The Relationship Between Family Governance and Corporate Governance

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Synopsis

Family controlled businesses comprise a majority of businesses in virtually every world country.

A great deal of family business literature addresses family governance (Business Family Governance). However, that literature seldom focuses on two important things relative to Business Family Governance and Corporate Governance:

  1. Whether the two governances should be weighted equally in a Family Business
  2. The typical different weighting of emotional intelligence and intellectual intelligence that comes into play in each of the two types of governance.

This article postulates:

  1. That in a Family Business system Business Family Governance and Corporate Governance are in the first instance inter-dependent.
  2. That said, to maximize both business and business transition success Business Family Governance must operate such that its interference with implementation and ongoing execution of Corporate Governance excellence is minimized.

Family, Business Family, Family Business, Business Family Governance and Corporate Governance defined

Search the internet and you will be told that in most countries between 70% – 90% of all businesses are family owned or controlled. By any measure family businesses collectively represent a significant percentage of world and country-specific GDP.

There is extensive and growing literature dealing with Family Business, Family Business Governance and Corporate Governance. However, there is a dearth of literature defining what is meant by the term “Family” in the context of what is generally referred to in the literature simply as “Family Governance”.

In this commentary:

  1. Family means all the descendants of a common ancestor including both legitimate and illegitimate children, and children legally adopted by those descendants.
  2. Family Business means a business owned or controlled by members of a Family.
  3. Business Family means members of a Family that own, or who may become owners, of Family Business.
  4. Business Family Governance means the mechanisms and processes by which the collective efforts of a Business Family are agreed and overseen in the context of Family Business.
  5. Corporate Governance means the mechanisms and processes by which a company is controlled and directed, including the specification of the rights and responsibilities of company stakeholders.

Intellectual and emotional intelligence

Decisions that are over-influenced by application of emotional intelligence often result in compromise not conducive to maximizing business and business transition success.

An understanding of and consistent, clear and proper messaging with respect to:

  1. the difference between,
  2. the application of, and
  3. the management of

emotional and intellectual intelligence will go a long way to enable workable and not excessive compromise.

Emotional intelligence can be defined as a measurement of a person’s ability to:

  1. correctly measure their own emotional make-up and that of others.
  2. discriminate among different emotions.
  3. define different emotions in an appropriate manner.
  4. employ their emotional self-assessment in their thinking and behavior.
  5. interactively use their own emotional assessment and their emotional assessment of themselves and others to facilitate thinking and influence the behavior of other individuals and groups.

Intellectual intelligence is quite a different thing from emotional intelligence, although it can be argued that emotional intelligence is a subset of intellectual intelligence.

Intellectual intelligence can be broadly defined as the ability to perceive, retain, and apply new and previously acquired information and knowledge to address, understand and solve issues or problems. Importantly, and in the context of both business planning and family business transition planning, intellectual intelligence speaks to a person’s ability to learn, comprehend and reason in order to best strategize, plan and execute.

Family business: compromise from arm’s length principles

While typically it is not boldly stated in family business literature, compromises from arm’s length principles invariably are made family businesses. Often those compromises result in significant deviation from good Corporate Governance. In my experience such compromises occur with greater frequency earlier in extended generational business transition than they do later. I believe that in part this is because good corporate governance and business size typically go hand in hand. This because as businesses grow Corporate Governance and its execution become an ever larger Board and management focal point.

Broadly, my experience suggests that:

  1. Greater compromises tend to be made in family businesses between the first generation and second generations into the third generation.
  2. During an after the third generation ownership focus increases on implementation of arm’s length corporate governance practices.

I believe my observations in this regard go some long distance to explaining why broadly quoted statistics suggest that 30% of family businesses transition to the 2nd generation, that 12% transition to the 3rd generation, and that only 3% of family businesses transition into the fourth generation and possibly beyond.

Good corporate governance dictates many things that business family decisions often overrule, importantly including:

  1. who gets hired for what positions in the face of arm’s length education, prior experience, and ability qualifications.
  2. failure to insist on arm’s length equivalent accountability for family member executives and managers.
  3. failure to adhere to arm’s length compensation practices for family members.
  4. failure to insist on arm’s length executive and management retention practices for family members.

This where it is difficult, if not impossible, for many family members to be completely or even largely objective when it comes to family business ownership and management issues.

Corporate governance

Corporate Governance #3 - 123RF

Corporate governance is a term used to refer to the mechanisms and processes by which a company is controlled and directed, including the specification of the rights and responsibilities of company stakeholders – being the shareholders, directors, managers, employees, regulators, creditors, professional advisors and others.

Broadly, a Corporate Governance system:

  1. consists of rules, practices and processes that establishes, monitors, and to the extent possible ensures the achievement of a company’s objectives.
  2. sets out the rules and procedures for making decisions important to corporate affairs.
  3. identifies the distribution of rights and responsibilities among company stakeholders.

As such, Corporate Governance includes (among other things) ongoing monitoring of a company’s strategy, business plans, and forecasting while ensuring:

  1. the company’s going concern viability.
  2. an appropriate balancing of all stakeholder interests.
  3. that the company’s ongoing legal and regulatory compliances are met.
  4. competent management, including approving management controls and setting and monitoring management objectives and achievement.

Business family governance

Governance Structure

Business Family Governance is a term used to refer to the mechanisms and processes by which business family members interact in the context of the family business. Broadly, a Business Family Governance system consists of rules, practices and processes that establishes, monitors, and to the extent possible ensures the achievement of harmonious interaction among business family members in the contexts of:

  1. business family meetings held to ensure business family members are kept up to date on family business activities, results and prospects.
  2. the family business in the contexts of ownership direction through its election of the Board of Directors of that business.
  3. management of other jointly held business assets and investments through a self-administered Family Office, or a multi-family Family Office managed by persons independent of the business family.
  4. management of joint business family philanthropic activities.

Depending on the size of the Family Business and the number of Business Family members, Business Family Governance may result in a business family establishing a Family Council and specific-function Family Committees, each comprised of a “workable number” of appointed or elected Business Family members.

Business Family Governance and Corporate Governance are Siamese twins

18933846 - siamese twins

So to the important question: How are Business Family Governance and Family Business Corporate Governance properly prioritized?

I suspect many transition advisors would say the two are equally important. However, consider:

  1. How family relationships outside the business and individual Business Family member emotional IQ – intelligence IQ respective make-ups bear on how Business Family members behave when discussing the business and their respective roles in the business.
  2. The degree to which arm’s length Corporate Governance principles are compromised in any given Business Family/Family Business
  3. How committed to Corporate Governance excellence are each of the Business Family
  4. And the list goes on.

I believe this makes any conversation about Business Family Governance potentially subject to over-generalization, and potentially dangerous in the context of ongoing business and generational business transition success.

That doesn’t mean a Business Family Governance system should not be discussed and implemented in a Family Business environment. However, in my opinion it does mean:

  1. A cookie-cutter approach to Business Family Governance may cause more problems than it resolves.
  2. Any Business Family Governance decisions that are significantly inconsistent with good Corporate Governance should be clearly identified as such, and be reconsidered before being implemented.

Conclusion

Cart before Horse

Good Business Family Governance is essential to both Family Business and generational business transition success. Enabling business decisions resulting from poor Business Family Governance that do not conform with good Corporate Governance standards almost certainly will militate against the success of both Family Business and generational business transition.

Think of the Family Business as a horse, and the Business Family as the cart. Everyone knows that if the cart is put before the horse that is negative to both energy expenditure and “staying on the cart path”. My experience dictates that good Corporate Governance must override poor Business Family Governance. Hence my teeter-totter has Corporate Governance on the heavier end of that particular balance bar.

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Ian R. Campbell FCPA FCBV

Ian R. Campbell is a Canadian business valuation and transition expert. He is the author of several Business Valuation texts and of 50 Hurdles: Business Transition Simplified. The Canadian Institute of Chartered Business Valuators recognizes his contribution to the Canadian Business Valuation Profession through the annual The Ian R. Campbell Research Initiative.

He curates economic and business news relevant to business transition and valuation filtered from world media sources. He writes, with other contributors, The Business Transition and Valuation Review newsletter for business owners and their advisors.

You can reach him by email at icampbell@ircpost.com, or by telephone at 905 274 0610.

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