A recent Forbes article recounts a tale of terror that should strike fear into the hearts of any family business owner. A review of the estate planning documents revealed that the fourth generation of the family actually owned the business ... not the third generation. Consequently, the teenagers could actually give pink slips to their parents and uncles.
Some business owners worry about losing control of their business, but this is a little scary.
A recent Forbes article, titled “Control Freaks Take Heart: How To Maintain Control Of Your Business,” offers some ways to assure firm control of a closely-held company.
These decisions are critical in determining who is in control and over which aspect of the enterprise.
One common way to share stock ownership without sacrificing control, is by issuing non-voting stock. This gives individuals an equity interest in the business without voting rights as to the governance of the business.
This can also work with an S Corp, provided the stock rights are otherwise the same.
Close counts. Many states have corporate laws for closely-held companies, but many of these laws only apply if specifically provided for in the company’s articles of incorporation, bylaws, or other legal documents.
These provisions are good to consider and also may help lock in control. The original article provides some examples of closely-held corporation laws that can potentially impact shareholder control, to include:
- Permission to dispense with the annual Board of Directors meeting;
- Allowing voting trusts;
- Requiring straight voting versus cumulative voting; and
- Mandating that major corporate actions can only be undertaken with approval of a super majority of stockholders.
Depending on how ownership of a closely-held business is set up, these types of terms allow owners a bit more control—both in running of business and determining its future.
Rent versus own. Simply stated, if you want total control of the business as an owner, DO NOT give away stock. Stock options, in essence, are just delayed ownership of stock, and restricted or non-voting stock still entitles owners to demand corporate information and allow them to file derivative lawsuits.
If you want a key employee to share in the wealth of the company, but not in the direction of the business, the original article suggests you use other incentives than stock. It gives the example of nonqualified deferred compensation arrangements like phantom stock and stock appreciation rights (SARs) that can mimic stock value without giving up the stock itself.
Better yet, create a nonqualified plan with defined metrics to target the desired behavior of key employees. Examples of such behavior include rewarding: (i) the sales VP with shares based on sales success; and (ii) the CFO with shares based on profit.
These "performance-based rewards" do not result in sharing any of the business control!
If you do this, then the business owner is “renting” the company’s success to fund incentives without giving up ownership.
As always, however, before taking any of the actions described in the Forbes article, consult an experienced estate planning attorney.
Now, about those teenagers taking over ....
Remember: “An ounce of prevention is worth a pound of cure.” When making your financial, tax and estate plans, do not go it alone. Be sure to engage competent professional counsel.
For more information about estate planning in Overland Park, KS (and throughout the rest of Kansas and Missouri) and to download free tools to help you organize your estate, visit my estate planning website.
Reference: Forbes (December 22, 2014) “Control Freaks Take Heart: How To Maintain Control Of Your Business”