“My family name is on the door, so I’m going to be running this company someday.”
Sounds presumptive, doesn’t it? One might even say that statement could be seen as entitled. When helping families navigate transition plans, this mentality echoes throughout countless boardrooms, family rooms, kitchens, and bedrooms.
Regardless of whether it’s an owner’s children assuming they deserve to run the company or owners feeling the responsibility to have their children pick up where they leave off, there are many challenges of passing a family business to the next generation.
At Exit Consulting Group (ECG), we help companies face these challenges every day. Time and time again, the biggest, yet most neglected, question hinges on if your children are actually the right people to run your company.
The transition from Generation 1 (G1) to Generation 2 (G2) currently sees a 40% success rate. Typically, G2 grows up watching their parents start the business from nothing. Between spending summers pitching in and weekends helping out, the second generation is directly connected both emotionally and physically with the business.
This most often results in either G2 wanting to grow the company even bigger or wanting nothing to do with the entrepreneur lifestyle.
Should G2 take charge, their children (G3) grow up with a very different relationship with the company. With the family and business more financially stable, the children are not always involved with the day to day. G3 doesn’t see their parents struggle the same way G2 did.
Meanwhile, the company grows from a $500,000 company to a $15 million company, stretching the skillset of G2. The employee base triples from 50 to 150. The company develops a set organization chart equipped with a specific management structure.
At each stage of the progression, the skillset required to run the company grows. Yet the inverse happens with the children. With each passing generation, they spend less and less time working in the business or assuming authentic leadership positions.
The success rate of transitioning from G2 to G3 drops to 10%.
Undercutting Management, Deteriorating Culture, and Rewarding Bad Behavior
A common, yet damaging, practice starts with the best intentions. Many owners, particularly the more financially stable G2 and beyond, create positions for their children. While not the goal, these positions often evolve into a situation where the child is overpaid for poorly performed responsibilities.
This starts to undermine the fabric of the organization.
Successful organizations thrive on superior performance. Allowing one or more employees—if there are multiple children in the business—to underperform starts to deteriorate that culture. Or worse, you put your trusted management in a position where they cannot reprimand an underperforming team member. How can they fire the owner’s child for repeatedly not showing up on time or leaving early?
Meanwhile, the children learn that their name alone merits special treatment while reinforcing bad job habits.
Overcoming the Odds
These are only some of the challenges facing family businesses. Family dynamics, industry specific challenges, and emotions also play into the overall success.
Despite the myriad of obstacles, it doesn’t mean that the owner’s children can’t successfully run the company. In order to do so, it takes extensive planning, preparation, and often outside coaching.
At ECG, there are two main viable options we see companies successfully use to pass the business onto their children:
- Require children to work outside the company for several years before earning their way into leadership roles in the company
- Bring in coaches, management teams, or even a temporary CEO to train children in the skills necessary to effectively run a company that size
Sometimes, it’s a combination of the two. The key component is aligning children with objective leadership. As parents are notoriously unable to be objective when it comes to their own children, it’s best to look outside for that role.
Setting Your Children Up for the Future
Despite doing everything possible, some children will either not possess the skillset necessary or have zero interest in taking the company to the next level. There are options to ensure the success of the business while financially taking care of your children.
To do that, it’s important to emphasize the difference between ownership and employment.
Someone can own shares of a company without working there, depending on the structure of the company. Compensation for ownership is based on company profits.
Despite common misconceptions, ownership and employment in a company are not mutually linked. Employment comes with specific expectations, deliverables, and responsibilities for that role. Compensation is tied directly to the performance of those duties.
If children are not the right fit for either running the company or being employed by it, they can maintain ownership of their shares. The children are financially taken care of while the business has the right people in place to take it to the next level.
Setting Your Company Up for Success
Much like how parenting starts long before the struggles of the teenage years, preparing to pass a company to your children starts long before it’s time to exit.
In fact, it’s never too soon to start preparing for the future of the company.
At Exit Consulting Group, we help companies define their long-term visions for the company as well as navigating the challenges around family succession plans. Regardless if your company is working to define the first transition or to establish stock ownership options for Generations 3 or 4, we help you navigate the complexities of planning long-term for family businesses.
Contact us today to start defining the future of your business.