Seeking an outside successor
By Dr. Donald J. Jonovic
Last month, I discussed a question from S.Z. from Iowa (read last month's column) about succession when none of the heirs seemed ready to take over the grain operation.
"My problem," S.Z. wrote, "is that neither of my on-farm children [he has off-farm heirs also] seems to have the ability to step into my shoes. I want very much to keep our profitable business intact to provide opportunities for future generations, but wonder I if that's realistic. My wife insists on treating all of our children equally in the estate, which makes things even more complicated. Suggestions?"
In that previous column, I went over issues S.Z. should consider that are relevant to his family and their goals. This column will look at the difficult problem of successfully installing a non-family successor, particularly in a custom farming business like S.Z.'s , where the main asset is the patriarch's special relationships with landlords.
Dr. Jonovic's Solution
Bringing in an outside successor on a family farm may be required in situations where heirs need mentoring or more experience. But it doesn't necessarily mean the family must lose control of management forever. And even if it is an enduring strategy for the current generation of heirs, it can help preserve the career opportunity for future generations.
If S.Z. chooses this approach, following is my advice for improving the odds.
Overall, his heirs need a good leader, a clear responsibility structure, a meritocracy instead of a plutocracy, and a pay system that operates independently of one's level of ownership.
He will have to design compensation for this successor very carefully, likely with some significant emphasis on growth participation. That's because he will be recruiting someone who could otherwise qualify as a competitor to him.
His successor is expected to build value. That requires an entrepreneurial reward. Also, since there should be some form of noncompete agreement in this unique situation, equity-type rewards are S.Z.'s carrot for getting one signed.
In general, any arrangement like this requires detailed and very clear agreements that anticipate both success and failure (either is equally likely).
Capital structure of the business is an important consideration, too. S.Z. will need the ability to apportion equity, even equity of different quality (e.g., voting/ nonvoting; preferred/common) depending on his intentions with his heirs.
C and S corporations and LLCs each have pros and cons, depending on what he expects the future ownership to look like. Professional advice is essential.