What does the future hold for family businesses

Has the NextGen checked out?

By Sanjiv Anand, Chairman


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Eighty percent of the world’s companies are family-owned. Almost all SME businesses are family-owned, and often even large ones. 260 of the top 500 family businesses are listed. They are generally profitable, and account for 60 percent+ of a country’s GDP. And we know most world economies are growing. So, this is all good stuff.

But here’s the catch. Data shows that the number of family business surviving for the next generation is declining. Around 30 percent of survive 2nd generation, 15 percent survive less than 3rd generation, and less than 10 percent survive 4th generation. While these number will be better in the Middle East and Asia, this still is concerning, and begs the question – has the next generation checked out?

Answering this question is not only important if you belong to a family that owns a business, but even for a professional, because unless you live on another planet there is an 80 percent chance that you work for a family business.

I figure there are 4 different kind of NextGen family “personalities” in play.

The operator

You’re lucky. Many of the NextGen are not willing to operate current traditional businesses the family has built over multiple generations. Many of these are old-school businesses they find boring! Industrials, Chemicals, Manufacturing, Pharma, Equipment – all seem to make this list. The NextGen forgets that everybody can’t be an internet or consumer startup. As long as the business is profitable and can generate future generations of family wealth, its nothing to scoff at.

So, if you have NextGen family member excited about operating the traditional family business, consider yourself blessed. Build a professional career plan that you would build for a high-performance young professional in your firm.

Firstly, understand the career goals of the family member, what are their competencies, and what excites them. There is no point being part of one’s own family business if these basic expectations aren’t addressed. Then have a senior HR professional assigned to all family members in the business so that they can track and enhance their personal and professional development.

Follow that with a customised one-year management trainee programme that rotates the family member across all key functions so a decent understanding of the overall business is developed. Check progress every quarter, and at the end of the year, do a proper assessment so that an operational role is finalised to move into. Ensure the individual is put on some strategy/operational committees as an observer – not a decision-maker.

It’s important to stretch the personal, professional, and decision-making competencies. Lastly, compensate well. My general recommendation is 30 percent to 50 percent over the market rate of an externally hired professional. It’s a small price to secure the family’s future wealth.

The entrepreneur

This is the NextGen family member who has limited patience, thinks the existing businesses are boring, values their independence, and want to chart their own path forward. OK, I guess if the family was not supportive, then how will new businesses be built, so I guess it’s fair to be supportive to this group – with some ground rules that an external investor would also expect. To start with a full business plan needs to be submitted to the family board for approval with a full investment and operational plan.

Secondly, there must be a co-pilot who is an internal successful professional or an external hire to co-run the business with the enthusiastic family member. Similar rules that a venture capitalist (VC) would apply to an investment should be applied – a PowerPoint idea should be at least moved to a proof of concept with some revenue, even if it is loss-making for the 1st two years to show that the business has potential legs. Then series A/series B kind of investment expectations should be put in place with market benchmarked targeted returns of 40 percent-60 percent IRR’s.

And lastly to have the family feel like there is some skin the game, 20 percent+ of individual equity can be assigned. The rest with the family. Here there is a compensation cut where compensation should be at market rate or up to 30 percent below market. Skin in the game is a two-way street!

The investor

This is a new career path that the NextGen seems to be carving out for themselves. No not the corner office, but the family office. They are not interested in operating anything, or for that matter building anything, but wanting to back and invest in companies. Till a few years ago, this role would not have been possible as family wealth was often managed by the group operating CFO. Then it went to a MFO (Multi-Family Office) model, and now even families with moderate wealth have their own Family Office (FO), and the young guns are keen to part of this team.

Afterall, doesn’t it feel powerful and fun to play monopoly? Well, Ok. Game on. But it’s back to the rules again, very much like a VC/PE fund would have. What is the investment thesis, what sectors, what stage, what risk, what returns, what due diligence, what processes, what timelines, what investment committee, target IRR’s, liquid or closed-end, what geographies, what exits, etc. etc. etc.

The basic operating model of any professionally run VC and PE fund. The co-pilot here needs to be a professional fund manager/investor that has run another investment fund, and who understand the value of investor money, even if it is internal. There are plenty of top business school VC/PE executive programs that the NextGen must also attend if they want to be in this business.

Here too is a compensation haircut. Remember most funds have an eight-year life after which the carry comes in to the fund managers? Well, I would give the family member 7-10 percent carry, give the fund no more than 2 percent of the investment amount to operate the fund every year, and a salary that is market rate. Most investment professional recognise that the potential lottery is in year 8, so our young family member will have to show some patience.

The chiller

This is the young family member who doesn’t want to take any responsibility but wants to enjoy all the benefits of wealth. As I sometimes say, they want to spend their life discovering themselves – unfortunately on family wealth. What do you do? Well, unfortunately there isn’t much of a fix here. You can take a horse to the water, but you can’t make them drink.

The best solution under the circumstances is to provide a monthly “paycheck” for personal expenses, and an appropriate dividend check at the end of the year. Hopefully, at some point in their life, they will wake up, face a deep personal or professional challenge that they must deal with, or find a life partner who is a good influence.

So, in the end, has the NextGen checked out? Well not really if you don’t look at it from the lens of being interested in the same operating business. It’s just that this generation has less patience, is more independent, want to do things their own way, and we have largely provided them the safety next to dream big.

Even if 70 percent of your NextGen family members pick one of the top three options and do them right, your home safe. Somebody once told me that never assume that what was the best business or career choice for you will always apply to the next generation. That time has come.

Sanjiv Anand

By
Sanjiv Anand, Chairman, Cedar Management Consulting International
Sanjiv.Anand@cedar-consulting.com

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@ Arabian Business Magazine, 2024