Developing a succession plan in today’s world
Considerations for the process
August J. Aquila, Ph.D. | June/July 2023 Footnote
Editor's note: Updated May 30, 2023
There is no one succession plan that works for all professional service firms — and no one article can cover all the points and nuances that need to be looked at when developing your succession plan.
Instead, I want to briefly cover four aspects of a succession plan: developing a succession plan, compensating the retiring partner or partners, transitioning clients and, if necessary, transitioning firm management.
Developing a transition plan
All firms should have a succession plan to protect the firm and the retiring partner. A succession plan also avoids problems when an unexpected event happens. No matter what your firm’s size, I highly recommend putting a retirement plan in place.
What should go into the plan?
Retirement age. After spending more than 30 years working on succession plans, the main issue I see is to address whether firms should ask — or even require — partners to retire at a certain age. There is no easy answer. Most firms would rather ignore this issue and wait until an event happens. This is perhaps the most sensitive issue, especially with managing partners or firm founders. But not having a retirement age places the firm in the difficult position of asking the partner to retire and being forced to explain why.
I am of the belief that older partners should be encouraged to retire at a certain age and to begin scaling back three to five years before. Having a fixed retirement age allows both the firm and the partners to plan accordingly. Small- and medium-sized firms usually set the retirement age at between 67 to 75, with 70 being common today. Larger firms will set the retirement age from 55 to 62. Whatever age you decide, it should be the firm and not the partner that decides on the effective date.
If you decide to add a retirement age into your partnership agreement, phase the policy in to come into effect over five to 10 years to protect older partners from sudden changes.
Don’t forget to also address the issues of early retirement, activities a retired partner can perform, what happens if a merger or acquisition occurs and what can force the termination of a partner. These are just a sampling of what needs to be considered.
Compensating the retired partner(s)
Compensation during phase-down period. This is an extremely sensitive issue and may be managed best on a case-by-case basis. During the phase-down period, you want the partner to remain productive. You also want to reward the partner for doing the right thing — involving younger partners in client relationships, transferring clients to others, etc. Many firms continue to pay the retiring partner 100% of their previous year’s compensation if they complete their billable and nonbillable goals. You want to make sure that you encourage the partner to do what is best for the firm.
Capital buyout. Partnership agreements typically provide for the return of the partner’s equity in the firm upon retirement. This is usually paid over one to three years. The capital is usually paid on the accrual basis valued on the retirement date and an interest factor is also added to the payments.
Goodwill payments. Most firms provide some sort of capital buyout upon a partner’s retirement. Goodwill payments are usually spread over a five- to 10-year period. Firms often set a cap on the amount of annual payments to former partners; for example, no more than 5–10% of the firm’s net income for the year. If the firm has a bad year, the obligation to make up the shortfall carries over to the following year.
Transitioning clients
It’s not only the retiring partners you have to be concerned about — it’s also their clients. Hence, part of a succession plan needs to deal with client transition.
Notice of retirement. Partners who plan to retire should let the firm know well in advance, so the firm and partner can agree on a client transition plan. Usually, it takes two to three years to transition a major business client. However, transitioning clients are a completely different topic that is beyond the scope of this article.
Transitioning firm management
If a managing partner or other key partner in the firm is retiring, there is an additional issue of transitioning firm management. Perhaps the most difficult issue is addressing the retirement of a managing partner. If partners mention the issue too soon, the managing partner may feel betrayed. If they wait too long, the firm may be at risk. It is especially difficult when the managing partner is the firm’s leader.
The sooner you can get your younger partners involved in the management or growth of the firm, the easier the transition will be.
Final thoughts
After practicing for many years, some professionals are ready to move on and embrace new challenges. But retirement can be a traumatic proposition for others. It can be especially hard for professionals in smaller firms who have devoted their lives to building the firm. They may identify so closely with the firm that it’s almost impossible to separate the people from the firm.
Firms must be supportive of those partners who find it difficult to leave. Retired partners have unique value the firm does not want to lose. Don’t be afraid to talk about life after retirement and let the partner know you care about them.
Finally, succession planning can become very emotional. A partnership agreement that was written 20 or more years ago may not be as viable today. Using an independent consultant to help the firm is one way to address the emotional and financial aspects. At the end of the day, firms need to do what is best for the firm and not for an individual partner.
Be proactive in the process, identify and develop potential candidates and effectively communicate your plans and timeline.
August Aquila is CEO of AQUILA Global Advisors, LLC, located in Minnetonka, Minnesota. He is a well-known professional service firm consultant, speaker and author. He may be reached at 952-930-1295 or at aaquila@aquilaadvisors.com.
