Top 10 rules for managing successful farm transition
David Kohl is a Virginia Tech professor emeritus and president of AgriVisions LLC, a knowledge-based consulting business providing cutting-edge programs to agricultural organizations worldwide.
He is also a business coach and part owner of Homestead Creamery, a value-added dairy business in the Blue Ridge Mountains of Virginia. He provides these 10 rules for transition management:
• Follow David Kohl’s rules for successful transition management.
• An additional $40,000 to $70,000 net profit is needed to support a new partner.
• Formulating a transition plan will take two to three years
• Revenue/net income rule. Bringing in a new partner takes an estimated $150,000 to $250,000 increase in gross revenue, or $40,000 to $70,000 of net profit for a successful business transition. Violate this rule and you set yourself up for guerilla warfare, where family members or partners fight over scarce resources (including net income) to meet their standard of living.
• Three- to five-year rule. Agricultural business transitions are twice as likely to be successful when the family member or potential business partner works for someone else for three to five years. Allow them to make mistakes with someone else’s money! A recent study found that farm businesses that allowed entering partners to work for others for three to five years made four times more profit. A college education is not part of this experience; however, military and summer work experiences count.
• Six-year rule. If a new partner is brought into the business, make sure you allow him or her to move into management and decision-making within six years. Farms and businesses that fail to do so are twice as likely to have an unsuccessful business transition and are less profitable. At a seminar in central Pennsylvania, an 85-year-old gentleman indicated that he needed to turn the books over to his boy. Well, his “boy” was 65 years old. Follow the old adage: You either teach or share with the younger generation, or you destroy the business.
• Ripple-effect rule. When making changes to a growing business, overestimate capital needs by at least 25% to avoid being short on working capital due to unexpected costs. For example, if you need $200,000 to expand the business, then $250,000 should be estimated and used to determine whether or not the growth is financially feasible. It is also wise to over-estimate the time needed to complete the change by 25%.
• Don Shula rule. Many managers and owners, like former Miami Dolphins football coach Don Shula, stay too long before turning over the business. The optimal time for ownership and management of a business is 30 to 35 years. Owners and managers who fail to heed this rule run into the trap of continuing to do “business as usual” without changing for the times. In order to maintain the cutting edge, they must either follow this rule or surround themselves with new members who will bring renewed energy and new resources into the business.
• You can’t treat all children equally, but you can treat them fairly and equitably rule. One of the most profound challenges in transition management for farm businesses today is what to do with children who move away from the business. Usually, they have little interest in the operation. When the parents die, the business interests of the children who have moved intensify because proceeds from the estate can be used to pay off mortgages or fund their children’s college educations.
The most successful transition plans have the business assets transferred to the child managing the business, and insurance policies to cover estate settlement costs and cash settlements for children who are not interested in the business. This strategy allows the children involved with the farm to continue to function without requiring them to buy out the nonfarm children’s shares, and also to have sufficient cash to pay estate settlement taxes.
• Nonbusiness spouse rule. An increasing challenge is incorporating the non-business spouse into the family and business management process. Many more families are finding this incorporation a challenge as there are more nonbusiness or nonagricultural spouses these days, and they frequently do not understand erratic business schedules, time management and prioritization problems. An operations agreement, including time expectations, goals, responsibilities and accountability, can resolve many of these issues.
• Getting-out-of-business rule. A plan that covers dissolution of the business is critical in establishing a family business transition. Included are an operations agreement, a buy/sell agreement and a time line for an orderly transition.
• Transition-team rule. All businesses need to have a list of advisers or a transition team. This team includes a lender, a lawyer, an accountant, a financial planner, both spouses and all partners. Annual team meetings are critical. Outside professionals need to be placed on retainer rather than on an hourly fee structure.
• The Nike rule. Just do it! The biggest concern with family business transition plans is procrastination. Day-to-day matters frequently take priority over the planning process. A transition plan often takes two to three years to formulate, and it must be updated at least twice a decade.
Source: University of Pennsylvania Farm Transition Guide
This article published in the August, 2011 edition of DAKOTA FARMER.
All rights reserved. Copyright Farm Progress Cos. 2011.