Over the years, my associates at Generational Group and I have engaged with hundreds of family businesses.
Whether that is to explore techniques and strategies to accelerate the growth of their business or, as the title of this article suggests, guiding their journey to exiting their business, we have a long history of dealing with the often-complex dynamics involved in family-run companies.
With that in mind, I wanted to dedicate this article to the role these family dynamics play in the development and execution of exit strategies. While the longevity and consistency of a business passed from generation to generation is something many firms use as a powerful selling point, can the strength of these bonds actually be a detriment to your chances of:
- Achieving an exit on optimal terms?
- Protecting the legacy of your business long-term?
The warm reassurance of a family business…
As noted, there is something comforting for customers about a company that has seemingly been around forever. Family businesses have that backbone of reliability that really endears them to consumers.
And right now I’d like to emphasize that this article is not designed to devalue the stature of family businesses and their ability to survive and thrive for decades (or even centuries) at a time. There are many advantages to firms operating this way:
- There is typically greater longevity in leadership, which brings stability
- Having the business’s level of success tied to the prospects of the family means it is in everyone’s best interests to work hard and get behind the cause
- There is often a more long-term outlook among owners of these firms
- Family members will adopt many roles and responsibilities to support day-to-day operations, enhancing flexibility
However, these undoubted positives do have the potential to obscure the challenges associated with these organizations. The blurring of boundaries between work and home. The risk of bitter, personal conflicts. The dangers of nepotism overriding actions that are in the company’s best interests.
But, most pressing of all for the purpose of this piece, the difficulties of having frank, open dialogue over succession planning.
The inconvenient truths of passing on a company
In my experience, these family-wide discussions about exit planning are some of the biggest hurdles we as dealmakers have to work through. Especially as you add multiple family members into the mix (cousins, nephews, nieces, etc.), this can become very complicated and delicate to navigate.
Unfortunately, many people in this situation avoid having these conversations for the longest time because they are worried about how this will affect their relationships with family members. As soon as the owner(s) start to discuss their life beyond the business and how they intend to exit, these plans can quickly become a source of conflict:
- If you want to pass it on to one or multiple family members, who is responsible for what?
- Who becomes CEO or primary owner upon your departure?
- How much will you expect them to pay for the company, and in what timeframe?
These are just some of the questions that may result in some tense and potentially volatile discussions. That’s why, as dealmakers, our role is as much about family counselling and mediation as it is about knowing the M&A landscape and negotiating!
Because, the fact is that, as much as many owners relish the idea of keeping their company in the family name, particularly if they have already had the business passed down to them, there are several challenges of family business transfers that could emerge from that decision if it has not been approached in an impartial, honest way:
Your family might have interests outside of the business
Firstly, even if family members have worked in your company for a long time, it doesn’t necessarily mean they are passionate about it, its customers or its other employees. Over the years, they will have likely developed other career interests that they would like to explore, rather than be tied down to the family business.
A situation where the successors feel coerced or reluctant about taking the reins is a recipe for disaster. Without your commitment and fervor that enabled the business to get where it is today, how can the business expect to stay on the same trajectory?
Your family might not have the aptitude to take on the company
Alternatively, just because there are family members who want to take the business into the future doesn’t mean they are cut out for that role. They may have taken on several duties within the company over the years, but that doesn’t ensure that they’ve developed the skills and have the characteristics to lead a business in your industry.
This doesn’t mean they’re hopeless or incompetent – they might have exceptional skills in certain roles, and could remain a vital employee for the company’s development. But, the role of an owner carries a ton of responsibility and involves spinning a lot of plates at the same time – not everyone is cut out for it.
In addition, if you were to pass on the business to a family member that is not befitting the role, this could cause disharmony with your most experienced executives, who might have anticipated they would assume a leadership role instead. In one action, your business could find itself headed by the wrong person and with a weaker backbone than before.
Your family might not have the resources to buy you out fairly
Finally, there is the question of payment for your company, and whether that reflects its true valuation. In most situations, it is unlikely that the family member(s) that you choose to pass the company on to will not have the buying power to meet the fair market value of the company. Plus, asking them to match this value can be a major source of conflict.
So you already have to compromise on your life beyond your business by accepting a lower offer, or arranging a payment plan over the course of several years. But, if the business starts to fail under the new ownership, it could mean you never see any of the money you hoped to receive when you agreed to these scheduled payments.
As you can see, the ramifications of an inherited family business can be huge for the legacy of the company, and your own financial future. Yes, having frank, honest discussions with your loved ones about your succession plans can be hard and awkward – but the consequences of side-stepping these conversations can be even more devastating.
Why it’s better to sell to a third party
Based on the situations I’ve outlined above, I’d recommend that you only contemplate selling to a family member if:
- They have the business skills and character to run the company
- They have the financial ability to actually buy you out
- They have the credibility with your current workforce
- They have real passion for the business, its customers, and its employees
It’s hard to find family members that fulfill all criteria, which is why I advocate that exiting to a third party is often the more logical and successful approach.
Most buyers, especially in the lower middle market, are acquiring a company because they see value in its brand and its future. In order to maximize both, they will typically look to retain the family name and “family business” mentality, as well as key employees and processes, to maintain continuity.
This attitude will support the legacy and longevity of your business and its reputation in the eyes of your customers.
Furthermore, a third-party buyer or investor will be significantly more willing to present an optimal offer for the business compared to a family member. As they don’t have any personal ties to you and the company, they are more compelled to present an attractive, fair offer than somebody already within your inner circle.
Overall, this means better things for your own financial legacy, and the long-term future of your family members. You and your partners will be relieved of the financial burden of running the company and the risks associated with that, and can instead concentrate on maintaining good familial relations throughout the process and moving forward.
Partial sales – the best of both worlds?
What if some of your family members are really passionate about the company’s future, have the right aptitude for the role, but lack the capital to give you a fair offer? Rather than take a financial hit, a partial business sale might offer a mutually beneficial solution.
These are circumstances where an investor, often a private equity firm, buys out a percentage of their stock with the aim of investing in the growth of the business, while allowing the original owner to still influence this process. This is with the overarching goal of both parties getting a “second bite at the apple” in a future sale, receiving an even better offer for all sides.
This makes a partial sale ideal for many family businesses. Family members that want to stay on and help steer the company’s future can remain in ownership positions alongside the investing firm. Meanwhile, those who wish to back out and pursue their own path can cash out now, and forge their own journey knowing the legacy of the business is in safe hands.
Start having those conversations
I hope that this article has emphasized the importance of having regular, honest talks with your family members over the future of your company, and the unfortunate implications that can come from not sharing these.
Fundamentally, the exit process is one that can already be emotionally and mentally draining for all involved. To maintain your composure throughout, it is important that you have that support network of family members and trusted employees behind you, and not in conflict.
The guidance of experienced M&A professionals can play a big part in maintaining that family harmony. Our team at Generational Group has helped hundreds of business owners not only understand the process of planning and executing an exit strategy for maximum returns, but also counselled them through all the twists and turns to keep them focused on their goals.
By managing family relationships and mediating any areas of conflict, we have helped many deals recover from the brink and maintained harmony, resulting in outcomes that benefit all stakeholders in the family business.
For more in-depth articles on the influence of family dynamics on exit planning, and on the many facets of M&A in general, I’d encourage you to visit Generational’s Insight page for a treasure trove of valuable information.