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How family businesses survive and prosper

Family businesses face very specific challenges in their quest for growth and success. Here Grant Gordon identifies the potential obstacles and advises on how to overcome them.

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How family businesses survive and prosper
The strengths of family businesses have been highlighted by a number of recent studies and include their tendency towards long-term thinking, a restrained attitude to debt, a genuine commitment to customer service and an unceasing entrepreneurial approach.

In the UK, according to the Institute for Family Business (IFB), family businesses account for 65% of private sector enterprises and 40% of private sector employment. Other studies show that one third of the USA’s Standard and Poor’s 500 and 40% of the 250 largest companies in France and Germany are family businesses.

In this article we look at the common structures of family businesses and the issues that most affect the growth and future success of such firms. Then we identify the 10 key ways successful family businesses overcome these problems.

Overview: The family business system

The family business system includes three component parts: the ownership, the family and the business. These can be pictured as overlapping circles in what is called the ‘three-circle model’ (see Figure 1, opposite).

Many family businesses begin with a single entrepreneur who unifies all three circles: the ‘owner-manager’. The founder owns the business, works in it, and represents ‘the family’. The system is very simple with a centralised decision-making process.

As the business prospers the system becomes more complex. There are more managers who are neither family nor owners. Perhaps an external investor takes a stake in the business, becoming an owner but not a manager. Then the entrepreneur has children who are family, but not owners or managers. Within a few years there could be many people involved.

In some firms the founding entrepreneur remains for a long period as the only person wearing all three owner, manager and family hats. They work on and on, never passing on ownership, or business leadership, to others. When they are finally overtaken by ill health, or death, this may trigger a crisis in the system. The family may feel forced into a rushed sale, destroying value and bringing an end to the family business.

But there are many other ways for the system to develop (see Figure 2, below). A common trajectory is for the children of the founding entrepreneur to form a ‘sibling partnership’ as owners, managers and family members. Centralised control in one person gives way to shared control.

When they retire, if the business is still successful, the next move is for the third generation to create a ‘cousin consortium’ involving different branches of the family. As the system becomes more complex there is increased need for the formalising of governance structures and protocols to manage the family input.

As the number of family members grows, it may be advisable to ‘prune the family tree’ – buying out some of the shareholders and concentrating ownership back into a few hands: perhaps even back to a single controlling owner, allowing the cycle to begin all over again.

Three obstacles to growth

Family businesses face three main obstacles to growth, as outlined below. 

1. Succession issues

Typically the founding entrepreneurs may be reluctant to give up their position. Stepping back from management, and possibly handing down their shares, can be psychologically very hard to do. There can also be a reluctance to engage the ‘next generation’ of the family – perhaps valid. The younger family members may feel that they should be given the opportunity to enter the business, yet may not have the skills to make effective contributions as employees.

On the other hand sometimes family members are hired into the business too readily, with too little reflection on their true capabilities and career ambitions. Indeed, much unhappiness can be caused when members of the next generation feel coerced into a role that could be beyond them, with no allowance for their personal ambitions or preferences.

As a result of these issues, the younger generation can drift away from the business and feel little connection to it. They could become more inclined to cash in their shares and may have no regrets when the family business system comes to an end.

2. Family dynamics

Sibling rivalry can become a major issue if two or more siblings are owner-managers. Who will be top dog? How will they divide roles and responsibilities?
 
Intergenerational struggles can occur when there is a lack of clarity over the family’s involvement in the business. The family owners may feel that it is essential for the next generation to take the leadership in the business circle in order to maintain the family business. Alternatively the family owners may prefer to delegate the running of the business entirely to professional managers, staying involved at board level in a more strategic capacity, for example with a family member as chairman of the business.

3. Finance and strategy issues

The family may not wish to expand the ownership circle. On the positive side, this means that the family keeps control and can take a long-term view, but on the negative side, a refusal to bring in external capital can limit expansion and hold the business back.

On strategy, a basic decision needs to be made about which circle gets priority. Is it most important that:

  • the family members get jobs;
  • the owners get dividends; or
  • the business gets investment for growth?

Over the long term, there are very strong reasons to give priority to growing the business.

10 ways to overcome the obstacles to growth

Having described the potential obstacles, how can they be overcome? Below are 10 ways of doing just that – collected under the appropriate ‘issue’ headings.

This is an extract from the Finance & Management Magazine, Issue 185, February 2011.