Protecting The Future Of The Family Firm
26th January 2018 Juliette Johnson
Strong businesses are constantly looking ahead, trying to forecast future commercial risks and opportunities, with varying degrees of success.
Family firms need to address other factors as well. Family companies are exposed to an additional sort of risk factor – family risk – which can undermine an unprepared business just as quickly and comprehensively as more conventional threats.
Let's think for a moment about the challenges of some randomly chosen, but common scenarios for a family business.
When family businesses transition from the second to third generation, for example, cousins will likely become involved as both employees and shareholders. This challenges family cohesiveness because, unlike second-generation siblings, cousins will have been raised in different households with different parents, different values and different perspectives on the family business.
Another potentially troublesome, stressful but wholly predictable scenario concerns family members working in the business but underperforming – how is the family to deal with this? Can the individual be reprimanded, demoted or even sacked?
Similarly, for a whole range of reasons, previously committed family shareholders may want, or need to sell their shares. But unless the business has a stock exchange listing there will be no ready market. Difficult questions arising include the importance of keeping the balance of shares between family branches, whether other family members can afford to purchase the shares, or could the company buy them back, and what is the fair value of unquoted shares, especially if they represent a minority interest in the company and are subject to a significant discount?
And what of divorce and remarriage?
Say a shareholder working in the family company is divorced and remarries. There were two children by the first marriage and two by the second. So as well as the potential for conflict between ex-spouse and new spouse, tensions may play out between the two sets of half brothers and half sisters, likely to have grown up hearing very different accounts of the family history and being quite disparate in ages.
Issues like this may seem rather abstract and unimportant in the early days of the family business as it’s propelled along by shared excitement, adrenalin and a vista of apparently limitless opportunities, but these or other potentially explosive family issues will for sure turn up at some stage as the company grows and expands.
The good news is that in a family business it’s relatively easy to predict these family risk factors, providing a valuable opportunity to talk about them in advance, plan for them, and to minimise their impact by setting up guidelines and processes that will govern what’s going to happen when they do arise.
During the early “age of innocence” in the family business life cycle it’s possible, quietly and calmly, to lay down ground rules about tomorrow’s predictable problems before they become personal to any one individual or group – at a time when they remain interesting, theoretical conundrums, as opposed to a later incarnation as very real, awkward, emotionally charged and potentially disastrous problems.
Key strategies and guidelines
Encouraging a forum for open communication on these issues and allowing everyone to put forward their views is essential. A good starting point is education – teaching the family about the challenges of ownership and learning from the experiences of other families. Some family members will feel uncomfortable discussing sensitive issues, so it’s important to ensure that everyone is well prepared (agree agendas in advance) and conscious of the potential challenges that lie ahead.
Try to make sure no one feels defensive and that family members are allowed to express their views without interruption, while providing a framework for subsequent questions and debate. Urge everyone to focus on the future rather than the past, and to make the most of their golden opportunity to put in place sensible policies to govern how the family will manage future, potentially divisive issues. Encourage everyone to think about “what-if?” questions on topics like:
- Family jobs: What should be the criteria for working in the business? Should in-laws be allowed to join? What if family members do not perform to appropriate standards? What rules should govern management succession and selecting the next leader? When should family members retire? You know that all these questions are going to come up at some point, so it’s much better to tackle them in principle and in advance.
- Family communication and decision making: As the family tree grows, communication becomes more important, and more difficult. Similarly with decision making – how do you agree and what happens if you don’t agree? How should conflict be managed? It’s much, much easier to work out what should happen in potentially stressful situations if you formulate policies and rules before such situations arise.
- Acquiring ownership: Who is entitled to own shares? What about spouses? What about stepchildren or adopted children? Everybody will have a different view, but you’re better off deciding on a policy before any family members think about passing shares outside the family.
- Selling shares: Set the rules on shareholders exiting at a time when nobody wants to sell – before anyone knows the value of the shares or whether they’re a buyer or a seller – because, at that early point, discussions can be non-confrontational and non-personal, and it’s in everyone’s best interests to arrive at a fair process.
Writing down your family’s conclusions on all these issues is essential. It could be in a full-blown family constitution, or in a less formal memorandum of understanding, and some of it (especially ownership issues) might best be included in a shareholders’ agreement. The format doesn’t really matter, as long as everyone feels they have been consulted and decisions are recorded in writing – this helps avoid the problem of “selective amnesia” (a family business trait!) and also allows the family to revisit, review and update what should amount to a “living” rulebook.
Families can never expect to predict every single risk in advance, but working in this organised way on those risks that are predictable, prepares them to cope better when the unexpected happens. More importantly, looking ahead in this way – working together to assess risks, agree strategies and devise governance mechanisms – improves communication, builds trust, helps the family manage everyone’s expectations, and lays excellent foundations for family cohesiveness and family business sustainability.
About the Author - Juliette Johnson is a leading family business consultant in the UK. Find out more about the work she does with families by visiting her website here