THE CPA CONSULTANT

May 2000

CONSULTING WITH FAMILY-OWNED BUSINESSES

By Robert B. Scott, Jr.

More than 90% of U.S. businesses are owned and managed by members of a single family. Yet, most family-owned businesses do not survive the second generation. The average life expectancy of such businesses is roughly 25 years. These factors contrive to make management succession within a family-owned and operated business a very difficult issue.

The following guidelines can be used to stimulate discussion with clients and guide their planning in this critical area.

Require that family members gain full-time experience elsewhere before they work full-time for the family business. Part-time or summer jobs in the family business may motivate and orient teenage family members, but full-time employment without at least two to five years' substantial postcollege experience elsewhere is usually a mistake. Let the younger generation prove themselves to someone else. Let them taste success without wondering whether they earned it, and let them taste failure without their parents standing by. If they begin to succeed elsewhere and still want to join the family business, bring them back. If they begin to succeed elsewhere and prefer to stay away, let them--they will probably be healthier and happier. If they fail elsewhere, do not bring them into the family business. No business can afford to be a haven for unsuccessful relatives.

When younger family members work full-time, give them line responsibility and the freedom to make mistakes. People learn by doing and by making mistakes. Placing younger family members in "safe" jobs, where they cannot fail or do much damage, is shortsighted and virtually guarantees their eventual failure as well as damage to the family business.

Successful entrepreneurs are usually individuals who know how to produce a product, provide a service, or sell either. Their line management skills are a critical element of their success. Assisting parents by managing the office or keeping the books will not cultivate these skills.

Prospective successors must prove themselves worthy of leadership by assuming responsibility for one or more key line management areas of their family business. For instance, a family owns a small chain of retail stores and assigns a young family member as a store manager, as early as possible in her career. She is given as much as or more autonomy than nonfamily managers and is encouraged to experiment. If she succeeds, the family assigns additional stores. If she fails, she damages only one unit, probably only temporarily, and the family reevaluates its succession plan.

Equally important, however, the customer base, production, operations, and marketing/sales areas must remain under family control. Owning all or a majority of the shares is not enough. Otherwise, talented and aggressive employees can leave, taking the essence of the business with them.

Most family businesses that survive and flourish well beyond the typical quarter-century life cycle have been reinvented periodically, usually by new generations of management. Many successful succession programs involve allowing key young family members to create and launch a new product line, service, marketing strategy, or business model.

Avoid management responsibility overlap among family members. Much of the discord in family-owned businesses arises when family members second-guess their relatives and resent taking suggestions or orders from them. If work assignments overlap, friction and serious problems are likely. A clear separation of responsibilities and authority goes a long way toward reducing tension and promoting harmony in the family and the business.

As early as possible, each family member should have near-total autonomy on a day-to-day basis in her particular area, subject to review by the senior member of the management team. Although daily supervision of family members by other family members should be minimal, a sensible amount of cross-training among family members is still advisable.

Establish a board of directors with approximately 40% outside members. Many small family-owned businesses have a token board of directors that functions primarily on paper, meeting the legal requirements of the state of incorporation but otherwise serving no useful purpose. Although they can dismiss the board at will, some business owners do not want a board telling them what to do. Moreover, many business owners are afraid to expose their performance and management skills to scrutiny and are accustomed to having their views and decisions go unchallenged.

Perhaps the single most important step an owner can take to improve management of a family-owned business is to add competent outside members, preferably entrepreneurs that are successful in their own right, to the board. Such directors bring experience and objectivity to the table and provide strength to make the difficult business decisions that involve family members.

Minimize the overlap between the business and the family that owns it. A family's place of business should be exactly that. Family activities belong elsewhere. The reverse is also true: family homes and events should not serve as extensions of the workplace. With rare exceptions, home-based businesses should be moved out of the home as soon as finances permit.

Using business facilities for personal pursuits is usually false economy. For example, the ocean-racing sailboat built in an unused portion of one business owner's machinery factory turned out nicely, but its impact on employee efficiency and morale probably cost more than renting an outside space. Such arrangements are usually ego trips or risky attempts to run personal expenses through the business.

Begin succession planning early and make a written commitment. This is the single most important element in succession planning. The younger generation's full-time employment in the family business should be viewed as an experiment that may or may not lead to a career commitment. But from the beginning, everyone involved should understand that the trial period is not indefinite. For instance, when the younger generation reaches age 30, the senior generation is usually into their 50s, a good time to make a specific written commitment to the future. If the older generation is uncomfortable with or unwilling to make such a commitment, the younger generation can interpret this hesitancy as a signal to seek employment elsewhere or start a new business.

The nature of a succession plan depends upon business circumstances, family structure, and other factors. The owners' refusal to commit to a succession plan usually signals that they do not intend to step down. Perhaps they have no faith in their relatives or are using them as compliant and underpaid labor. Or, the business may be such an enormous part of the older generation's life, identity, and sense of self-worth that they are afraid to let go, equating retirement with death.

Nevertheless, in family businesses as elsewhere, the best people leave when they are unfairly held back. If the older generation fails to commit to a succession plan and the younger generation fails to leave, the business is probably in decline. The best option may be to sell the business to an outsider while its long-term prospects and value are intact. *