The distinct purpose of governance for the family business, and the source of its unique competitive advantage, is to assure united and committed family ownership.
In corporate governance terms, family-controlled businesses are fundamentally different from widely-held listed companies primarily because of the discrete nature of ownership.
Family ownership concentrates control and allows for greater discretion in governance. Active and effective engagement by business families permits a governance system that empowers and trusts management to pursue long-term and unconventional strategies. Trust in management also reduces the friction of governance and the burdensome costs of boardroom regulations.
The strength of family ownership is not only that it is concentrated; it is also intense and personal. Typically, most of the family’s wealth is invested in the business but its connection to the company is emotional as well as economic. Thus, the family is usually highly motivated to be vigilant and to contribute.
However, there is also the temptation for families to meddle in management and in the boardroom. Also, unbridled ownership and squabbling family members will chase away good managers and the best independent directors. Therefore, proper governance of a family business requires clarity both of the roles and responsibilities of the owners, as well as family unity in determining the company vision and commitment to the business and management team.
Approximately one-third of the 1,000 largest companies in the world are controlled by families. Of these, half are traded publicly and half are privately held. The vast majority require a different model of governance than is the norm for widely held companies.
Of course, not all family businesses are alike. Some, such as News Corp, Hutchison Whampoa and BMW have only a few family owners, while others, including Henkel, Wendel and Cargill have dozens or even hundreds of family proprietors.
As a result, the wider issue for family-controlled companies is ensuring that the relationship with the business adapts over the generations. Inevitably, more family members will mean a greater chance of disunity.
Defining governance
Corporate governance refers to the structures, systems and processes that provide direction, control and accountability for an enterprise. For family businesses, I would add the responsibility to assure unity and commitment of ownership.
Most governance discussions look at the structure, roles and responsibilities of the board, and at the relationship between the board and management. For family businesses, a strong relationship between owners and managers allows the board to devote more of its attention to adding value to the company and less on monitoring management.
In addition to strong personal relationships between owners and managers, trust is enhanced by clearly defining the roles and responsibilities of each level of the governance system.
Responsibilities of owners
For family owners, there are four broad responsibilities.
• Owners define the values that shape the company’s culture
Many families, such as the Bonnier media company of Sweden and Cargill of the US, have regular sessions between owners and managers to discuss these issues. Hatfield Quality Meats, a meat producer based near Philadelphia, has more than 200 family shareholders. It goes further than many of its peers by putting into practice and measuring its core values, including safety, energy and waste conservation, and community support.
• Owners set the vision
Family owners establish the parameters and boundaries for management’s strategies. They determine if the company should be private or public, or have equity partners. They instruct management if and how they should diversify their assets. Sometimes they may define the geographic scope of the business – for example, whether to become global to expand the family’s horizons – or the industries the business can pursue. For some, this could mean shunning tobacco, war materials or alcohol.
To integrate the business’s strategic planning with the family’s values, my colleague Randel Carlock and I have developed the parallel planning process. The idea is that the family develops its vision based on information provided by management. At the same time, it contributes to the business by putting forward its ideas on how the company should function.
In the US, the Scotts, a third-generation banking and ranching family based in Wyoming and Montana, is perfecting parallel planning. It has management propose various growth scenarios to stimulate the family’s thinking about vision. Concurrently, the family offers its ideas on the purpose of their businesses. Throughout, both processes benefit from the counsel of the independent directors on the board.
• Owners are responsible for the financial targets
Owners propose goals for growth, risk, liquidity and profitability. The board evaluates these aims for feasibility and consistency. The four goals force the owners to grapple with the inevitable trade-offs in expectations. In so doing, the family gets a better insight into the company which, hopefully, unifies it and leads to appropriate expectations.
• Owners elect the directors and design the board
A good board should be varied in its make-up and should deal with the following issues:
Should the board have independent non-family directors on the board? If so, how many members, and with what qualifications?
Should the family be represented on the board? If so, by how many, and how should they be selected?
My research of companies in North America and western Europe found that no more than 25 per cent of all family-controlled businesses with more than 500 employees have at least three outside directors. In most developing economies, outside directors are even less prevalent.
Most companies without active, independent boards say they never considered establishing one, they feared losing control, or they doubted they would be able to attract high-quality, non-family directors. In fact, more family businesses need to recognise the benefits of a good board and assure themselves that they can attract directors and retain control.
Types of owners
In addition to designing the board, owners must decide what type of proprietor they want to be. There are two critical challenges: how to be watchful and contribute; and how to forge a consensus and common voice of family ownership opinion. There are several options for proprietors: they could be operating owners; governing owners; active owners; investing owners; or passive owners.
The emphasis and mix of these types is often a function of the generation of the family business. Typically, in the first and second generation, most families are operating owners, meaning they work in management full time. In later generations, as the family grows bigger or more removed from the business, the majority of owners become less involved in the day-to-day running of the company. For example, the German company Haniel has several hundred family shareholders and, by family policy, none of them is permitted in management.
Investing and passive owners are generally only interested in their economic returns. Thus, these businesses become, in effect, no different from any widely held, listed company.
Still, non-management family owners can add significant value in many ways. Some business families can be governing owners who are very involved in the business through conscientious board roles.
The Murugappa Group, an Indian conglomerate, carefully and thoughtfully defined the function of the five governing owners who sit together on the company’s holding board. They are cultural ambassadors throughout their companies and spend a lot of time with their non-family CEOs and executives to provide support and to assure succession. They carry and cross-fertilise group competencies, such as technology, external contacts and human resource policies across their portfolio. And they represent the family on all their company’s subsidiary boards.
In a smaller, simpler form, the family can use the chairman’s role to achieve most of these functions.
All family owners, even if they do not have a position on the board, can add value as active owners. These are involved and responsible contributors, who spend time to understand the business in order to provide informed opinion on management and board decisions. This strengthens the confidence and courage of management and protects against disloyalty.
Finally, involved owners deepen their emotional commitment and pride in the business. They attend to their duties in estate planning, serve as examples of the family’s values and the company’s wider culture, and participate in the family’s continuity planning meetings.
Unity of ownership and family governance
To achieve the benefits of concentrated ownership and satisfy issues of corporate governance, families need to organise their ownership voice and work to strengthen their ownership commitment and care. To do so, business families should develop a family governance system.
Family governance often begins with informal family meetings at which the values and hopes for the business are articulated. The family educates itself on relationship skills, such as communications, conflict resolution and decision-making, to assure inter-family harmony.
Later, as the owning family grows, family governance can become more documented in the form of a family constitution. This is a comprehensive statement of the family’s values, purposes and principles comprising a set of policies to address family business issues such as employment, marriage contracts, board selection and dividends. It also includes a shareholders’ agreement, which defines the legal rules of ownership and redemption.
Of course, not all families need a fully fledged constitution. For example, the Mogi family of Japan, producers of Kikkoman soy sauce, has had a simple statement of 12 philosophic principles that has served it well for more than 100 years.
A higher purpose
Paradoxically, for well-established large families in business, maintaining ownership is not the ultimate end. Instead, the family’s unity and commitment are most strengthened by other motivations. For example, they may rally round a social purpose for the company, like the owning family of Roche, the Swiss pharmaceutical company, which believes in the life-saving innovations of medicine.
Or they might focus on a family foundation and harness the financial success of the company to make a difference in society. For example, the Belmont family of Peru supports economic security opportunities for women by employing thousands of them to sell their company’s health and beauty products across South America. What is more, through their family foundation, they offer the women educational scholarships.
These families are more than business owning families – they are enterprising families. In other words, they work together for a collective purpose that unites them emotionally as well as economically.
The real backbone of good family business governance is the purpose and governance of the family itself. It is their commitment to family unity that motivates them to be effective owners and to support their business for the long term.
John Ward is the Wild Group professor of family business and co-director of the LODH Family Business Research Centre at IMD in Lausanne, Switzerland. He is the author, most recently, of “Perpetuating the Family Business: Lessons Learned from Successful Families in Business” (Palgrave, 2004).
