Family Business and the Process of Succession

There are various definitions of a "family business."  We are focusing on a business owned or controlled by members of a single family, and in which members of at least two generations work in the business.  The generational shift of leadership as well as ownership requires appropriate succession and estate planning.

The Systems

Three separate systems influence family businesses.  These are ownership, management, and the family.  Each system has its own dynamics and its own set of issues.

Ownership issues are dealt with through legal structures, shareholders agreements, buy-sell agreements, and the like.  Management concerns are dealt with through by-laws and other documents of corporate governance, employment agreements, policy manuals, education, and communication.  Family issues are dealt with through family mission statements, family constitutions, and similar documents that set forth family core values, goals, and rules; as well as the use of family meetings and, perhaps counseling, coaching, or therapy.  When these systems intersect, conflict may arise, and in order to alleviate the problems their history needs to see the light of day.

The problem may involve who in the family is entitled to work in the business or who is entitled to have a proprietary interest.  For example, is obtaining work experience elsewhere a prerequisite to working in the family business?  Alternatively, is ownership a birthright or is it only available to family members who have worked in the business for a certain number of years and have demonstrated the ability to add value?

Succession Planning

Succession planning involves both management and ownership.

Management Succession

Management succession is the most important issue facing family businesses.  With respect to management, succession planning is the deliberative and formal process facilitating the transfer of management control from one family member to another.  The purpose of the process is to ensure continuity and prosperity in the family business. ¹

If the family culture requires a member of the family lead the company, there is obviously a smaller talent pool from which to draw.  In addition, sibling and other rivalries may either thwart the selection of the appropriate person to lead, or result in the less effective method of operating the company through power sharing by siblings or cousins.

Professional managers may provide the necessary leadership, either during a transitional phase or on a permanent basis; however, to recognize this and to bring it about usually requires the help of outside advisers.
Typically, leadership of a family business continues in one person for a period much longer than in the case of non-family businesses.  Assuming good health, a family member may lead a company for many decades, whereas other businesses often fix retirement ages and do not have open-ended leadership terms.

Because of complacency, family businesses tend to neglect dealing with management succession.  Having a fixed retirement age forces a company to establish a process or plan to deal with management succession.  Obviously, this process is very helpful in the case of an unexpected death or disability.

A successful management succession plan requires the following:

• The current leader must have the desire to continue management control in the family.  This is important because the leader generally controls the succession process.
• The members of the family are on board with keeping the business in the family.
• The chosen successor has the integrity and ability to lead the business.  That is, the current leader trusts that the successor can do the job.

 Who Should Lead

After many years of study and observation, Peter Drucker believed that effective leaders: ²

• Determine what needs to be done for the business.  They tackle no more than two tasks at any one time, and they set priorities and stick to them.  It is a continuing process.
• Determine what is right for the business as opposed to what may be right for its owners, the employees, or the stock price.  "In the successful family company, a relative is promoted only if he or she is measurably superior to all nonrelatives on the same level." ³
• Develop an action plan, that is, a statement of intentions, the purpose being to have a flexible plan, which is reviewed often and changed when circumstances dictate.
• Take responsibility for decisions and for communicating them to their superiors, subordinates, and peers.
• Focus on opportunities rather than on problems.  Problems are dealt with, but greater attention is devoted to exploiting opportunities.
• Run productive meetings, sticking to the stated agenda.
• Think in terms of "we" rather than "I", i.e., their attention is on the needs and opportunities of the business rather than on their personal needs and opportunities.

Ownership Succession

As ownership is passed to successive generations, a fundamental issue is whether family members who do not participate in the business are eligible for ownership.

Where the family has established wealth outside of the company, non-participating family members may not receive equity in the business since equivalent value may be available in the form of real estate, marketable securities and other non-business investments, leaving such equity for those family members who work in the business.  Oftentimes, this is not possible because the major family asset is the business itself.

However, it is not uncommon for children working in the business to want to share in the non-business assets as well, since such assets may be income producing or provide needed liquidity. Even in situations where there are substantial assets in addition to the family's interest in the business, it may be part of the family's culture to disperse ownership among family members regardless of participation.  There is no right answer.  This is a decision that each family must make for itself, depending upon its history, philosophy, and custom.

Many successful businesses, especially those that have made it to the fourth and fifth generations, have ownership in the hands of non-participating family members.  Control, however, can be maintained in certain family members through the use of voting and non-voting shares as well as voting trusts and voting provisions in shareholders' agreements.  Again, although not a universal rule, control may be left to those who participate in the business.