Succession Planning - Build Your Business With Focused Profit Distributions

Making good profit distribution decisions will generate higher profits. Poor distributions can reduce future profits and impede succession planning.

When the amount put in one bucket increases or decreases that same amount will come from one of the other buckets causing those buckets to increase or decrease by the same amount.

There are three accounts or buckets companies should consider when distributing profits. Each of these accounts or buckets is very important but their requirements are different.

1.The first bucket is the retained earnings or shareholder's equity.

Profits channeled into Retained Earnings or Shareholder's Equity will remain in the company after the Company's financial year end.

The Profit the Board of Directors chooses to leave in retained earnings will become a lesser amount once it is taxed at the company tax rate.

Many companies owners have sold their ownership at prices calculated from book value or retained earnings. This has proven to be a poor succession planning model because it frequently does not properly reward who have have built the company.

When using the book value pricing model existing shareholders are reluctant to sell their shares because they know they are undervalued. Consequently, succession grinds to a halt.

2. The second bucket is return on investment.

Shareholders need to be properly repaid for making their investments in the company.

These owners have invested their own capital in the company in the expectation of earning a return on their investments.

Key employees who invest expect that they will earn both an increase in share price and/or a reasonable distribution of profits in the form of a dividends or bonuses in lieu of dividends, or both.

3. The third bucket is the performance bonus.

Boards of Directors need to distribute performance bonuses to simultaneously reward employees for outstanding performance and motivate them to perform in an outstanding way in future years.

Performance bonuses should be distributed to both shareholders and non-shareholders key employees.

Key Employees receiving performance bonuses are usually outstanding performers who contribute to increased profitability and are candidates for shareholding.

Boards of Directors need to carefully consider profit distribution. Succession planning and company success can be dramatically influenced by the decisions they make when distributing profits.

The Profit distribution between the three buckets should be reviewed each year in order to continue to motivate both shareholders and key employees to maximize the companys profitability.