Loss of Skills and Talents
When a key person dies there may be immediate and directly felt losses.
1. Sales Ability: A key person may be the company’s top sales representative, or the “rainmaker”, the one with contacts in the business community. Consider the sales the company would lose, or the customers who would go elsewhere but for the key person.
2. Technical Ability: A key person could drive results by providing products that put the business in front of its competitors. Consider the competitive edge the company would lose with that person’s death.
3. Service providers: In professional practices, consulting firms, and so forth, the firm’s principals provide the services that generate revenue. How would the firm’s revenues and profits suffer if a key producer died?
4. Special Projects: A key person may be leading the teams that are producing the products, or guiding the negotiations needed to complete projects. Other people could take over, but some projects may need the key person’s special skills, or may suffer such delay that they never reach completion. How many company projects could die with the key person, or fall short of the results the key person could have obtained?
5. Replacement Costs: A key person must be replaced. But finding someone with the right skills and experience takes times and money. Even after the business finds a replacement, it may take some time before the replacement is performing at the key person’s level. How much will the company spend to find a replacement, and how much will it lose before the replacement is up to full speed?
Questions of Confidence
After the loss of a key person questions of confidence can develop. The company may be sound enough to continue, but may need to demonstrate its soundness to those whose confidence it values.
1. Creditors: There are two issues a company should consider here:
a. If creditors anticipate a reduction in a firm’s revenues or profits, they may call their loans, or cancel additional advances. Either way, such actions will impair a firm’s cash flow at a time when it is already strained.
b. In many closely held companies the principals personally guarantee the company’s debt. If one of them dies, the firm’s creditors could lose confidence in the surviving principals’ ability to guarantee that debt.
Consider how insurance proceeds could reduce debt to acceptable levels, or allow the company to meet its on-going obligations as it replaces a key person.
2. Shareholders: In a publicly traded company, following the death of a key person, shareholders may lose confidence and sell their shares. Selling could depress the market value for those shares. If that happens, the company’s ability to raise capital is impaired (existing shareholders have to give up more control of the company to raise the same amount of money in the equity markets). As share price falls, the proportion of debt to equity, a key measure of a company’s financial health, changes for the worse, and creditors begin to worry.
3. Customers: Customers may wonder whether a company can continue to deliver the products and services at the same levels as before. They may be tempted to try competitors. If the customer base erodes, it can lead to further loss of confidence, and further loss of customers.
4. Employees: Employees tie their futures to that of the companies they work for. Concerns about a company’s future turn into anxiety about job security. Even if employees stay with the company they may be distracted or demoralized, and the company’s productivity suffers.
5. Protection for the surviving shareholders: In closely held companies the key person may have been so important that his or her loss forces the company to accept an outsider with sufficient cash to allow the company to continue. A closely owned family business may not want to share the business with an outsider, but may have no choice.
I. Questions of Sound Management
Closely allied to confidence issues are issues of sound management. Creditors may be more willing to lend, and shareholders to invest, knowing that the company has the resources to withstand the death of a key person.
Success often leads to more success, and successful people are attracted to successful business. Retaining employees is easier for successful, well-funded companies. Finding a key person’s replacement is easier if the company has the resources to continue after a key person’s death.
When the Key Person is the Business
If the business cannot survive without a key person, then the value of the surviving shareholders’ investment can quickly collapse with the key person’s death. Life insurance helps provide the cash needed to wind up the business and protect the remaining investors in such a case.
II. Wrapping it Up
Life insurance owned by and payable to the business helps companies survive the loss of a key person by helping:
1. Provide cash flow during the transition period following the loss.
2. Retain the confidence of key stakeholders.
3. Recruit, hire and train a replacement for the key person.
4. Preserve the value of the business for the survivors.
A company’s people are its most valuable assets. Make sure your customers know just how valuable, and how they can protect those assets.
