Avoiding Conflicts in the Business Family
By Wayne Rivers
If you work with someone eight hours a day it’s only natural that there are going to be rubs and tensions which develop in the working relationship. The strains are highlighted when you have to sit across the table from them for Sunday lunch. One of the biggest problems facing successful family firms is conflict within the business family. It causes not only disruption in the business, but hard feelings within the family. The best way to deal with potential conflict is to anticipate and avoid it rather than having to work on resolving problems after they arise.
Who Should Own Stock?
Let’s look at some potential issues which can create conflict in the business family. Perhaps the first is who should own stock in a family owned or closely held business? The first and most obvious answer is family members who are employees of the firm. Should all employee family members own stock equally?
Should the child working on the loading dock be an equal owner with one who is managing the sales department or another who’s CEO of the company? Is there a difference between blood equity and sweat equity? Should non-employee family members own stock in the company? While there are exceptions to every policy, it is generally good advice that those members who are not employed by the business should not own stock. This avoids many potential conflicts. Suppose that two children receive equal distributions of stock from their parents’ estates. One manages the family firm and works 50-60 hours a week, while the other is married to a college professor and lives out-of-state. The very profitable S-corporation is creating annual distributions of $200,000 a year to each shareholder. When the time comes that the company needs to borrow a large amount of money to purchase new equipment, a majority vote will be required by the bank. Imagine the discussion between the two shareholders. The first question from the out-of-state sibling is “what will this do to my annual distribution?” The inactive sibling is not likely to vote for such an arrangement if it will reduce distributions - the company is deadlocked.
How about non-family employees owning stock? Many successful family enterprises feel debts of gratitude to faithful, long-term employees who helped the business achieve success. In some instances there is a notion that these employees should be rewarded with stock in the company. Think about the potential conflicts that could be created from such a gift. What does the employee really have? Stock in a closely held enterprise is difficult, if not impossible, to value and sell. What happens if this employee becomes disenchanted with management? Or if the employee is divorced, goes bankrupt, or is disabled? What happens when the employee decides to retire or dies? Where does the money come from to redeem the stock? Can the employee pass it along to his/her heirs? Further, if there are multiple shareholders, the non-family employee could become the swing vote in a potential conflict situation. Can you imagine the distress this would cause?
Should outsiders own stock? Sometimes family business owners prefer to pay board members in stock rather than cash. Sometimes there is a desire to secure customer relationships by awarding stock to large potential customers. While these might be appealing, the best advice is to avoid any such issuance of stock if at all possible. Ownership of stock in a closely held business brings with it enormous responsibilities, but also enormous opportunities for mischief.
Perhaps no other topic has been as widely discussed and misunderstood as succession. According to a University of Connecticut survey of 800 recently failed family businesses, lack of succession planning is the #2 reason why family firms fail. A 1996 survey by The Family Business Institute, Inc., indicated that 51% of all family business owners believe they have a written succession plan. However, when quizzed thoroughly, these owners believed that the division of stock in their wills was, in fact, a succession plan. This is not so. Current ownership and leadership must understand that passing the torch is perhaps the most important job they will have in a successful family enterprise.
To fully appreciate the emotions involved in such an issue, one must understand the positions of the family members involved. Current leadership and ownership looks at the business as a child - perhaps their first born child. Going into the business every day is like a visit to the scene of their greatest triumph. They’re financially dependent upon the business, as up to 65% of their assets are tied up in the stock or real estate of the firm.
How does the younger generation feel? The first question they want answered is “who will be the prize pig?” They want to know who’ll be chosen as the next leader of the company. If they’re not chosen, they want to know what will be their career path. Repeatedly, they say they get tired of warming up and never being put into the game.
Here is an example of the frustration that can occur. A 91 year old father who was still active in the business ruled with an iron fist. He owned all the stock and made all the decisions. His 65 year old son was active in the business but was frustrated beyond belief. When dad was asked when he was going to start turning over the stock and management in the company, he replied that his son wasn’t ready yet. At what age did he expect his son to become ready? Ultimately, the son took a walk and dad had to liquidate the company at a reduced value. This wasn’t what either one wanted.
We recently wrote an article titled, “12 Steps to an Effective Succession Plan.” If you would like a copy of this article please send a request with your business card and a copy will be mailed promptly.
Children In The Business
Having children in the business can be both the most rewarding and most frustrating experience in a parent’s life. The child may be the star employee, but to Mom and Dad will always be a child. To the child, not only are Mom and Dad parents, they are also bosses. One of the most stressful and potentially conflicting relationships in family businesses involves getting Dad’s blessing and approval. Children go about getting it in many different ways.
Having two or more children in the business adds to the fun. Sibling rivalries which started in childhood continue and are often played out inside the business. This can be disruptive, dangerous and damaging. Often Mom and Dad are forced to be referees, roles they prefer not to play. If children do not learn cooperation instead of competition, the business can suffer and so can family relationships. The issue of compensation to family members is always one of potential conflict. Family members are generally paid either too much or too little. Compensation is often used to enforce discipline. In many instances father never earned a lot in early years and wants to teach children the value of working hard, thrift and sacrifice. A true life example can illustrate the potential problems. An 83 year old father worth $10 million has a 59 year old son in business with him. The son has seven children, two of them in college. Dad believes that $500 a week is a generous salary, so his son is supporting seven children and paying tuition payments on $26,000 a year. Everyone in town knows the old man is rich. The son is extremely resentful and cannot communicate with dad. Instead of rejoicing and enjoying the success that they’ve earned, family members' relationships are severely torn.
The compensation issue is a double edged sword. When family members are paid too much and given fancy job titles without corresponding responsibility, they know it’s a sham and so do other employees in the business. Another illustration: Dad wants to keep his son from creating trouble, yet he wants to keep him around in the event that the son is needed to take over. So he pays him an extravagant salary and gives him a big job title. The son knows he’s not earning his keep and is also sure that he can’t earn this amount outside the family firm. He begins to question his self worth. This overpayment of salary acts as imprisonment or “golden handcuffs.” It is not unusual to see resultant alcoholism, drug abuse, or other feelings of insecurity being played out both in the business and in the family.
Fair vs. Equal
When considering distribution of assets, this question can often cause intense strains between husbands and wives as well as parents and children. It started on Christmas Eve. If one child got a candy bar in his/her stocking, so did all the rest. If one received a bicycle, so did all of them. If mom and dad helped one to buy a car, you can be sure the others received the same assistance. They've raised their children with a mindset that they will be treated equally. Sometimes this can’t be accomplished when distributing assets, particularly when most of them are tied up in family owned companies. Mom and Dad want to treat the children equally, but since most agree that non-employee children shouldn't receive stock in the company, it’s difficult to accomplish. A legitimate question is whether or not $1.00 worth of assets in marketable securities equals $1.00 worth of assets in a closely held company. Most would say they don’t. The real issue is not fair and equal tre ATM ent of the children but rather fair and equitable tre ATM ent.
Wayne Rivers is the president of The Family Business Institute, Inc. FBI’s mission is to deliver interpersonal, operational and financial solutions to help family and closely-held businesses achieve breakthrough success.