Rethinking the transition of the Family Business: 7 guidelines for the future

"Owning 100% of a family run business at all costs is often a strategic goal but not so when the business is not performing"
passaggio generazionale
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Unlocking growth by moving from a family owned business to a family run business is certainly a big step, the question is, is it the right one for you. What are the guidelines to follow when thinking about succession planning or the next step in business expansion?

In Italy, 65% of businesses with a turnover of more than 20 million euros are family run businesses and of these 40% are in the manufacturing sector. 23% have a Founder/CEO which is over 75 years old.

Businesses with these characteristics generally have a below average profitability performance. In addition, 18% of these businesses expect a generational shift within the next 5 years.

For businesses facing this delicate phase, in addition to formulating an urgent strategy to address the new challenges posed by the coronavirus emergency, as a priority they must also think about how to speed up the succession plan.

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When planning the succession of a business, it may happen that family members are unwilling or unable to maintain a successful and profitable family business. In these circumstances, the Founder/CEO may need to consider the option of handing that responsibility over to someone who can outside of the family.

In some cases it may seem like the only available ‘exit’ strategy is that of selling to a third party. The business can however successfully complete the generational transition without resorting to selling the business or operations such as a M&A, as long as a development plan is created taking into consideration the fundamentals of the business: family, management and ownership.

7 guidelines to consider when transitioning from a family-business to a family-owned business:

i. Distinguish the business from the family

Can a family business thrive without a family member at the helm? Can it remain a family business and retain its own family values when the CEO is not part of the family? If family members are not qualified or not motivated to lead the business, is selling the company the best course of action?

Protecting the business also means protecting the family, however it is important that individual expectations of the family members do not predominate; transparency and equal opportunities do not mean equal power and equal roles.

For a successful handover, the business will require a leadership that creates an effective decision-making process especially now where we are facing a difficult post-coronavirus economic recession. The founder in particular, will need to be steered towards slowly withdrawing from activities which require his attention in order for a handover to take place over a period of time.

When thinking about passing on the helm of the business, it is known that some founders have an almost fixated idea that all heirs have the right to a position of power in the business. Without however, considering their propensity, preparation, personal career preferences, a suitable role, studies and academic results.

When a family business is unable to decide on a suitable family successor, the first step is to meet with the family owners to clearly determine the family’s vision, goals and desires.

Sometimes, the senior generation’s dreams are not shared by the younger generation or the younger generation cannot agree amongst themselves concerning the future of the business. In some cases, when the older generation has decided to sell, the younger generation together try to convince their parents to keep the business in the family.

Whatever the case, if the business is to remain in the family, the family business owners should be firmly committed not only to a shared vision of the future but also to a shared rationale for their vision. This is usually achieved through extensive discussion among family owners and development of plans and documents to ensure ongoing mutual commitment.

Plans and documents typically include:

  • A family mission and values statement (how the business fits into family goals, and how the family values are represented by the business).
  • A shareholders agreement that includes a liquidity program for current and future owners.
  • A set of family policies that govern the relationship between the business and the family.
  • A governance process for the family members (to preserve family coherence and a process that resolves conflict between family members).
  • A commitment to maintaining a professional management and corporate governance.
ii. Apply a modern governance system

A correct governance requires a clear division between Ownership, Board of Directors, Management, Auditors and an organization chart that is effective and not only on paper. A solution could be the creation of a holding company that connects family business owners with the operating business. This helps to keep a clean divide between the business and the family.

Distinguish 4 clear areas:

  • Culture.
  • Behavior.
  • Clear communication, both internal and external, documented via corporate minutes to ensure correct interpretation.
  • Financial expertise (knowing how to access alternative sources of finance to those of bank debt, central monitoring risks and net working capital, knowing how to manage the financial resources available, fine-tuning costs and revenues).

Families who own but do not run their business, need to hone their financial skills and calibrate expectations. They should feel confident that they have an excellent board of directors at their disposal.

Business owners are the source of capital, therefore should expect a return on investment through dividends and/or capital gain. However, to be effective owners, financial goals should be discussed and agreed on in terms of expected profitability, business growth, risk, liquidity and distributions.

These financial goals, as well as goals related to corporate culture and relationships with its stakeholders (employees, customers, suppliers, communities, etc.) must be clearly communicated to the board of directors. The task of the board of directors is to hold management accountable and to help management achieve ownership goals. Choosing directors who are willing to understand family ownership goals and who bring a level of business sophistication necessary to assure accountability is a key to success.

iii. Choose the rights skills and expertise

It is crucial when choosing the executive for your business to base the choice on skills and expertise rather than trust if you want to assure that you have a solution to the so-called “digital gap”.

Italy (including the public and private sector) is fourth from the bottom of the list in Europe for digitization, with only Greece, Bulgaria, Romania behind.

In the current context, the generational transition is an important driver to speed up the digital path of the business. The chosen executive will need to be able to keep up with the industrial revolution in progress.

To survive and prosper, your family business needs the best possible executive leadership. If your plan is to continue the business with non-family leadership, your executives must be empowered, acculturated and rewarded.

Ideally, executive level non-family profiles already exists in the family business because they have been recruited, developed and rewarded. However, many businesses search for experienced leaders from outside the family using executive search firms. In general, you should activate multiple channels to conduct an executive search before making the final choice.

In addition to finding the right person or people, non-family leaders must have the opportunity to lead. This requires that the incumbent generation’s leaders let go and that all family owners offer their support. Second-guessing, intruding or unclear lines of authority and responsibility undermines leaders and renders them ineffective, impacting negatively on results.

In selecting and directing non-family leaders, it is important to be extremely clear about your family’s and your business’s values and where the boundaries lies when it comes to performance. Carefully evaluate non-family successor candidates not only for their skills and background, but also in terms of their fit with the family business culture.

The long-term element of the compensation package is also an important way to align owner and management goals. Non-family executives should have the opportunity to earn significant money, but large portions of their compensation should vary depending on predefined performance criteria.

iv. Define the specific rules for change

In other words, we need a clear plan; in Italy only 6% of business successions from founder to successors is managed by a formal project while in the United States it is 44%.

v. Prepare for the unexpected with the correct capital conditions

In other words, there needs to be flexibility towards evaluating new tools. (trusts, family pacts).

vi. Plan processes and goals

Taking into consideration that a high number of businesses fail within the first few years, taking over a business started by family members could be the easiest starting point.

Foresight is required to be able to draw up a new business plan that reflects the new generations management objectives: mission, vision, points of continuity or necessary changes.

From an Industry 4.0 perspective, the issues to focus particularly on are those related to the integration of technologies for production processes.

This would require a 5-year succession plan in which there the old generation would accompany the new without to many visible changes.

vii. Involve a third-party

If we were to assume that small is not always beautiful, financial expertise is required to produce the desired growth with the new tools that the markets are making available. However, the Italian industrial system is characterized by a high dependency on the banking system. Growth, in terms of critical mass needs to be sufficient enough to compete also in foreign markets, however this must not translate into a reduction in profit.

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