It seems that almost every article about family business points out the statistic that only one-in-three family businesses survive into the second generation. For those families aspiring to take their business to the 2nd generation and beyond, this fact can be very scary. Unfortunately, there is no one secret to ensure you reach the 2nd generation, and every business and family has unique features that determine what will make it successful. However, there are many things you can do to increase your likelihood of success. They can be summarized under the four Ps – philosophy, planning, people and policies.
Any business that hopes to make it beyond the first generation must decide upon their philosophy of family business. Philosophy encompasses a number of important areas that a family needs to discuss together. First and foremost – do we want to be a family business? If not, you can stop reading here. If you do aspire to continue to be a family business, there are other areas of philosophy you need to consider which include:
- Why do we want to be in business together?
- What role will the family play in the business?
- What is the mission of our business?
Once you get beyond the philosophy questions, the next step is planning. Planning in a family business occurs in the arena of family as well as business. From a business perspective, having a long-term vision for the business is crucial. A common understanding of that vision across the first and second generation will allow for a smoother transition.
One area of planning that receives a lot of attention is leadership succession planning. This is definitely an important area. But, ownership succession planning can be just as important. While some members of the family may desire to create a multi-generational family legacy, others may not want to be part of the business. Developing a funded buy-sell agreement that allows family members to sell stock back to the business or other family members is important.
Retirement/financial planning is also important. If the first generation does not amass enough assets to support retirement, the business may need to be sold. If the business has grown in value significantly, estate planning will be important as well. To make the transition to the second generation, you need an estate plan that ensures the stock of the business can be passed on to future generations without harming the cash flow of the business or the retirement of the first generation.
We cannot forget that the most important asset of the family and the business is people. To become a 2nd generation family business, you need 2nd generation family members capable of running the business, or at least overseeing the business. A leadership development protocol, which outlines the steps that to develop next generation leaders, ensures that the next generation can be effective managers and owners.
If there is more than one 2nd generation member, defining how the 2nd generation will work together is crucial. A sibling code of conduct articulates how 2nd generation members will treat each other and outlines a process for resolving conflicts, should they occur.
Whether or not family members choose to work in the business, they are often owners of the business. So, defining ownership rights and responsibilities is important as a family business moves to the 2nd generation. This document addresses questions such as whether or not all 2nd generation family members will participate in decision making relative to the business, benefit from the business financially, have a seat on the board, etc.
Policies are guidelines that outline how challenges that may face the business will be addressed. The key is to develop these policies before the challenge is faced. Similar to planning, policies fall into both the family and the business arenas.
The most crucial business policy to develop before moving into the 2nd generation is the employment policy. This policy outlines the requirements to obtain a position with the company and defines how family employees will be treated versus non-family employees.
Equally critical is a compensation policy. This policy defines how family members will be paid for employment within the business as well as service to the family. It can also address how family business-related expenses are reimbursed.
A conflict of interest policy determines what to do if family members or their spouses have a potential conflict of interest with the business. For instance, what, if any, restrictions will be made on information shared with conflicted family members?
In the family arena, another set of policies are helpful. A family decision making policy outlines who may participate in family decisions (e.g., spouses, college-age family members), what decisions will be made in the family arena, and how decisions will be made (e.g., consensus, majority).
If the family holds assets together outside the business, a policy on usage of shared family assets (e.g., vacation house, boat) can be very helpful. This policy addresses how decisions will be made concerning usage, sale or maintenance of the assets.
The Right Answer
You will notice that we have listed a number of areas that family businesses should address to successfully navigate the transition to the 2nd generation. But, we have not said anything about what the content of your planning or policies should be. There is no “correct” employment policy or leadership development protocol for a family business. The process of developing these policies is what is most important. Family members should discuss each of these areas until agreements are reached and documented.