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Insights into Comparative Corporate Governance of Family Businesses

The information in this work should be used for educational and
knowledge purposes only.
The disclosure of this work is an effort of the author to help MBA students and managers/business people interested in business academic topics to enriching their knowledge or help them in their everyday management practices.
The author is not responsible for any copying or plagiarism that may result out of it, nor for any third party use of this information nor for any action taken by any user of this work.

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Insights into Comparative Corporate Governance of Family Businesses

  1. 1. Insights into Comparative Corporate Governance of Family Businesses By: Omar Qaise, MBA
  2. 2. Disclaimer: The information in this work should be used for educational and knowledge purposes only. The disclosure of this work is an effort of the author to help MBA students and managers/business people interested in business academic topics to enriching their knowledge or help them in their everyday management practices. The author is not responsible for any copying or plagiarism that may result out of it, nor for any third party use of this information nor for any action taken by any user of this work.
  3. 3. 1- Introduction: Family-owned businesses are very successful. A recent study [1] indicated that about 42 companies listed, as family owned businesses on the London Stock Exchange had a better performance of about 40 % than their non-family rivals by in the period of examined (1999-2005). However, this success is only achievable when the interests of management and shareholders are aligned. Family-owned companies over the long term perform better than others [2]; this is cemented by the superior returns and higher profitability than fragmented-shareholders structure companies. The factors that lead to this success include commitment and focused strategy in the market. Also due to the harmony and alignment between senior management, employees, and investors with their interests and objectives. The culture developed in family-owned business creates also a type of emotional connection between the company members. However, as companies grow and become difficult to manage in a fierce competitive market, introducing corporate governance in family-owned business becomes challenging. 2- Challenges of Family Business Governance: Family owned business may be seen as threat or an opportunity, and that varies according to many elements. The family commitment and ownership of the business may be seen as adding value, provided that the company and the family can address the concerns of the clients and investors. There is along history of family-owned corporates running into bad practices of abusing the shareholders’ rights. This leads investors to examine with great care such companies to assess the associated risk before taking the plunge and investing. Problems like poor transparency, absence of accountability and fairness principles, and high concentration of ownership can result in ignoring minority shareholder rights. It is important to have the right corporate governance conditions because this is the key to provide assurances to investors and increase the probability of a successful and sustainable business. The following points represents some of the main issues that face family-owned business corporate governance: 1- Relationship Management Layer
  4. 4. One of the main challenges in family business governance is that the owning/controlling family has an additional relationship layer in the company structure. Shareholders see this as adding complexity to how to understand the various connections and relationships between the family members. These roles include one or more of the following: Family member owners, directors, managers, employees, extended family members as shareholders, or family members who combine all those roles together. Usually, the founders in the first generation manage the family-owned business (or sometimes in the in the second). These businesses often face the challenge of filling management positions by attracting good specialists and talent. This gets more difficult when trying to retain such qualified professionals. A well- functioning management team requires careful crafting of the relationship between external professionals and family managers because this what leads the company to success. The same applies to the relations between non-family investors and the family shareholders. It is the primary role of non-family external investors to set up the family business’ governance. The views of these parties are becoming close due to the globalization of the economy and the appearance of global investors. 2- Fairness Of course, the first thing that comes to people’s mind when talking about family- owned businesses is that family members get to keep the greatest shares of the company, even if that means stepping into other minor shareholders rights. Despite the fact that there are measures and tools to control this type of behavior. The problem extends to the fact that family-owned business do not adopt best practices in the labor market to preserve their minor shareholders rights and benefits. For example, some companies were offering employees low wages, below the market price and employing young people to avoid high costs. These companies were also avoiding worker unions and their guidelines in salary and benefits distribution. Pressure could mount in these companies to follow work union guidelines; some employees (especially the new ones) could organize themselves and join work unions. They may succeed or fail to reach the required legal number. 3- Succession Plan: Succession plan are two simple words but can be very difficult to achieve successfully in a family-owned business, let alone in a normal business. This is similar to succession plan problems in political societies: when the leader dies, the next generation may pull in different directions and everything may fall apart. It can happen that the founder/leader possess the necessary skills and motivation that his family successors may not share. This can lead to disastrous results if direct succession is planned. The leader should realize the organization is bigger than the individual. It has its own processes, plans, and people and it lives independently from individual family members.
  5. 5. 4- Resistance to Change: Shifts in market, technology, and regulations require a degree of flexibility and change. These shifts if not addressed internally in the company strategy, policy, and structure can have fata effects on the business. It is a bit challenging to introduce change in a family owned business compared to a non-family business. This is due to the fact that family members and leaders have followed certain processes and practices over many years and these methods proved to be successful. Unless the family is open to external consulting and opinions, it will be hard to convince the members who have their own rules to change them and their way of thinking. 5- Communication: Communication can be subjective instead of begin objective among family members and other shareholders, or even among themselves. Because the family ties, relationships, and emotions are involved in the communication, this can lead to conflicts or miscommunication in the organization. 3- Suggestions to Improve Governance in Family-Owned Businesses: There are multiple benefits of family ownership and companies focus on these and supplementing them with corporate governance structures and processes to foster growth and enhance their competitiveness in the market. However, when implementing these rules, companies face challenges. Any solution to solve these issues should take into account the mechanisms to: 1- Separation among control, ownership, and management 2- Set up boundaries between family and company’s account, even physically by setting up separate offices. 3- Prepare succession plans by fostering the skills and knowledge by training them to be responsible business leaders. The decision-making processes are different. It is one thing to decide on a family matter and another thing to decide on a business related issue. More often, the two things overlap creating mistrust among investors and shareholders. Therefore it is important to have family board that is in complete separation in its function from the board of directors and shareholders of the company. It is true that not all governance solutions will succeed 100% in achieving their goals, but instituting the decision making process is still important. Discussions related to family issues (like how much equity should ach member receive), should be handled in the family board. Conflicts arise among family owners who are managing the business and those who are passive receiving only benefits such as dividends. Those have limit access to information and control over the company,
  6. 6. and this creates mistrust that could spill into the board of directors. Ensuring a separate and protected board of directors and management teams is the key to keeping peace in the company. Since some external family members have different interests and agendas, open communication between them and the family board is essential to resolve conflicts. For example, many family-owned businesses set up special committees or liquidity funds to redeem passive family members shares if they want to, and also to control the redemption process. In case there are external investors, how can governance guarantee that those investors are treated fairly? They may have different roles and visions and may not align with the family owners about certain topics. Moreover, they have limited access to company information, less than the management and non- management family members. A good solution here is to reinforce the role of the board of directors to mediate the flow of information between external investors and management. Having independent directors in the board that do belong to neither the family nor the management can be very helpful. These directors will have a good oversight on all shareholders and can ensure transparent treatment of everyone. We have mentioned that drafting a succession plan in a family-owned business could be challenging. However by following these steps in the governance process, the risk of failure could be minimized: 1- By analyzing the company structure and comparing roles and responsibilities with similar companies, a clear view of senior management distribution is identified. 2- Based on current and future business operation needs, a new structure can be designed with the targeted senior management roles clearly defined. 3- A comparison between the new structure and the existing one could reveal where senior management skills and expertise lie. 4- Change of senior management according to the new plan. 5- Decision making process should not be tied to managers connected to family members but rather it should be based on roles and responsibilities. Decentralization of the decision-making process on many levels is required. 6- Human Resources policies of family employment should be very clear and transparent; it should be also communicated to all business family members. 7- Training and development of family members who will take over senior management in the future is important 8- Incentive plans to mangers should be transparent and awarded according to their performance, not their private ties to family members.
  7. 7. 4- Conclusion: Family-owned businesses could be very successful and lucrative to investors due to many factors, such as long-term focus on business strategy, alignment between management and different shareholder, and the core-activities focus. However, there are many challenges associated with implementing successful corporate governance in these companies that make investors, and managers, and employees skeptic about these businesses. However when these challenges are addressed correctly, then governance become as effective as in a non-family business and all shareholders can reap the benefits of the family-owned business. References: [1] POUTZIOURIS, P. Z. (2004). Views of family companies on venture capital: empirical evidence from the UK small to medium-size enterprising economy. Family Business Review, 14, n. 3, pp. 277-291 [2] Credit Suisse Family Index, 2010.

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The information in this work should be used for educational and knowledge purposes only. The disclosure of this work is an effort of the author to help MBA students and managers/business people interested in business academic topics to enriching their knowledge or help them in their everyday management practices. The author is not responsible for any copying or plagiarism that may result out of it, nor for any third party use of this information nor for any action taken by any user of this work.

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