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Dividing the Business: Fairness without Equality

What happens when you play follow the leader with two or more leaders? Invariably, the followers are left not knowing which way to go, and disputes erupt. On the other hand, when there is one distinct leader, confusion gives way to clarity. The game is preserved and the followers have a clearly defined path.

Now, we don’t wish to equate family businesses with childhood games, but the correlation is evident. When there is one clear leader, employees are better able to understand the direction in which they are heading. The business is stabilized and needless rifts and struggles of power are avoided. However, in too many instances first generation family business owners decide to pass the family business to their children in equal shares. Then let the games begin.

What family business owners contemplating their succession plan must understand is that fairness is not sameness. What is fair to the business? What is fair to the child who shows the most promise for and interest in the business? What is fair to the child who likes to keep out of the spotlight? What is fair to the employees, who deserve a solid sense of direction and a workplace free of disputes and power struggles? When we view the division of ownership in this light, it can be a bit easier to see that passing on the family business with a 50/50 split is not in the best interest of anyone, including the family and the business. When family business owners make decisions that do not meet the needs of the next generation, those owners are displaying either a disregard for or a lack of knowledge about their own children’s goals and priorities.

  • When dividing the business evenly among next-generation heirs, you run the risk of:
  • Equally divided ownership with unequally divided skills and contributions
  • Intensified rivalry, disputes and gridlock, which can result in legal battles, extra expenses and lost revenue
  • Diluted compensation packages resulting from the attempt to compensate all children equally

Instead of the 50/50 approach, consider the following regarding those who are next in line:

  • Level of activity and long-term interest in the business
  • Indispensability and in-depth knowledge of all areas of the business
  • Skill sets and experience
  • Education and training
  • Length and type of service to the family business
  • Values and philosophies that mirror those of the business or the desired direction for the business

What this boils down to is that the largest share of the business should go to the heir that will actively run the business, with the remaining shares divided among the other heirs active in the business based on their responsibilities. Those heirs who are not active in the business should hold nonvoting shares only, with the voting control remaining only with those active in the business. An alternative is to restrict all ownership shares to only active family business heirs and to gift nonbusiness assets to heirs not active in the business. These approaches help ensure that only those involved in the workings of the business can make significant decisions that affect the direction of the business – an authority essential in the leadership role.

The key takeaway is that, as you consider the future roles of your family business heirs, an understanding of those heirs, their ambitions, and their values is paramount. Do not make the mistake of assuming anything. You have the right to be proud of what you’ve built in your family business, but that doesn’t mean that all your children or other family members in the next generation wish, or are able, to make a lifelong career of it. Take the time to get to know what your children envision for their own careers and for their roles in the business. Open communication, especially listening, is key. You may also find it helpful to enlist the service of outside, unbiased advisors who can guide the family to the decision that’s not only best for the family, but best for the future of the business, too. For more on division of ownership, see our article, The Anatomy of Layered Ownership [internal link].

Contributing Sources: http://www.hawaiibusiness.com/SmallBiz/June-2009/Ask-Small-Biz/; http://www.cpa2biz.com/Content/media/PRODUCER_CONTENT/Newsletters/Articles_2012/CPA/Apr/StockFamilyBusiness.jsp

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