June 2017 eNewsletter

De-mystifying the Fiduciary

Dean R. Johns, CPA, John D. Dovich & Associates; Matthew A. Swendiman, Managing Director, Graydon Compliance Solutions, LLC


An odd sounding word to describe something to do with money.

In fact, as the definition of the word illustrates, “fiduciary” is at its core, a word with the concept of trust, confidence, obligation, law and benefit attached to it.  There’s been a lot of discussion about a concept involving the word “fiduciary” in recent months, and more correctly, the “fiduciary standard.” Many pundits have compared the fiduciary standard to a “suitability standard,” which has caused confusion in the minds of many, as well as causing some to ask the question of, “Why do I care about any of this?”

Stepping back for a moment, and remembering the description of the word, “fiduciary,” the fiduciary standard refers to a section of a law titled, “The Investment Advisors Act of 1940.”  This standard requires all financial advisors to act only in the best interests of their clients when suggesting financial advice.  It’s an important standard and one that all registered investment advisors must adhere to, or face severe punishment by the Securities and Exchange Commission (SEC), the governing body regulating investment advisors.   But again, this begs the question of, “Why do I care?”

We recently took a closer look at the fiduciary standard issue that’s been featured so prominently in the news of late and why you should care about this issue.

In basic terms, the fiduciary standard that has applied to the registered investment adviser community for years is different from the “suitability” standard that has previously applied to broker-dealers. Suitable investments selected by brokers do not need to have the client’s best interest in mind. As long as the investment was acceptable, or suitable, the broker met his or her regulatory burden. Alternatively, registered investment advisers who adhere to the fiduciary standard must put their clients’ needs first, and have a duty of care and loyalty to their clients. Fiduciaries are required to disclose and mitigate any conflicts of interest they may have. For example, a broker may be able to invest a client’s money in a stock that is also underwritten by their firm. In this example, the broker-dealer receives compensation from both the stock issuer and the client. With this type of conflict, it is difficult for investors to know if they are receiving the best advice.

There’s some confusion around the idea of the fiduciary standard increasing both transparency and costs.  Because brokers may make suitable investments for their clients, they may not fully search for higher performing, lower risk options. The duty of loyalty inherent with the fiduciary standard requires registered investment advisers to reduce conflicts, as well as costs. For example, when considering rulemaking to address the differences between the fiduciary and suitability standards, The White House Council of Economic Advisers found that conflicts of interest lead, on average, to $17 billion in losses, every year, for American investors.

Fortunately, the federal government addressed the differences between the fiduciary standard and the suitability standard.  In fact, many readers probably remember in April 2016 the Department of Labor (DOL) adopted rules intended to help retirement savers obtain investment advice in their best interest. Collectively the rules have been known as the “Fiduciary Rule.” The DOL and the Obama Administration believed the Fiduciary Rule would help investors better prepare for retirement.

Something to keep in mind is that, as proposed, the rules would affect 401k, IRA and other retirement plans, such as pensions. Taxable brokerage accounts would not be affected.

It’s also important to remember that anyone who invests with a registered investment adviser, either for retirement or taxable money, is served by a fiduciary. One weakness of the proposed rules is that brokers could still manage taxable assets under the suitability standard.

In February 2017, President Trump directed the DOL to produce an updated economic and legal analysis about the likely impact of the Fiduciary Rule. As part of this review, the DOL has delayed the applicability of some of the Fiduciary Rule until 2018.  Further, industry groups have expressed their hope that the Trump Administration will use this time to pursue one rule that would be consistent across the retail and retirement marketplaces, coordinating with the SEC.

While this might seem a bit confusing, the most important thing to remember is that investors should want to have a fiduciary standard so the advice they are receiving is in their best interests, and not solely the best interest of their broker or advisor. Hopefully, we will see a single fiduciary standard in the not-too-distant future that matches the need to protect investors without overburdening small private or family businesses like our own.

What Keeps You Up At Night?

David Cassady, Chief Growth Officer, Cassady Schiller & Associates

At age 30, you and a partner took an enormous leap out of your comfortable, corporate-level well-paying job to start your own business.  With limited resources and a small line of credit, you hired your first employees and began working to develop your new business.  You remember parting with your first significant profit as it was used to make payroll that first year. Slowly but surely, your hard work paid off. Today that two-man shop is now home to 100 employees.

Over time, you’ve delegated down the responsibilities of operations and human resources to trusted employees so that you could focus on the strategic goals of the company.  In your leadership team, you know where the holes are that need to be filled as well as identified the individuals who you see taking over when you retire.  This leaves you with one of the biggest questions maturing businesses face: how do I attract, retain and incentivize my key talent to transition over the business?

The starting line is often easily identifiable.  Make a list of individuals who demonstrate the culture, drive, and strategic thinking that is needed to transition from employee to owner.  The next step is more challenging; identifying the short term and long term needs of those individuals.  As owners of businesses, it is crucial to understand that the ownership being transferred is at a significantly higher value than what it was when you started the business—a testament to your hard work and success.  Additionally, the current cash flow needs of younger employees (kids’ college tuition, mortgages, retirement planning, etc.) is different than that of a 60 year old owner.

Before getting out the checkbook, there is more to the scenario that needs to be addressed.  The greatest challenge in developing incentives and retention plans is balancing the short term and long term needs of the company to promote growth and stability over time. In other words, how does one incentivize an employee today while maintaining their focus on continued long term growth? Secondly, the company’s stock price is much higher today than when the company was founded.  Most of these key employees cannot reach into their pockets and discover piles of available cash to pay for an ownership stake—so how are they going to pay you?   And, equally important, how will you incentivize them to stay?

Succession planning utilizes several techniques that incentivize key individuals while providing “golden handcuffs” to ensure retention.  There are several methodologies and commonly-used practices for family-owned and closely-held businesses to develop plans.  These plans are created for the company’s leaders and essential individuals who are deemed irreplaceable.  The specifically-identified employees can be referred to as the company’s “special forces.” For closely-held companies, deferred compensation plans, long term incentive plans, and other similar plans can be customized for these individuals.

Deferred compensation plans are used to supplement an executive’s retirement benefits, make up for reductions in benefits due to qualified retirement plan limitations, defer taxable income, and provide other incentives.  Under these plans, the company enters into an agreement to pay a significant benefit to the key employee(s) over time, or at a later date, which is above and beyond their normal salary.  These plans provide key individuals financial peace of mind in their current role so they can focus on increasing the value of the business.

Similarly, long term incentive plans (also known as “LTIPs”) provide various levels of performance-based compensation in order to drive behavior, enhance retention of key employees, and reward employees for the increasing company value.  These non-qualified plans are developed and aimed at participants who have control of or an impact on revenue, cost, and asset optimization as well as risk mitigation.  Each plan is customized for a specific industry and is usually tied to the current value of the company.  They also include a vesting period for which the employee is incentivized to focus on growth, or accretion in value, of the company.  At the conclusion of the vesting period or at a defined retirement age, the company will distribute rewards as stated in the plan.

Long term incentive plans provide the employee short term and long term motivation to continue acting in the best interests of the company.  They are focused on aligning the individual’s personal goals with the company’s strategic plans.  These rewards can also include ownership in the company.  This allows the individual to either purchase shares or be rewarded with ownership in lieu of payment, as well as compensate them so that they are financially capable of purchasing shares.  The flexibility in these plans makes them an attractive option for many business owners.  However, to be successful, sufficient time is required to develop and properly implement the plan and require qualified legal expertise so they are drafted in accordance with IRS regulations.

That small one-room business you started 25 years ago is now a living, breathing culture that 100 people call home.  As you prepare for your own retirement no longer so far down the road, it is important to think about those right-hand men and women who help make the business thrive.  These people will be entrusted to continue the legacy you have created.  If you have not given adequate thought to succession planning, it certainly is something to consider.

One Business Owner's 10-Year Succession Journey

Michael Sipple, Sr., CEO/Chairman, Centennial, Inc.

Senior executives pour their lives into the success of their organizations.  It’s so much a part of their identity that they sometimes cannot imagine life without it. The challenges. The goals. The new pursuits.  However, retirement sounds pretty sweet too.

Can these two streams of thought coexist: 1) pressing forward in business and 2) retirement? Can your desire to lead your organization to ongoing success seamlessly marry with your desire to retire some day?  Today is the day to consider this.

I’m a Succession Veteran

I am Mike Sipple Sr., the former President of Centennial, a Cincinnati-based Talent Strategist and Executive Search Firm. I stepped down from my presidential role two years ago when I passed the mantle of day-to-day leadership to my son, Mike Sipple Jr.  In my current role as CEO and Chairman I appreciate all that transpired to get me here.  What I share below is part of my succession story; the ups, the downs and the in-betweens.

Where I stand today, on the back-end of the process, I have the coveted hindsight vision of 20/20.  I hope what I share here provides you with the foresight to plan for the future of your organization.

My First Thought of Succession

I was 57 when I was first asked about my plan for succession.  The question was asked, “What happens if you die tomorrow?”  My blank face gave away my thoughts on the matter.  Succession?  The idea had never crossed my mind.  My thought of retirement was so far in the future that there was no need to dedicate any time to it – or so I thought.

The irony of it all was the fact that I had helped numerous leaders with their succession plan, but I had never, once, considered my own.  Just as I had helped others, I was coached to get outside assistance with my own succession plan. That was ten years ago.

The Priceless Treasure of Outside Advisors

The benefit of having outside advisors walk through the succession process was absolutely invaluable to me.  We chose the Goering Center’s Next Generation Institute to walk us through this process.  I can honestly say we would not be in the good standing we are today if we had not enlisted their help. Outside advisors provide at least four key benefits:

  • Make you think
  • Offer unbiased and biased feedback
  • Provide a wealth of knowledge and experience
  • Facilitate and sometimes mediate between varying expectations

Outside Advisors Make You Think

Before you take any overt action, you need to do a lot of thinking and reflecting.  Outside advisors can help you think through your vision and expectations so that you can more wisely consider what you need in a successor. This step is often skimmed over.

I recommend setting aside several, uninterrupted hours to think through and write out some key points.  Here is an outline I suggest following:

  1. Reflect on the goals you had when you started and how they were fulfilled.  I find this step very rewarding and encouraging.
  2. Write down your vision for the organization. There may be a formal vision already in place but consider what direction you’d like the organization to go in the future.
    This will help you find a successor that shares much the same vision. Your vision may fill several pages or just a few bullet points.  Think of it in 3 categories: Start, Stop and Continue.  What new things do you want your organization to start, what needs to stop and what should continue?
  3. Consider your legacy.  What do you want to leave behind for the next generation?  Whatever you determine may help add clarity to your vision.
  4. Write down what you don’t want your company to become.  If you have strong feelings about specific areas, make note of it.  Again, you’ll want to communicate these when looking for someone to take on future ownership and leadership.

All of this contemplating will take time, maybe more time than you think you can afford.  However, the challenges you set aside to dedicate time for reflection will be there when you’re done.  And in the end your organization will be better because of it.

Outside Advisors Offer Biased and Unbiased Feedback

Outside advisors can provide the amazing benefit of being unbiased.  Succession can be an emotional process. You are handing over your “baby” to someone who has different ideas and perhaps less experience.  It can be stressful!  An impartial participant brings invaluable level-headedness.

An advisor is able to look at your situation objectively.  They’re not dazzled by your past accomplishments or overwhelmed by all you want your organization to achieve in the future.  They can listen to your thoughts, look at your plan and point out what you may be missing.

I have said more than once, “I don’t like what I’m hearing, but thank you.  I would have been headed in the wrong direction.”  Wise, seasoned advisors know what they are talking about.  Listen to them.

Outside Advisors Provide a Wealth of Knowledge

Many outside advisors have worked through successions before.  They recognize the normal obstacles – and there will be obstacles.  They can also recognize serious problem areas and blind spots that need to be addressed.

Outside advisors know what questions to ask.  This allows you and your potential successor to discuss topics before they become a source of contention.  There are so many variables that need to be looked at and considered.  Advisors have the experience to know what those topics are so they can be worked through systematically.

If the advisors see too much misalignment, they can wave a yellow or red flag.  If the chosen successor is not going to be a good fit, it’s important to discover that early and find a better fit as soon as possible.

Outside Advisors Mediate Between Varying Expectations

The incumbent and the successor are two unique individuals.  That’s great, but it also means there are varying expectations.  No matter how close of a relationship you have with your successor, he or she will have many preferences that may not match yours. We are not looking for a clone…we are looking for a leader who can carry on the vision and values of the enterprise, and continue to make the business even more healthy and successful in the future. Outside advisors can be the facilitator that guides the two of you through these areas.

It’s critical that you find out the expectations of both individuals and discuss the reality of them.  It’s not uncommon for each person to know what they want and not even realize the chasm of differences.  A facilitator can help by restating what is being said. “This is what I’m hearing from the incumbent and this is what I’m hearing from the successor.”  Until the outside advisor states this plainly, the misalignment may not be seen.

I liken succession to a marriage.  When you get married, you bring two sets of ideals together and strive to blend them into one.  Each person needs to give a little, or sometimes a lot, to see the marriage succeed.  And similarly, sometimes outside help is valuable to sort through some of the obstacles.  For the sake of the marriage, or an organization, outside help is a worthwhile investment.

The Lengthy Process of Planning for the Future

Shaping the future is exciting but it takes time – lots of time.  We were told by The Goering Center’s Next Generation Institute to expect the succession process to take 7-10+ years if we really wanted it to go smoothly.  I was dumbfounded at how long that sounded.  Now, 10 years later, I understand.

The succession process has 3 big steps, with a lot of steps in between:

  1. Choosing a Successor
  2. Preparing a Successor
  3. The Hand Off

1. Choosing a Successor

There are many traits to look for in a successor but I feel some traits are more critical than others. Most importantly, the successor needs to be committed to the business.  Are they willing to take on the responsibility of the organization and all the benefits, challenges and hassles that comes with it?  They can’t look at the position as an ego boost.  It’s a huge commitment.

The successor also needs to be teachable, competent and adaptable.  They need to have proven leadership abilities, and a large part of that is being teachable.  The successor will need to learn a lot as they assume their new leadership role.  They need to be open to learning and adapting.

It’s also important that the successor shares your same values.  Be sure you are handing off your organization to someone who will continue to promote those values.

2. Training a Successor

Once you’ve identified your successor and he or she has agreed, it’s time to start training and coaching.  You will want to thoroughly develop him or her in the areas of development they need the most.  You want to set them up for success, so it’s critical that they are well prepared.

Connect your successor with outside sources that can mentor them.  You want them to be well versed in all aspects of the business: operations, business development, finance, culture, etc. This may require the successor to step outside his or her comfort zone and learn things that do not naturally appeal to them.

3.The Hand-Off

At this point it’s time for the incumbent to release control.  Know in advance that this is challenging. It’s hard to turn over the reins.  Not every decision the new leader makes is the same one you would make.  Some decisions may even have poor results.  Allow the new leader to make mistakes and learn from them…just as you did.

Your successor may want to rush this final step.  He or she is eager to assume control and show what he or she has to offer.  There are many layers to the learning process and it’s essential that the total power doesn’t shift until the successor is truly ready.

Support the Successor

When the candidate is vetted and chosen, it’s critical that the message is clearly and positively conveyed to the organization. This is another choice that may not be met with 100 percent enthusiasm.  Not everyone will agree with your choice.  Your loyalty and support of the successor should never waver.

Your public support will help the hand-off to be smooth.  Any doubt you convey will only cause dissension. Any doubts or concerns should be handled one-on-one with your successor or with the two of you and a trusted outside advisor - in private.

Start Making Succession Plans Today

Each organization and succession plan will look a little different. However, the key to making it successful is investing plenty of time to plan for it and execute it.

If you start making plans two years before you hope to leave, you have probably started too late.  A short timeline creates stress and may cause you to make unwise decisions because you’re in a rush.  A wise leader will take action before it’s too late.  Start today to begin making plans for succession.

I truly love helping other business owners and key leaders succeed in their businesses, careers and personal lives. I have experienced the richness and wisdom of having other leaders speak into my life and I love doing the same for others. I am thankful for the Goering Center and the trusted advisors who have come alongside of me and my successor, my son.  They have helped us make our succession transition successful and the process fun, though challenging, and well worth the investment.