Are You an Owner by Choice?
By Craig Aronoff and John Ward
Except for business founders, most family business owners don't choose to become owners. Ownership usually comes to them via inheritance or as a gift.
It is critically important, however, that remaining an owner be a matter of choice. A family business deserves owners who want to be owners, not owners who are forced to be. Nothing could be worse for a business than having uncommitted, unhappy owners. Yet many miserable shareholders continue as owners because the price of not being one is just too high or because they see no way out. And in many family businesses, there isn't one.
Ownership as a Trap
Owners who want to be owners do so for a variety of reasons. They say, Being an owner helps me feel connected to the family. This is part of my legacy. I'm a steward, too, and it's part of my responsibility to carry this business on. Or, I like the financial returns. Some also think that ownership offers them unofficial rights, such as the right to employment in the business or a seat on the board. Obviously, owners don't want to give up what they perceive as benefits.
Nevertheless, some of what may seem to be benefits can be traps. It's not healthy, for example, when ownership is the only thing or the main thing that makes an individual feel connected to the family. When asked why they don't sell their stock, some people say, Because that would cut me off from the family. So they stay owners when they would rather not.
Unofficial entitlements, such as providing owners with employment or the prestige of being on the board or other perks just because they are owners, are inappropriate and something we discourage. They're not good for the business and probably not good for the family either.
Staying an owner because you like the dividends is fine for an investor, but it doesn't qualify you as a good and effective family business owner. It is better, perhaps, to sell your shares to a family member who would really care about being an owner and invest your proceeds somewhere else.
Providing an Exit
We encourage business-owning families to provide shareholders with the opportunity to make a graceful exit from ownership. The only way to make ownership truly voluntary is to give owners the option of getting out, and that requires the family to have some kind of redemption policy.
Many families avoid creating redemption policies under the questionable notion that they want owners to stay owners forever. They fear the harm that can come to a business when the demands for redemption that are placed on it at any one time become too great for it to handle.
That's a legitimate fear, but it's one that can be managed through a carefully crafted policy that balances the needs of people who want to cash in their shares with the need of the business for capital. Such a policy is likely to state that redemption can occur, but that it can only occur under certain circumstances such as when a given amount of money is available. It might specify that redemption can occur when capitalization exceeds a certain amount, or it might provide that a certain percentage of profit will be set aside each year in a pool that will be available for redemptions.
Creating a redemption policy is not a do-it-yourself project. Such policies are complicated from the perspective of tax and securities law, and they get you and other owners into discussions of difficult issues, such as the value of shares, shareholder or buy-sell agreements and the like. You will need the help of your lawyer and your accountant in drafting a redemption policy. And again, two other volumes in the Family Business Leadership Series will be helpful: Financing Transitions: Managing Capital and Liquidity in the Family Business and Developing Family Business Policies: Your Guide to the Future. The latter, for example, offers a detailed discussion of shareholder agreements.
What if you're an owner who is unhappy with the way the business is being managed? Well, there are best practices that unhappy owners can follow.
We suggest to unhappy owners that they are acting responsibly when they (1) are educated about the issues on which they disagree; (2) put the collective interest ahead of their individual interests; and (3) go through proper channels, bringing up issues with the family council or council of elders and speaking up at shareholders meetings. It can be damaging to the family and to the business to air one's disaffection to the media with the hope of bringing about change, and we don't advise doing so.
What if, from your point of view, you've done all the right and responsible things and there is no change? First, you can attempt to pull together a significant group of owners who share your views and express them to the board of directors. As a last resort, you can sell your stock. As any good owner knows, it will be hard to stay effective as an owner of a business when you are so dismayed with the way it is being run. Selling when you really want to be a good owner, however, is a very difficult choice to make.
A business-owning family needs not only to provide opportunities for financial liquidity for owners but also to provide them with emotional liquidity. By that, we mean families ought not to confuse ownership of the business with membership in the family. When an individual chooses not to be an owner any longer, he should not be made to feel that he's a disgrace to the family, that he is betraying others or that Great Grandfather is turning over in his grave. A graceful exit means that a family member should be able to depart ownership with dignity and without being judged by others. It also means assuring people that although they are no longer a part of the business, they are still an important, valued and welcome part of the family.
A side benefit of providing owners with opportunities for exit is that doing so contributes to their independence. It enables them to make important decisions about their own lives.
The most important benefit to the business, however, is that it helps ensure a caring, active, committed ownership group. It provides an opportunity for weeding out indifferent or unhappy owners and replacing them with owners who will give the business the support it needs to prosper.