Across the industry-and in the minds of most advisors-the debate between internal and external succession continues to bubble. Where can I get the most money? How can I best accomplish my personal objectives? How can I best take care of my clients? My staff? My family? The questions we hear from advisors are remarkably consistent, and the questions they are asking are good ones. Of course there isn't a right answer when choosing between internal and external options for succession, but for most when the questions above are considered, and the business owners are honest with themselves about how they prioritize these questions, the preferred method of transition emerges pretty gracefully.

For those who opt for the internal succession route-which is for many at least their initial preferred option-there are questions of how to develop the people they need, how to keep people, how to transition clients and ultimately how to transition the ownership internally, each of which could fill multiple columns with juicy content. In this column we'll start with what to think about in planning for internal succession and the admission of new owners.

There are many scenarios in which sharing equity is an appropriate consideration: as a succession strategy for existing owners, of course, but also as a potential business-building strategy for existing owners, a driver for motivated employees and a recruiting tool for experienced professionals. If you are growing, you need people (more than just you and your partners, if your plan is to continue growing) who can:
develop new client relationships;
retain existing clients;
provide strategically important expertise;
manage people;
train new professionals;
provide leadership.

Depending on your growth plans, you may need colleagues at a peer/owner level who can share (or take on entirely) responsibility in these areas. We find that in most firms, it is difficult to retain the most talented individuals in these roles without an equity opportunity, and it can be difficult to create an environment of growth and opportunity unless ownership (or an attractive alternative) is available.

Most firms that are considering offering ownership to internal candidates start with the questions of, "What will it cost and how will they pay for it?" I commend those firms for recognizing that internal employees should pay for their ownership interest. It should only be given (as opposed to sold) if it is in lieu of other compensation. (If an employee is not nor has not been fairly paid for their job role, you may consider giving him or her equity instead-think dotcom start-up-but if they have already been paid fairly for their job, then they should pay for their equity interest.)

But before getting to the question of cost and financing, you first need to think about the questions of who and why. The first questions you should think about in considering the addition of new owners are:
1. What is the goal of sharing equity?  
2. What does it mean to be an "owner"?
3. What does someone have to do to qualify?
4. Are the current owners ready?
5. Is the firm ready?
Only then can you think about the tactics, which I will address in the second part of this two-part column in the April 2008 issue:
6. What is the ownership interest worth?
7. What is the appropriate financial structure for ownership transition?
8. What should be the terms of the ownership agreement?

What Does It Mean To Be An Owner?

The first question I urge you to consider is "What is the owner role in your firm?"  Is "owner" a job title? Is it an actual functional role? (If so, what does that imply? What are the owners' actual job responsibilities?) Is "owner" simply an investment status indicating you have invested in the firm, but does not have implications on your job role?

Consider what the responsibilities are for an owner in your organization. Though this varies quite widely among firms, many firms would say that owners:
set the tone of professional and personal behavior within the firm;
have decision-making power and responsibility;
make a financial commitment to the business (take financial risk);
have a role in firm management (in some firms);
have an impact on growing and training others.
For those firms that consider "owner" a job role, not just an investment status, this usually implies the owners have specific job responsibilities above and beyond their role as lead advisor, CEO, COO, CIO, etc., which may include:
client acceptance and defining the service offering;
resolving client issues and conflicts;
exercising technical judgment and ethical judgment in the resolution of errors or miscommunications;
dealing with employee problems, issues and conflicts;
evaluating business opportunities for the firm;
negotiating contracts on behalf of the firm, from simple vendor contracts to complex formal alliances;
evaluating the work of other partners and staff;
representing the firm in the community;
representing the firm before regulatory agencies.

This question of what it means to be an owner is not just about an owner's role, it's also about an owner's rights. This is frequently an area of disconnect between current owners and future owner candidates. It happens very often that an employee, maybe a junior advisor, comes to the current owners and says, "I would like to be an owner. What is the path?" The owners then come to us and say, "Help us develop a path to ownership. We really want to keep this person."  

As we dig deeper to understand what it will mean for this person to become an owner, we find the current owners want to share very little ownership, not usually because of the financial implications, but because they want to give this person a token recognition and no real input or insight into the business. They don't want the person having real authority or meaningful input into the firm's direction. They frequently don't want the person to have access to firm financial information. They often don't want the person to have to take much risk. Which makes us go back to the question of, "What does it mean to be an owner?" and, "Are the current owner's and owner candidate's understandings aligned?"  The candidate may be happy with just the title and token recognition, though her becoming an owner will have little meaning to anyone involved. Usually future owners (especially good ones) want more. I would strongly suggest that if you don't want this person sitting side by side with you as your partner (even as a minority partner), you should consider a form of short- or long-term reward (like profit-sharing or deferred compensation) instead of equity.