Many families dream of the possibility of building a business enterprise that can support and be enjoyed by many generations of the family. But making important and sometimes necessary transitions along the way can be difficult. Many advisers know the best techniques to make those transitions in a tax-efficient and legally beneficial matter, yet it is still notoriously difficult to maintain a family business through succeeding generations.
In fact, most businesses do not make it past two or three generations. “From shirtsleeves to shirtsleeves in three generations” is a well-known saying in the United States that represents this difficulty. There are similar sayings in cultures around the world, suggesting that this unfortunate cycle is a universal human phenomenon.
This cycle must be broken for the good of the entire economy. An estimated 80 to 90 percent of the country’s businesses are family businesses, and an astonishing one-third of Fortune 500 companies are family owned. More than 60 percent of the U.S. gross domestic product comes from family businesses, and they employ more than 60% of the country’s workforce. In other words, the overall U.S. economy needs family businesses to thrive.
So, what keeps a succession plan from being truly “great”? Some best practices have emerged. Here are the top 10 questions every family business should be asking to reach for long-term success.
- Do we have an independent board of directors? Time and again, research has shown that the key to long-term success for family businesses from generation to generation is the establishment of an independent board. This is a difficult decision for many entrepreneurs who are accustomed to running every aspect of their business, but good business governance is critical to validate and bring perspective to the direction of the business.
- Do we have an ownership council? Too many family businesses fail to recognize that the needs and desires of the business owners often differ from the needs and desires of the business. In addition to good corporate governance, successful family businesses have established good governance procedures for the owners. Sticky issues such as voting of ownership interests and owner exits from the business become far easier with good procedures established in advance. As the ownership grows to include far-flung cousins, these ownership governance structures become even more critical to find and maintain the common interests of the owners.
- Do we have a family council? Many families who own businesses make the mistake of doing a great job of actively governing the business and ownership issues, but not the family issues. Each system (family, business and ownership) deserves active attention and governance.
- Have we planned for the financial capital needs of the business and the owners? Successful business owners understand capital planning for the business. However, the liquidity needs of the owners and the business shift over time, and successful family businesses actively plan for these changes to ensure that the business has adequate capital to thrive and the owners realize an adequate return to live and retire.
- Do we have a plan to advance the family’s intellectual capital? Education of the younger generations is critical to the long-term success and wealth of the family. Successful families plan for and demand broad education and experience from their children and grandchildren, requiring them to gain significant work experience outside of the business before they are allowed to join the business. Permitting every family member to join the business, regardless of education and experience, is foolhardy, as is expecting that every family member will join the business. True success is found when the passions of a family member are in line with and can advance the family business.
- Are we taking care of our family? In addition to education and experience, healthy families are more successful. Therefore, successful families make sure that all three types of the family’s capital—financial, intellectual and human — are preserved and advancing.
- Do we understand the key balance points in our family-business system? As noted above, the family who owns a business is a complex system that requires work to establish the right balance among the various interests (i.e., are we balancing the financial needs of the founding generation with the capital needs of the business?). Successful families identify and actively manage the balance points among these systems. For example, who helps the board of directors to effectively work and communicate with the business owners?
- Do we have a family constitution? Establishing and writing down a working family constitution can help guide decisions that affect each of the points discussed above. A family constitution can also be a critical guide to those who are managing the business, not to mention the advisers to the business, to make sure the business and succession plans remain aligned with the family values.
- Are we confident in our team of advisers? Families who must navigate the process of transitioning a business can find great value in having advisers who understand the unique challenges faced by family businesses and who are passionate about helping families thrive. Finding advisers who enjoy working together to find creative solutions will bring the best results.
- How much time do we think this will take? Successful transitions of businesses over generations span decades, and in some cases, centuries. Decisions made now can affect many generations, and there is no simple answer. Rather, each family must find its own path. This journey takes time, and successful families find pleasure in the process, knowing that they are building a true and lasting legacy for their family.
The answers to the questions above will be different for each family, but families must keep asking them. Doing so will help lead to true and lasting family wealth.
Attorney Sverre David Roang is a shareholder at Whyte Hirschboeck Dudek S.C. in Milwaukee.