Succession and the Family Dynamic

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Succession & The Family Dynamic
How Family Structure Affects Family Business

Last week, we looked at the
characteristics and factors that make up
what we call a family business

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Our Working Definition of Family Business
 Ownership control (15% or higher) by two or more members
of a family or a partnership of families
 Strategic influence by family members on the management of
the firm, whether by being active in management, by
continuing to shape the culture, by serving as advisors or
board members, or by being active shareholders
 Concern for family relationships
 The dream (or possibility) of continuity across generations

Characteristics that Define a Family Business
 The presence of the family
 The overlap of family, management, and ownership, with its
zero sum (win-lose) proposition, which in the absence of
growth of the firm, render the family business vulnerable
during succession
 The unique source of competitive advantage derived from the
interaction of family, management, and ownership, especially
when family unity is high
 The owner’s dream of keeping the business in the family (the
objective of business continuity from generation to
generation)

Characteristics that Define a Family Business
 The fact that the family business managers are dealing with
their own money and the inheritance of their children and are
not as subject to the quarterly whims of Wall Street allows for
more patient capital
 They will act intelligently but boldly at critical junctures,
knowing that the benefit or loss will directly affect the family
 That knowledge keeps family managers making decisions that
steadily contribute to the family’s incremental and long-term
wealth
 The goal is for each generation to grow the company’s value
leaving behind a stronger and better than the one they
inherited
 This makes them more imaginative, innovative and
progressive in their decision making

I gave you a definition of family business
based on those characteristics…

Our Definition of a Family Business
A Family Business is any enterprise in which an
entrepreneur or next generation CEO and one or
more family members significantly influence the
firm.
The influence can be managerial or Board of
Directors participation, ownership control, the
strategic preference of shareholders, and the
culture and values family shareholders impart to
the enterprise.

I also left you with a number of slides
that showed you the worldwide impact
of family businesses on the global
economy

Some Family Businesses

I hope you went through those slides…

Which gives us the introduction into this
week’s lecture…

This Week’s Lecture

Understanding the massive impact that
family owned businesses have had on
the global economy, we can now move
forward to understand the dynamics
that run these businesses

While many people would like to tell you
that family-owned businesses are all in
one structure, they would be wrong!

The family-owned business can take
many forms of operation and many of
those forms depend heavily on the
structure and vision of the family elders
and founders of the business

I have mentioned a document called a
Family Constitution a couple times in
class – so let’s take a minute to
understand what it is and it’s impact

A Family Constitution sets the
foundation of how the business is and
will be run. This includes succession,
family members and non-family
members employment, and Board of
Directors activities.

A badly written Family Constitution can
create problems for generations to
come. A well written one will be the
basis for the success that the business
achieves today, tomorrow and in the
future.

Family Constitution

A Family Constitution provides the
complete structure of how the founders
want the company to be run, grown and
carried forward – even after they are no
longer involved in the decision making
process

Since competitive success, family
harmony and ownership returns are all
at stake at the same time in the firm,
having a carefully drafted document to
guide generations is essential for
founders

One of the most crucial items covered in
a Family Constitution is the concept of
succession.

While there are hundreds of reasons
why organizations fail, in family-owned
and family-controlled businesses, the
most common reason is succession
planning.

Whether the reason is incompetency or
unprepared successors, unclear
succession plans, a tired strategy that is
unable to contain competitors or family
rivalries and attempts are power grabs,
if the business is going to survive, it
must successfully craft the succession
process.

What is succession?

There are 3 types of ineffective
succession that you must assure do not
happen

Type 1 – Conservative
Even though the founder, or previous
leader, has exited the business, the
shadow remains and the firm and its
strategies are locked in the past.

Type 2 – Rebellious
In an over-reaction to the previous
generation’s leadership, the next
generation launches a “clean slate”
approach to the organization.

Type 3 – Wavering
The next generation is paralyzed by
indecisiveness, unable to adapt the
business to current competitive
conditions

Whether it be Conservative, Rebellious
or Wavering, they all lead down the
same road – the destruction of the
company’s traditions, legacies, and
“secret to success” – ending in the
closure of the company.

So how do we get it right?

Building Family Businesses That Last

Without vision and leadership from
members of 2 generations & the use of
select family, management and
governance practices, the future is bleak
for family-controlled enterprises

When you blur the boundaries among
family membership, family
management, and family ownership, it
subjects the business to the potential for
confusion, slow decision making, or
even corporate paralysis

Add to that, the inability to adapt to
changes in the competitive marketplace
or powerless to govern the relationship
between family and business will
ultimately undermine the enterprise

So, family businesses that lack multi-
generational leadership and vision have
difficulty positioning to retain the
competitive advantages that made it
successful in the first place

How to we get past this?

With ongoing discussions across
generations with owners about their
vision for the company to build a
business that withstands and excels
across challenges

Businesses that have been built to last
understand the tension between
preserving & protecting the core of what
made it successful, and promoting
growth and adaptation to changing
competitive dynamics

Systems Theory

The Systems Theory says that family
business is modeled with 3 overlapping,
interacting and interdependent
subsystems of family, management and
ownership

The Systems Theory
According to the Systems Theory model, each subsystem maintains boundaries that
separate it from the other subsystem and the general external environment that the
business operates.

The Systems Theory
For the business to perform optimally, the subsystem must be integrated so that the
entire system functions in a unified way.

The Systems Theory
This model also shows that the family firm is best understood and studied as a
complex and dynamic social system where integration is only achieved through
reciprocal adjustments among the subsystems.

The Systems Theory
Put simply – everyone has to give to make the business successful. Each part of the
system has a role, but each one must give and take to make the rest of the model
successful

The Systems Theory
The family business will always have adjustments to make, especially when next
generation family members join, earlier generations age and the firm sees new
periods of growth due to product and/or service innovations.

The Systems Theory
Issues, priorities and problems will be defined differently by different members of the
family in business. The definitions will depend on where the individual stands in the
system.

The Systems Theory
A parent who is CEO and 100% owner of the firm (1) will likely view things differently
than a family member who is not active in management and does not own shares in
the business (6). Just like a non-family member will have a different perspective (7).
1
6 7

The Systems Theory
This phenomenon leads to a categorization of family businesses based on their ability
to have a family-first, ownership-first, or management-first perspective on issues and
their resolution.
1
6 7

The Family-First Business
In family-first businesses, employment in the business is a birthright. Employment is
based solely on the applicant’s last name, merit and other important criteria in the
process are devalued or entirely irrelevant.

Non-family managers with high career aspirations are not usually willing to join family
businesses out of concern for their future prospects. High-potential non-family
managers will never join a family-owned or family-controlled business.

Family-First businesses exist primarily for the purposes of the family, perks that
transfer from the business to family members are often extensive, financial systems
will lack transparency to protect this fact.

The business becomes part of a lifestyle.

While well-managed and well-governed family businesses may have sound reasons for
paying all members of the family the equal or nearly equal compensation, Family-First
businesses tend to equalize compensation regardless of the responsibilities, results, and
overall merit.

The level of commitment of family-first businesses to the continuity of the business
across generations depends on the agendas of individual family members and the
levels of conflict associated with running the business.

Family-first businesses are likely to choose continuity only if members of both the
current and succeeding generations aspire to this goal and if the current generation
has sufficient resources in retirement to make this possible.

If neither generation dreams of continuing the business, it is likely to be sold at the
end of the generation.

Even if family members want to keep the business running, there is great difficulty because
successor selection, strategic renewal and governance between family and business require
a strong commitment to sound business management principles, which don’t exist in this
model.

The Management-First Business
Management-First businesses actively discourage family members from working in the
business and/or to require work experience outside the family business as a
requirement for employment.

The beauty of this style of family business is that the performance of employed family
members is reviewed in the same manner as the performance of non-family members
and HR policies generally apply equally to family and non-family employees.

Compensation is based on the responsibility and performance, not on the position in
the family hierarchy.

The focus is on profitability, return on assets, market share, revenue growth, and
return on equity.

Another difference is that there is no automatic commitment to business continuity
because the enterprise is seen as a productive asset. As an asset, it could just as easily
be folded into a large company or sold through an employee stock ownership plan.

The Ownership-First Business
In Ownership-First family businesses, investment time horizons and perceived risk are
the most significant issues. Here the shareholders come first.

Ownership-First businesses have shorter time frames within which financial results are
evaluated.

Just a impatient and greedy investors on Wall Street can pressure well-managed publicly
traded companies into short-term thinking, family shareholders who are not active in the
business, can get in the way of effective operation of a family-controlled business.

These family members can cause the business to lose the founding culture, which
valued the role of patient capital, or investing in the family business for the long term.

Patient capital – one of the most significant sources of competitive advantages of
many family businesses – disappears at the hands of greedy shareholders.

Siblings and cousins, caught in the web of high expectations for short-term returns via
dividends, distributions, or the creation of shareholder value, are prone to second
guessing family members in management.

If family unity suffers as a result of this pressure by some family members for high returns
and short time frames, a loss of will and vision may result. Family business continuity may
be abandoned in favor of immediately recapturing the value created by previous
generations – even through the sale of the company.

Succession and the Family Dynamic

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