Strategic Planning And The Family Business
The first generation makes the fortune, the second holds it, and the third spends it. This saying is as true today for the family business as it ever was, but is there a way to beat the odds? The inevitability of the phrase comes from several root causes: The first is genetic thinning; the second has to do with economic facts; and the third involves a mismatch between individual competence and the competitive needs of the family enterprise (the "Uncle George syndrome").
During the 12 years that we have been running the Strategic Eight Planning Process in Cincinnati, Ohio, we have seen more than 300 companies participate. Almost all of them are family enterprises. This is a survey of my personal observations as it relates to the business problems of the overwhelming majority of them.
As to genetic thinning, there really is no cure. The family entrepreneur builds the firm and subsequent generations often lack the entrepreneurial spirit and/or the competence to do the right things and make the sacrifices that are necessary to keep the business thriving. Wise entrepreneurs, wanting to be secure in their retirement, will sell the firm and focus on building an estate. But recognizing these facts is another matter—emotion often clouds the intellect, and the results are quite different than the objectives.
Economic facts also interfere in a big way with the passage of generations. One problem with family firms is that too many people with the same last name attend their meetings and are paid disproportionately to their contributions. Often, for what they are being paid, you could get the best talent in the industry. Even assuming a high competence level, the hard facts are that three or four families cannot live as well as one. Passing to the second generation usually involves siblings and in-laws who have different objectives. Willingness to make the necessary sacrifices varies, yet all want to live in the style to which they have become accustomed. This can create some insurmountable problems. In order to support three "over-paid" families (instead of just one), the profits available to the new owners triple. Most family businesses we deal with are focused into niches in fragmented industries and often enjoy marginally higher profits than many of their commodity competitors simply because their customers are more willing to pay for their expertise in terms of niche knowledge and customer support.
To triple the profits creates a real dilemma, because the company will usually have to expand outside the niche into other areas. The sales volume has to go up by as much as five times to triple the profits to recognize the thinner margins from commodities and learning curve costs from unfamiliar markets and services. Problems appear—including cash to a small degree, and business complexity on a larger scale.
The challenge is almost always beyond the capabilities of the first generation, much less subsequent generations. Competition is different, customer needs are different, and the cost structure changes—few family firms are able to rationally cope. The obvious answer is to prune the family members and replace them with professionals from outside the firm. These are hard economic facts and very tough decisions. Families usually will not release control to an outsider, and the problem becomes worse instead of better, with wrecked careers and internal friction higher than it ever was.
The third cause has to do with what we call the "Uncle George Syndrome." Most of these firms have their Uncle George—the family member who has been kept in spite of his or her incompetence. Everyone recognizes it and tolerates it, and meanwhile mistakes are made, unnecessary costs are incurred, and inevitably someone on the management team has to take up the slack for Uncle George. As the company grows and as the generations proceed, more Uncle Georges come into the business, making a real mess. The company would be better off keeping Uncle George at home and sending his paycheck to him, but once again, emotion overrules reason, and the company continues to become less competitive.
The real problem, of course, is that these three causal factors happen together, not independently, and result in a non-linear impact on the firm that some are unable to recover from. The second generation is doing all it can to hold on, and after them, the third generation agrees that it just isn't worth it, breaks up what fortune is left, and spends it.
Most of our family firms successfully avoid these problems and even correct them. The solution is to first analyze the needs and objectives of the individuals on the management team and determine where they merge and diverge with the rest of the team members. From that, you can generally determine what the company has to do in terms of its objectives to meet the collective needs of the family and the firm's employees. The question is whether it can.
To determine the answer, the team needs to:
- analyze the company's position in its industry and evaluate how much room there is for growth of sales and profits under the restraint of competitive pressures;
- determine what competencies are required to meet these needs and whether this firm has those competencies and if not, where and how to get them;
- identify the detailed action steps for closing the competency gap.
This all involves thinking about the priorities of the firm. In a family firm, the closing of the competency gap and achieving priorities often have to happen at the same time if they are going to be successful. That's not easy, and it calls for dedication of purpose that some people within the firm may not be willing to make. Team decision making that involves all the critical players from the firm can be invaluable in developing the commitment and necessary dedication. Somehow, disparate egos and personalities can be woven together in these family units that seem to transcend individual needs simply because the process includes those individual needs within the organizational goals and objectives. Adding an outside board of advisors is another step in the formula for success of the family firm.
Reprinted with permission from The Family Business Report sponsored by the Goering Center at the University of Cincinnati College of Business Administration.