Governance in Family Businesses

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MBA

COMPARATIVE CORPORATE GOVERNANCE^[a]

ASSIGNMENT

2015- 2016

Word Count:  2,280 (excluding references and appendix)

Table of Contents

Executive Summary        3

1. Family business - its benefits and challenges        3

Introduction        3

Definition of ‘Family Business’        4

Benefits and challenges faced by family businesses        4

2. Family business governance - its importance, governance institutions and practices        7

Definition of Corporate Governance        7

Benefits of corporate governance for family businesses        7

Essential elements of governance structure        7

Professionalizing the business        9

Conclusion        10

References        12

Executive Summary

The purpose of this assignment is to address unique governance issues faced by family businesses and to appreciate the need for essential governance structure and practices that satisfy the objective of efficiently managing family firms in modern highly globalized, constantly innovating and tightly competitive business landscape. The study begins by elucidating the distinctive characteristics of the family business^[b] and explicating its strengths and challenges it faces in contrast to its traditional non-family counterparts. It is followed by the definition of corporate governance, its advantages to family business and expounding on typical family governance structure, governance institutions and its constituent elements and understanding family member’s roles in relation to the governance. The study also highlights the importance of advisory boards and independent directors in family business governance. It also discusses the importance of professionalizing the family firms by constituting external professional management body to administer the affairs of family business. Lastly, the study emphasizes the significance of formal succession planning which forms an important component of the family governance structure. ^[c]

1. Family business - its benefits and challenges

Introduction

Family enterprises are the most common form of business entities found around the world. Family businesses take different ownership structures like sole proprietary, partnerships, privately owned or publicly held companies and come in different sizes from local small firms to multi-national large corporate conglomerates employing thousands of employees and carrying large operations across the globe. Some of the famous large family businesses are Ford Motors, Walmart, Samsung Electronics, BMW, Volkswagen and Facebook Inc. to name a few.

Definition of ‘Family Business’

“Family firms are those in which the family controls the business through involvement in ownership and management positions. Family involvement in ownership (FIO) and family involvement in management (FIM) is measured as the percentage of equity held by family members and the percentage of a firm’s managers who are also family members.” (Sciascia and Mazzola 331-345)

“If the family acts together – pooling financial, human or social capital – for the benefit of at least one but probably more businesses there is a business family.” (Seaman 182-191)

“Family Firms are those in which multiple members of the same family are involved as major owners or managers, either contemporaneously or over time.” (Miller et al. 829-858)

In simple terms, family business or firm is a business entity whether large or small, or whether public or privately held, where the controlling interest of the business entity is held by the individual founder(s) or his/her spouse, children, siblings, parents or any other close family member.^[d] In family businesses, decision-making is largely controlled by the family and business control is conceded through multiple generations of family members. ^[e]

Benefits and challenges faced by family businesses

Family businesses do not suffer from the agency problems of information asymmetry and unscrupulous conduct of managers seen in traditional non-family business entities due to the overlap of ownership and management control within the family. ^[f](Mallin, 2004). Family members are expected to act in the best interests of the family business. There is also a high degree of commitment exuded by family members in building brand loyalty due to the association of a family name to products. Family members also have a solid grounding in the business due to their interaction with the business at a very young age. Family businesses also tend to pass their family business values, knowledge and expertise to next generations of family members effectively.^[g][h] (IFC family business governance handbook, 2011). Family businesses also tend to take long-term view of its business decisions as continuity of family interest is given ^[i]paramount importance in view of building and sustaining a business for future generations. (Cadbury, 2002)

However, family businesses bring their own unique governance challenges of creating proper alignment between sometimes conflicting interests of different family members and challenges associated with running a business efficiently. The best family businesses have to manage both family and business effectively using robust governance structure and practices for their long-term survival.^[j]

Family businesses tend to have a shorter span of life ^[k]and “only 5 to 15 percent of family-owned businesses survive in the hands of the third generation of family members of its founder.^[l][m]” (Neubauer and Lank, 1998). Some of the reasons why most family business fails to stand test of time are lack of clearly defined business practices, poor HR and hiring policies relating to family member’s employment and qualifications, absence of formal governance structure like family constitution clearly outlining the rights and responsibilities of family members, absence of family assembly and/or councils to allow family members to express their views on business developments and resolve conflicts through meeting and dialogue, absence of advisory board and/or independent directors as well as absence of formal succession planning.