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Business Planning Key Employee(s) Dependence

Business Planning Key Employee(s) Dependence

Author: Brandon Jordan, CFP®, CHFC®, CEPA®, CVGA®, CLU®, MSA, EA | CEO of Impact Advisors Group

“Offense sells tickets, but defense wins championships!” ~ Bear Bryant

If we desire to improve the odds that our business wins long term and achieves a meaningful value, it’s essential that we build up our defense against threats, both internal and external. This upcoming series will focus on the internal threats, what they are, what IMPACT they have, and how to mitigate exposure to each of them. The top internal threats are as follows:

1. Owner Dependence

2. Key Employee Dependence

3. Unplanned Events

(a) Death
(b) Disability
(c) Divorce
(d) Distress
(e) Disagreement

4. Supplier / Vendor Concentration

5. Customer Concentration

There are two key risks when it comes to key employees:

1. Losing Them

Most business owners have learned that 80% of a company’s results are often created by 20% of their team. These key contributors are very valuable to the company and could have a materially negative impact on the company’s future if any of the following events occur. 

1. Death

2. Disability

3. Joins a Competitor

The negative financial impact of a death and/or disability of a key employee can largely be mitigated with life insurance and disability insurance (if they’re insurable). Preventing key employees from leaving to join a competitor requires a little more creativity. Compensation plans can/should be modified (e.g. retention bonuses) to retain these value creators. There are several approaches to achieve this objective. 

1. Current Cash Incentives (e.g. salary increase, bonus, etc.)

2. Non-Current Cash Incentives (e.g. deferred comp, stay bonus, etc.)

3. Non-Current Non-Cash Incentives (stock, stock options, phantom stock, stock appreciation rights, etc.)

2. Buyer’s Perspective / Company Specific Risk

Most buyers are acutely aware of how valuable key employees are to the business. They are also aware that loyalty (vs. contracts) to the current owner is often a variable that prevents key employees from leaving to join a competitor. Unfortunately, loyalty isn’t often transferrable to the new potential owner. This presents a real risk to the buyer. This risk is often mitigated by reducing the purchase price and/or making the terms more onerous to the seller. Designing and implementing retention programs for key employees to remain with the company after a change of control event will help preserve the purchase price and/or deal terms. 
 
IAG’s team of advisors is ready to help your business become the wealth creation tool it’s meant to be!

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