by Paul and David Karofsky
March 2010
Family business researchers, educators and advisors have long been touting the need to extend the role of governance to non-family members, write father-and-son team Paul and David Karofsky.
However, there are certain questions that families need to ask themselves before embarking on such a process: Whom does the governance structure in a family business serve? Is it the responsibility of those who govern to represent their own individual views or to represent the perspective of those who have elected them? And does governance focus on the immediate needs of some shareholders or the longer-term best interests of the business?
One family we’ve been talking with owns a portfolio of investment assets shared equally by seven brothers and sisters (ranging in age from 31-47), and managed by one of the siblings. Their father has aged with significant health challenges and requires multiple caretakers. The siblings are considering a two-part governance structure: a family council and an investment council.
The family council, consisting of all seven siblings, will aim to “ensure that the family maintains harmonious relationships and that the portfolio of assets is maintained and enhanced to sustain the financial needs of the aging father.”
The investment council will serve to “ensure transparency, accountability and continuity in high quality decision making based on sound business practices and family values.” It will consist of three family members (one of whom is the portfolio manager) and four non-family members with knowledge, skill and experience in traditional and alternative investments, the needs of elderly parents and governance and the dynamics of family enterprise. The outside members will be appropriately compensated and indemnified.
An additional provision helps assure objectivity and minimise the potential for conflict. Their guidelines state, “The non-family outside advisors cannot currently work for nor provide services to the immediate family.” The chair of the investment council will most likely be someone with a substantial understanding of family enterprise who will also help facilitate the processes of the family council.
This innovative pair of structures has a very good chance of minimising family conflict. Rather than putting seven siblings at risk of endangering their relationship, the family members have agreed to engage non-family experts as their advisors. While the investment council will be charged with making decisions on annual budgets and oversight of the investment management contract, it will also make decisions on the partial or entire liquidation of the portfolio, though such decisions must be confirmed by the family council.
The compelling factor in these governance structures is that the non-family council members have specific expertise in the areas that are most critical to the success of the family enterprise.
Another family we’re talking with has a more traditional governance structure. In an all too familiar situation, sibling shareholders working in the business are at odds with those not working in the business. Those working in the business are focused on legacy, growth, reinvestment, long-term returns and value, while those not working in the business are seeking distributions and dividends to meet current and anticipated family needs and lifestyle maintenance. This could be a sub-set of the lifelong question, “Does the family serve the business or does the business serve the family?”
When we turn to the governance structure of this enterprise, what is its role? Is it to serve the business or is it to serve the needs of the shareholders? While it’s reasonable to assume that family members on the board will represent their own individual positions, what is the responsibility of the non-family board members?
Non-family members serving on the board, with expertise in the critical success factors of the business, are wisely encouraging the family shareholders (all of whom sit on the board) to seek some additional support in the form of a neutral resource. The aim is to gain the in-depth perspectives of all key stakeholders and to help family members address their differing needs and wants and hopefully achieve some reconciliation of their differing desires.
In this case, the family board members are representing their own individual opinions, while the non-family board members are acting on behalf of the shareholders as a whole as opposed to the individuals who elected them. This again represents a changing dynamic of governance, where non-family members can provide a check and balance to the family member shareholders to perform their fiduciary responsibility on behalf of the enterprise as a whole as well as in the best interests of its shareholders.
Finally, there is another foible that families should take note of when reassessing their governance structures. All too often, when creating a board, senior generation shareholders tend to think of those whom they know and those who supported their individual interests and desires. In contrast, we’re seeing a desire by members of the younger generation to seek outside board members whose areas of expertise match the critical success factors of the enterprise.
