Thursday 14 January 2010

Keeping business in the family

Succession of management, values and ownership needs to be addressed for smooth transition to the next generation

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Guanyu said...

Keeping business in the family

Succession of management, values and ownership needs to be addressed for smooth transition to the next generation

By JUNE LEE AND EDDIE GAN
12 January 2010

In family business succession, there are three distinct dimensions that need to be addressed: the role of family (‘management succession’), the influence of the founder’s values (‘values succession’) and family ownership of the business (‘ownership succession’). The combination of these three factors gives family businesses their character and business edge, and it is these factors that need to be addressed for smooth transitions from one generation to the next.

Management succession

Families in business need, first and foremost, to be clear regarding their vision for the business. Families which see the family business as a symbol of the family’s success focus on achieving excellence. For these families, business leadership needs to be selected based on competence and not by traditional family hierarchy or similar practices. In their quest for business excellence, many family business leaders have become open to the idea that the best person for the CEO position could be a non-family professional. However, family-controlled businesses often suffer from perception myths that make it difficult for them to attract top talent. These include the perception that the top jobs are ‘reserved’ for family members, that there is little empowerment of non-family professionals and that family businesses are slow at adopting new ideas. As perception is the reality that determines action, family businesses that wish to refute such myths need to act accordingly, and also be seen to be doing so.

A common practice that UBS has encountered in our work with successful business families is their attention to good governance practices, both in the company and in the family. Job descriptions ensure there is clear definition of roles and responsibilities, corporate hierarchies and reporting lines are observed and professional human resource practices linking compensation and promotions to objective employee performance evaluations are consistently applied for family members and non-family employees alike.

On the family front, there are equally clear ‘rules’ regarding the criteria for young family members who wish to work in the family business. In addition to a ‘code of conduct’ expected of family employees, these emphasise the need for family aspirants to possess the appropriate education and/or work experience, thus ensuring only suitable family members join the family business.

Indeed, as senior-generation family business owners refrain from putting pressure on their children to join the family business, these young-generation heirs often choose careers outside the family business. With no young-generation succession candidates, the family is acutely dependent on being able to attract and retain non-family professionals to lead the business forward.

Guanyu said...

Values succession

While these professionals may do an excellent job on the commercial front, families in business need to be reminded of the second dimension of family business succession: the continued influence of the founder’s business philosophy. Ensuring that the company continues to honour the particular traits that identify the business with the founder can best be enforced by active family members, whether in a management position, on the board of directors, or as interested and responsible shareholders. Ensuring values succession in the business is also important in relation to safeguarding the family’s reputation in the business and social community. Young-generation family members need to imbibe the family values, traditions and business principles, if this is to be their role.

Ideally, the governance rules, family values, business philosophy and education and development programmes for young-generation family members are set out in the family charter. A family governing body, the family council, is charged with its implementation.

Ownership succession

Business families looking into management succession should not ignore the ownership dimension. All too often, business families dismiss the ownership dimension as a ‘family inheritance affair’ that can be postponed while they focus first on dealing with finding an appropriate successor for the management seat. In reality, the link between share ownership, motivation and ability to influence business decisions is too significant to be ignored.

An important source of the family business advantage is the ability of the family CEO to make bold decisions. This arises, in part, from his often substantial shareholdings in the company. The fact that he is ‘putting his money where his mouth is’ gives him moral authority for risk-taking that family co-shareholders recognise. After all, they reason, he stands to lose more should the decision go wrong.

In some families, a next-generation family member who is actively working in the business and contributing in a significant way often receives more shares. This acts as apt reward for value added as well as providing the leverage and motivation to further grow the business. Reliance on this argument would see the need to re-align shareholdings at every leadership change. This would be particularly difficult if leadership succession were to pass, not from father to daughter or son, but to a niece or nephew instead.

Another alternative would be to distribute shares in the business equally to all next-generation heirs. Such a practice soon leads to individuals all owning a small fragment of the business, perhaps with no single person holding a sufficient shareholding to sustain the motivation and moral authority of an ‘owner-manager’ with its attendant business edge.

Transferring shareholdings to a broad base of family members without regard for their commitment to the business can also have a significant impact on the ability of the management team to execute business strategy.

Family business history is littered with cases where siblings and cousins have differed in respect of business strategies and their perception of the risk that should be taken in business expansion projects. In the best of these cases, those family members committed to growing the business have been able to buy out their more conservative relatives.

In other cases, agreement is reached to adopt a middle-of-the-road strategy that often sees the company losing out to competitors. The worst-case scenarios are those cases that make headlines as the discussions degenerate into family feuds that lead to a loss of both the business as well as good family relations.

Guanyu said...

If the company is listed, unrestricted sale of the company shares by disillusioned family members could result in the family losing their majority stake and control over the business. On the other hand, exit from an unlisted company often entails private arrangements between family members with the risk of disagreements on share valuation.

In some unlisted family-owned businesses, shareholders’ agreements among family shareholders set out the rules of the ‘internal capital market’. Topics covered include restrictions governing the transfer of the shares, valuation methods, settlement period and other processes.

Even so, such transactions impose cashflow problems for those family members buying out the exiting member. As those buying the shares are the ones who are committed to the business, the effect of the strain on cash flow often directly translates to reduced resources available for business expansion plans.

For all the above reasons, some families have turned to ownership structures to secure their ownership stake in the family business. A solution that has received increasing interest recently is the twin structure of a business trust and private trust company (PTC). The settlement of the trust takes care of the access to financial benefits, whereas the board of directors of the PTC ensures that business decisions continue to be made by those best placed to ensure the company’s growth and financial stability.

Before deciding on any structure, families should first clarify what they seek to achieve in each of the dimensions of family business succession. UBS Wealth Management’s Family Advisory Services supports our clients by facilitating private workshops where family members discuss how they see the future of the business and the ongoing role of the family, to arrive at a shared understanding of their business vision and core family values.

In some cases, we go on to support families to create a family council and write their family charter. Business families can also access platforms such as Family Business Network, Pacific Asia which organise networking and education events for their members to discuss and find solutions for the challenges they face in their pursuit of longevity and excellence for their family business.

June Lee is head of family governance advisory and executive director in UBS KeyClients Competency Centre. Eddie Gan is managing director and Singapore country team head of UBS Wealth Management