The Emotional vs Profitability Considerations In Family Businesses

Within family businesses, many business difficulties stem from issues originating within the family unrelated to bad business governance. Since conflicts are common, families in business should learn to resolve differences before they boil over. Keeping family members out of the business due to the emotional and family complexities that families present, will not safeguard the business. Effectively when families are estranged from their business, the opposite happens.

We all read reports of sibling rivalries that erupt into business disputes when one brother or sister disagrees with another, or one is promoted over the other. These conflicts can sometimes result in violent actions, such as when one member of the fractious Gucci family, renowned for its fashion design, got into a fistfight with another at a board meeting after being fired by his uncle.

Calmer business disagreements can also damage family relationships. Cousins in one branch of the du Pont family of Delaware were estranged for many years when they felt their cousin had unfairly used his leadership position to refinance the company for the benefit of his branch.

Too often, family members feel helpless to resolve these conflicts, or feel that their anger or hurt leaves them no option other than the actions and/ or positions that they have adopted. Other families just deny or avoid conflict, carrying their hurt feelings and resentments along with them to family meetings and into endless disagreements.

The frequency and severity of the conflict in a family business stems from the fact that family companies constitute a unique form of business. Family systems theory suggests that the journey from household to office suite is fraught with pitfalls due to the emotions involved.

The Family as a System

Psychiatrist Murray Bowen and other family systems theorists have proposed that a family can best be understood as a single integrated whole, not as a group of separate and autonomous individuals. The family, in other words, is a system – much like accountants in an accounting firm or lawyers in a law firm.

The system has its own rules and recurring patterns of behavior in relation to boundaries, informal rules, expectations, emotions, hierarchy, and communication. These scenarios are totally different from a normal business relationship and understanding these influences will position specialists to better understand the unique differences that they must face when dealing with family business clients.

The Emotions within Family Businesses

Many family disagreements tend to revolve around the issue of fairness which gives rise to different levels of emotions. Because good parents love all their children equally, childhood fosters an expectation of being treated equally in the family setting. In the absence of this perceived or expected fairness, emotions run high and conflicts arise.

Since parental attention and rewards were a precious commodity when the children were young, intricate rules would have been established within each family to ensure “proper” allocation of fairness. If any family member sees the business as violating these usually unspoken expectations, conflict will many a time arise. Yet an owner is likely to have different plans for each of his children in terms of their positions in the company, salaries and ownership shares.

If the family does not know how to bring these differences to the surface and resolve them, conflict will build and escalate over time. As it builds, people get more estranged and set in their respective positions, and minor issues are capable of triggering distractive responses.

Emotions vs Profitability In Family Businesses

The economic value of a business can be defined by the share price and the dividends owners receive. By contrast, the emotional value within family businesses is the families’ attachment to the business. It is the glue that keeps the family together in their relationship within the business. The higher the emotional value is, the higher the power of the glue.

In the first generation of a family business, emotional attachment is high because the founder has built everything. In subsequent generations, emotional attachment decreases. This occurs naturally as the business and the family grow; family members grow-up in different places, have different plans for their lives and have different involvement in the business (some are only owners, others only work in the business, whilst others are owners and working in the business and in different positions within the business structures). Therefore this natural development should be accompanied by the implementation of sound family governance, in other words a family constitution.

On the other hand, profit is simply the state or condition of yielding a financial gain in an enterprising activity after all of the expenses are paid. In a family business, profit is much more than that. It is the fuel for growth and the necessary ingredient for liquidity. It is also intensely personal, as profit may be the source of a year-end bonus for an executive, a new machine for the production team, or payment for a daughter’s education when distributed to a shareholder. In fact, profit is so personal that our very relationship to money impacts how we view profit.

How is Profitability Measured in a Family Businesses?

A critical part of achieving family understanding and alignment on profitability goals is to measure it in such a way that fosters family comprehension and acceptance. The basic measurement of profitability is fairly straightforward: revenue – expense = profit. However, measuring profit in a family business has a few nuances that must be addressed in order for it to be considered by the respective family as a reliable measuring stick useful to ownership and management decision making.

The nuances of profitability measurement relate to three fundamental expenses:

  1. Family employee compensation and benefits;
  2. Related party transactions with other family owned entities and with family members; and
  3. Philanthropic expenditures that may be made by the business.

When there is a lack of clarity and alignment on which expenses to measure, it may negatively impact the alignment on the measurement of profit. To navigate these nuances, it is helpful to have policies that manage expectations of profitability within the family – but only if these policies are applied consistently. Such policies may include a family member compensation policy for salary, variable pay, benefits, and perks; a related party transaction policy; and a philanthropic expenditure policy.

However, profit measurement alone does not provide sufficient meaning for decision making within a family firm. Putting profit into context gives it greater meaning and makes it a useful tool for stakeholder dialogue and decision making. Comparing the amount of profit to another reference point gives it meaning, such as this year’s profit compared to last year’s; actual profit as compared to budgeted profit; profit as compared to owner equity (return on equity); profit as compared to revenue (profit margin); or profit as compared to assets (return on assets). Each family business should establish the best way to put their profit measurement into context and rely on well-accepted comparisons.

In Conclusion

Research has demonstrated that family firms can achieve enormous competitive advantages and that these are inherent in the close relationships, trust and understanding between family members. The involvement of emotions within family businesses can provide a strategic advantage, particularly within collective societies due to the cultural importance of family structures. While, it is acknowledged that specific disadvantages can also result, these can be mitigated through forward planning and the development of family governance. As organisations grow they need to increase process management, governance within the family and the business and the employment of non-family managers in order to meet these increasing demands. All this is possible without destroying or disregarding the unique strengths of the family business and the resultant profits, provided that the crucial network of relationships and emotions is understood and managed effectively.

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