Creating a Succession Plan for Your Family Business
“All happy families are alike; each unhappy family is unhappy in its own way.” Leo Tolstoy
Businesses controlled by a single family account for 50% of the U.S. Gross Domestic Product, include 35% of the Fortune 500 – both private and public companies – and are responsible for 60% of employment and up to 80% of the job creation in the U.S. (Forbes, May 2013). In France and Germany, 40% of the 250 largest firms are controlled by a single family. Contrary to popular wisdom which holds that it is a bad idea to invest in family businesses because family dynamics interfere with proper management, academic studies indicate that family businesses generate a higher return on investment than non-family businesses. See for example Capital Markets and Family Business: Some Surprising Results by Jennifer Pendergast, Ph.D. (http://www.thefbcg.com/Capital-Markets-and-Family-Business–Some-Surprising-Results) which shows that publicly-held family businesses outperform their non-family public competitors. In 2011, Mike McGrann, then Executive Director of the S. Dale High Center for Family Business, presented a paper in which he argued that non-public family businesses generate higher rates of return compared to their non-public, non-family peers. McGrann attributed this high performance to a sense of mission and purpose in the family business. The owner’s long time horizon and sense of mission tend to pervade the entire organization. The B-School mantra of trying to get managers to think like owners is fully realized in many family businesses where the managers are owners. According to Warren Buffet, “Family-owned businesses share our long-term orientation, belief in hard work, and a no-nonsense approach and respect for a strong corporate culture”.
However, at the heart of the family business is a nagging anxiety – can the next generation successfully own and manage the business? The basis for this anxiety can be found in some well-known statistics – only one-third of family businesses survive into the next generation, 12% into the third generation, and so on. These statistics don’t indicate failure in every case – many successful family businesses are sold to outsiders. However, the “succession anxiety” is well reflected by the cottage industry of family business consultants that has sprung up to counsel families about succession problems. So we are left with the following paradox: how can it be that family businesses, which form the backbone of the U.S. economy, and are more successful financially than their peers have such a troubled record when it comes to succession? We will try to get some insight into this question by looking at some of the issues that the Next Genner faces in family business.
Acceptance by the workforce. When a relatively young family member takes a position in the family business, she must prove herself to her peers in the business. The assumption tends to be that he or she got their job because they are a family member. According to a 2016 PWC survey of family businesses (www.pwc.com/nextgen) 88% of family employees feel “I have to work harder to prove myself to the company”. The family business owners must walk a fine line between encouraging family members to enter the business and not showing favoritism that would discourage other employees. Telling a family member employee that they are not “cutting it” will of course create family discord. The tension at the heart of every family business remains, is this a business or a family? Successful family businesses learn how to walk the fine line between the two.
Separating home and work life. Millenials famously insist on separating their personal lives from their careers. Next Genner family business employees feel this tension acutely. According to the PWC study, 69% of Next Genners agree that “it can be difficult separating home and work life when working for a family business”. Only 12% disagree.
Start out someplace else before joining the family business. We think this is almost always a good idea because it gives the Next Genner a sense of confidence in their abilities and a broader experience when they join the family business. Interestingly, PWC finds that most Next Genners don’t begin their careers with the expectation that they will enter the family business and 70% of family business leaders began their careers someplace else. Both the Next Genner and the family business owner must do some “due diligence” on each other to make sure there is a good fit.
Making your mark. Many Next Genners want to do things differently once they achieve leadership roles. Although family business generally pride themselves on being able to make quick decisions, tact and caution are the order of the day. Different generations have different capacities to absorb change and risk, and this must be taken into account. Not only must you make a sound business case for the change, but you must consider personal sensitivities.
Succession must be a process not an event. Everyone seems to know this but few practice it. Communication between the family owners and the Next Genners is critical – another cliché which is honored more in the breach. But it is important that over a period of years the Next Genner knows where he stands and the family owners know the concerns of the Next Genner. It is a commonplace for marriage counselors and family therapists to emphasize the importance of good communication. Well, I am now proclaiming – drum roll please – that good communication is no less important in a family business.
We have just touched the surface here. However, it is obvious that succession planning is a particularly difficult problem. We offer the following comments for consideration.
To be or not to be a family business? Family businesses have many aspects, but one thing they are is a repository of family wealth. Some family businesses decide that the best way to protect that wealth is to sell it rather than have Junior manage it. This is never the only consideration but it should always be a factor. Sometimes the happiest families are the ones that have sold the family business.
Rules and regulations. Family businesses need to have well established governance procedures in order to evaluate employees and make tactical and strategic decisions. The best family businesses harness the sense of cohesion and purpose that comes with family to propel the business forward. However, the opposite can also be the case – family feelings get in the way of proper decision making. Everyone needs to know that business considerations come first in a way that is not intended to bruise feelings.
Professional management? The business must establish the importance of continued family involvement but must be open to bringing in professional management. In some situations, the only way that family succession can succeed is with the help of professional management.
Establish a written succession plan. This will determine how business interests are to be transferred from the senior to the junior generation. Will gifts be made? Will the next generation be expected to purchase business interests? Many families believe it is better for the Next Gen to purchase the business and thereby learn firsthand the risks (and rewards) of ownership. How are business interests to be valued? How are sales to be financed? Estate and income tax issues must be considered. Establish active and non-active roles for all family owners.
Family businesses are some of the most successful enterprises in the world. However, they only get there if they first master the intricacies of succession.