structuring a transaction or company sale is the financing of the purchase price. In principle, three options are available: equity, debt, and mezzanine capital.

Equity refers to the own funds that a buyer brings in – either in the form of “real” equity capital or as a subordinated loan. Debt usually comes from banks in the form of acquisition loans. Experience shows that about 60 percent of the purchase price can be financed with bank loans. If equity and debt together are not sufficient, mezzanine capital is used. This hybrid form of capital is amortized like debt but assumes the risk like equity, meaning it is subordinated. This risk assumption must, of course, be compensated with interest rates of up to over 10 percent per annum. The aforementioned seller loans can thus have either a debt or mezzanine character, depending on the contractual arrangement.

By the way: Every buyer should be advised to always purchase a company through a holding company and not as a private individual. The main reason for this is financing: If external funds (debt or mezzanine capital) are used for the purchase, the capital provider grants these loans to the holding company and not to the buyer as a private individual. This has the significant advantage that in the event of a downturn, the holding company is liable and not the individual with their entire private assets.

Conclusion

All in all: A company sale or purchase is a complex matter, and the points mentioned here are just a small excerpt from the “checklist” for any company transaction. Responsible entrepreneurs approach the topic early and with professional support. In selecting the advisor, their expertise in and focus on company transactions is crucial, as well as their experience, resources (team or individual), and of course – as with all important decisions in both private and business contexts – the “chemistry” on a personal level.

Photo: © Zetra International / Hannes Caj

The Author

Hannes Caj is a partner at ZETRA International AG and specializes in company transactions. He leads the branch in Basel. His area of expertise is the logistics industry. Caj holds a master’s degree in banking and finance.
https://zetra-international.com/