Why wealthy entrepreneurs are buying businesses for their kids to run
Some wealthy entrepreneurs are taking a different approach to inheritance. Instead of giving their adult children regular support or just leaving them a large nest egg, they are buying businesses and then involving their children in running them.
These parents have often sold a different business for a premium in the past few years and want a place to park spare cash. At the same time, many of them want to provide their adult children a purpose, learning experience and framework for long-term success.
For older entrepreneurs who aren’t quite ready to retire—but aren’t necessarily interested in running the show—buying and growing a business with their children becomes part hobby and part training ground for the next generation, says Eric Czepyha, director of business services at Chicago-based Northern Trust. “Business owners don’t typically retire in the traditional sense. They love to be active, and they love to have their brains active.”
Ideal for entrepreneurs with time and money. Czepyha has a West Coast client who sold his technology company about two years ago. The 60-something kept busy managing investments and philanthropic projects, but he missed the business life. At the same time, his daughter, fresh out of college and working as a consultant, was starting on a professional path.
The client had already moved part of the sale proceeds into a family limited partnership held in trust for his daughter and could have left the assets in a conventional investment portfolio, but he felt that was too passive. He was more interested in buying an operating business in a less familiar industry that would allow him to get back in the game and help his daughter in a way that money alone could not, Czepyha says.
After looking at several possibilities, he bought a private specialty manufacturer in the Pacific Northwest. It had been built slowly by a longtime owner who knew which machines tended to cause trouble and which customers would call on the weekends. The seller stepped away, but the management team stayed, which was important for continuity. The father became owner and chairman, focusing on strategy while leaving the day-to-day work to the people who already knew the business. His daughter joined the finance department in an entry-level role that matched her experience, where she could learn how the company made money, why margins moved, how capital was allocated, what it takes to build and keep a strong team, and more.
Importantly, the acquisition has given the father and daughter a shared long-term project, Czepyha says. There is no three- to five-year exit plan or private-equity-style countdown clock, and the father is already considering whether the company could become a platform for additional acquisitions, with his daughter gradually building the experience and credibility to help lead it one day.
Carefully consider the caveats. Of course, these types of arrangements don’t work for every family. Not everyone has the affluence to buy a business, for example. Additionally, such a purchase can’t be considered separately from the family’s overall wealth and estate plan. A private business is a concentrated, illiquid investment, so the family needs to understand how much of its wealth it is putting at risk and the long-term plan for the company, Czepyha says.
That becomes especially important when some children are involved in the business and others aren’t. “Families should talk through ownership and economics early, including whether the ultimate goal is to sell the business someday or keep it in the family,” Czepyha says. “Those conversations are much harder after the investment has already been made.”
There is a plethora of buying opportunities in today’s market, with private-equity firms sitting on large inventories. Even so, families need to contemplate whether buying a company is a viable business opportunity, whether the price makes sense, and whether its long-term prospects justify the investment. It is also critical for family members to discuss and clearly define their respective roles before making the acquisition. How involved will the parent actually be? Does the child have room to learn, make decisions, and ultimately lead? Is the child taking on a role he or she is genuinely qualified for? And is it something the child is truly interested in? Are family members going to be able to communicate openly when issues arise so they don’t strain the company or the relationship? If expectations aren’t established upfront, what was intended to bring a family together can create resentment between the parent and child, and potentially among nonfamily employees and managers, Czepyha says.
“It can be catastrophic for the financial and relationship outcome,” says Joe Strazzeri, a San Diego-based counselor and attorney for families and business owners. “Just remember, it’s your family first.”
The chance to build financial independence. Strazzeri has a client whose stepdaughter lost her job at a landscaping company when the business was sold. She couldn’t start another company in the same industry because she had a minority interest in the business and a non-compete agreement. She needed to make a living and didn’t want to rely completely on handouts from her family. She was, however, willing to accept some financial help, so her stepfather funded a design business where she could grow her financial independence. He provided contacts and funding to get her started, while she runs the day-to-day operations. He has made provisions that his ownership stake will eventually revert to her or her children through a trust.
Strazzeri also works with a widow who built a successful cosmetics company and wanted to ensure her son’s financial security. The 20-something wasn’t interested in the cosmetics industry, so when the mother sold the business, she used the proceeds to buy a technology company, which is better suited to his talents and interests. Five years later, the business is growing steadily to the point where he’s starting to get unsolicited offers, Strazzeri says.
Find the right opportunities. Julie Keyes, an exit planning consultant and founder of KeyeStrategies in Minneapolis, Minn., has a client in his early 50s who is considering buying a business for each of his four children who are in their 20s—busineses they would really enjoy being involved in. The father has owned several companies over the years and has been giving a lot of thought to what his next act will look like, given his excess cash and investments. He would really like to encourage his children to become entrepreneurs but doesn’t want to hand things to them on a silver platter.
The children, who are all college graduates and employed, have expressed interest in running a business but don’t have the investment dollars to get a business off the ground. That’s where the father comes in. The father, with buy-in from the children, has been researching potential targets based on their individual talents, the market, and available opportunities, Keyes says.
Companies they are considering have leadership teams in place, but are businesses where the children can gain valuable experience over time, and even if they don’t rise to the upper ranks, they will still have an ownership position. The goal is for the children to get involved, work their way up as they would at any company, earn respect, and eventually buy out the father. Says Keyes, “This is a fluid thing, but this is their vision.”
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