Why Family Businesses Will Continue to Matter

Cal State Fullerton Center for Family BusinessSeptember 20, 2016

Quiz

What is a family business?

Perceptions…

Pathway

• Define, ground rules, disclaimers• Family business

– Advantage or disadvantage?• 5 distinct advantages • Global perspectives

– Extremophiles. • What can you do?

Why Family Businesses Will Continue to Matter

Family businesses have received an increasing amount of attention of late, and rightfully so. They dominate the global economy, from the corner store to the Fortune 300. As publicly owned corporations grow larger, as political systems grow more fragile, and as uncertainty permeates through many corners of society, family businesses will continue to play a key role in building trust and providing essential services. Exploring recent research and relevant case studies, we spend time understanding what makes family business unique, amply positioned and ultimately well suited to tackle the challenges of the coming century and how your own business compares.

Succession Checklist

Definition of a family business?

• Ownership control (>15%) by family or partnership of families

• Strategic influence by family members on the management of the firm

• Concern for family relationships• The dream (or possibility) of continuity across

generations Poza, 2007

Family Business Research• Two watershed events played key roles in turning the

study of family business into a field:– The publication of a special issue of the journal Organizational Dynamics in 1977– The launching of a specialized journal, Family Business Review, in 1986

• Still, between 1975 and the early 1990s, most of the published work on family businesses was anecdotal, rooted in the stories of consultants and observers of these mostly privately held enterprises

• Only in the past decade has research begun to struggle with this definition of the family business and address the unique characteristics of this form of enterprise

What we do know• In their first 5 years of operation, approximately 85% of

entrepreneurial and family-owned companies disappear • Among those that survive, only 30% are successfully

transferred to the second generation of the founding-family owners

• Only 12% survive under current ownership to the third generation

• Only 3% of all family businesses survive into the fourth generation level and beyond.

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Family Business MortalityMany reasons why businesses don’t continue from one generation to the next

1st Gen 2nd Gen 3rd Gen 4th Gen

100

75

50

25

0

• Sale of the business• Loss of family interest• Unpredictable challenges• Industry changes• Missed opportunities• Mismanagement• Succession problems• Family conflict• Family norms challenge business

norms

Publicly traded any better?

Of 25,000 publicly traded companies from 1950 – 2009, the AVERAGE LIFE SPAN WAS 15 YEARS

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Evidence shows family companies outperform public companies

Founder-stage family firms are 19% more valuable than non-family firms3.

Family businesses generate higher… • annual shareholder return• annual revenue growth• income growth• return on assets

…than non-family firms4.

Family businesses employ 50-60% of the workforce in

industrialized countries2.

Publicly traded family firms significantly outperform non-family firms in earnings and

stock performance: 5.5% more profitable

6.65% better return on assets1.

Family-run companies are valued

10% higher by the stock market than

non-family companies1.

1 Anderson, Ronald and David M. Reeb, Founding family ownership and firm performance: Evidence from the S&P 500, Journal of Finance, June 2003, vol. 58, no. 32 Financial Times, Family companies are ready for the worst, October 30, 20013 Amit, Raphael and Belén Villalonga, How do family ownership, management and control affect firm value? Evidence from the Fortune 500, 2004, working paper4 BusinessWeek, Family, Inc., November 10, 2003

5 Distinct Advantages• Values • Patience• Governance• Entrepreneurship • Trust

Values

The easiest money to earn is the money we haven’t spent

We have a simple rule, we do not spend more than we earn

People think we are rich and courageous, but in fact we are cowardly

This feels like I am coaching my son’s Little League team

If one sector suffers a downturn, businesses in othersectors can generate funds

We accepted that we’d lose money in the US for 20 years

When a problem hits, they can act immediately as a team – on thathas been there before

Patience

Family Business Longevity• Kongo Gumi (578 to 2007)

– Hoshi (Japan 718) – Chateau de Goulaine (France,1000)– Barone Ricasoli (Italy, 1141)– Baravier &Toso (Italy, 1295)– Hotel Pilgrim Haus (Germany, 1304)– Zildjian (Constantanople, Newton, 1623)

• Family businesses represent 80% + globally • Studies indicate that on average family businesses outperform

non-family businesses in terms of ROA, ROE, market value creation, as well as other measures of performance (Anderson R., & Reeb, D., Founding Family Ownership and Firm Performance: Evidence from the S&P 500. Journal of Finance, 58(3) 1301-1328)

• Mittelstand• Not just a freak show

Many years ago, as a young chemist working in the company’s lab, Samuel Curtis Johnson III, now-deceased chairman of SC Johnson: A Family Company, tried to convince his father that he had the formula for a breakthrough product, an insecticide. Reports are that several attempts at convincing his father of the soundness of the idea were rebuffed with a simple “Remember son, we are a wax company.” Samuel Curtis continued to perform his assigned job faithfully at the lab and carry out his “skunk works” project on the side. He also continued to bring up his idea and advocate its merits in subsequent meetings with his father, only to receive the same admonition. Finally, young Samuel Curtis reportedly added a tiny amount of wax as an inert ingredient to his formulation for the insecticide. When he once again took the new product, now part of the wax family of products, to his father, it received the go-ahead; after all, the insecticide was now wax based.

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Poza, 2010. Family Business 3e, South Western Page 103)

Governance

O M F G

Distinguishing family businesses from non-family businesses

CONTROL & INFLUENCEHow?

Through OMFG

combination of Ownership, Management, Family & Governance

Source: 2014 EY Family Business Survey

Tagiuri & Davis (1982)

Board of Directors or Board of Advisors

Ownership

BusinessFamily

Family CouncilCompany

Management

Annual Shareholder Meeting

Shareholder Council

Maybe too much?

Entrepreneurship

Entrepreneurial Resources Provided by the Family

Ernst & Young Coming Home or Breaking Free 2011

Knowledge about how to lead a business

Provision of contracts

Introduction to networks

Coaching/mentoring related to entrepreneurial activities

Industry-specific knoweldge

Physical resources (infrastructure, facilities)

Favorable and negotiable conditions (debt and equity capital)

Equity Capital

Access to distribution channels

Debt Capital

No Family BusinessFamily Business

Transgenerational entrepreneurship

“…the processes through which a family uses and develops entrepreneurial mindsets and family influenced resources and capabilities to create new streams of entrepreneurial, financial and social value across generations…”

Habbershon & Pistrui, 2002; Nordqvist & Zellweger, 2010

Family Entrepreneurship

Business Family

Family Business

Business Family

Family Business

Family Business Focus(Current View)

Entrepreneurial Venture 1

Family Business 2

Entrepreneurial Venture 2

Social, Political, Community and other Activities

Family Entrepreneurship All Entrepreneurial Activity

Trust

Why family business? • 77% of all new business ventures established in

the United States are founded with significant involvement of the family in the business.

• The public views small business as most trust-worthy when it comes to spending efficiency. Federal government is viewed as least efficient.

• 73% people say they trust a family business, however, that number tends to decline after an ownership transition.

GLOBAL Report on Family Businesses • Large numbers & contributors to jobs / economy / society

– Latin America / India: 90-98% – US / Germany / Spain: 80-90%– China: 90%

• Large, Medium, Small size– Think Wal-Mart, Ford Motor Co. and S.G. Johnson

• Out-perform non-family enterprises – Especially in the first generation– Second generation some do, some do not.

70% would like to pass their business to next generation BUT next gen is not always interested OR

capable OR prepared to work in the founder’s business – WHY?

Source: Babson STEP Project

More global impact

• Around 85% of $1 billion-plus businesses in South-East Asia are family-run

• ~ 75% in Latin America• ~ 67% in India• ~ 65% in the Middle East • ~ 40% in China • ~ 35% Sub-Saharan Africa

Family business in China• 40,000 family/private business• 60% GDP• 90% employment

• Approaching succession, but….– < 8% have transferred successfully thus far– > 65%% do not even wish to be in founders

business

Extremophiles?

• Say What? “Family businesses that have successfully adapted their internal systems and external activities to the emergences of an extreme environment.”

• So What? Much of the world’s future wealth will come from “higher-risk “economies. Economic volatility is quickly becoming the new normal.

Why do family businesses make natural extremophiles?

• Investments extend beyond high risk episode• Skilled at tactical triage AND strategic planning• Strong ties to a city, country or region, which

often pre-date the current episode• Robust social networks• Creating and exploiting pockets of “trust” and

stability• Necessity is the mother of invention

Not so gloomy• Families are able to positively affect the

resource inventory and usage of their firms (Arregle, Hitt, Sirmon, & Very, 2007; Habbershon & Williams, 1999)

• Apply a long-term perspective allowing for unique strategic positioning (Zellweger, 2007)

• Have less agency problems and higher firm values (Anderson & Reeb, 2003)

• Drive new entrepreneurial activity (Kellermanns & Eddleston, 2006; Nordqvist & Melin, 2010)

Take heed• Reasons for failure to sustain family wealth:

– 60% lack of trust– 25% lack of education & prep– 3% lack of financial / tax planning

"For empires to fall, all they need to do is exist." – Voltaire

Building Family Businesses That Last

• Building a family business so that it continues takes ongoing dialogue across generations of owner-managers about their vision for the company

• Family businesses that have been built to last recognize the tension between preserving and protecting the core of what has made the business successful on the one hand and promoting growth and adaptation to changing competitive dynamics on the other

The ultimate aim of ANY business is…

VALUE CREATION!

“If there is one piece of advice we would give to all family firms dealing with succession, it is: communicate.”

Chrisman, Chua & Sharma

One Word

Succession Checklist

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