Who would describe their family business as a social welfare state? Not many. Although I’ve been called by some families in tears, fearing this is exactly what they had created, it is certainly not the norm. However, upon a closer look many families may find they have traded business value for family involvement.
While some families are sophisticated and have formal compensation policies for family members (in addition to other policies regarding how and if a family member earns the right to work in the business), most, in my experience, do not. What I often find is that family members are compensated higher than a more experienced outside professional would be – sometimes much higher. In these cases, profit is reduced and money to invest back in the business is eaten up to pay more than the market warrants. Also, the potential for business growth that would be driven by a more experienced professional is sacrificed. In these situations, it does in fact sound more like a welfare state.
This may sound harsh considering that I make my living helping families be successful across generations. But the fact is that it is essential to take family development seriously in and out of the business. Families need to decide under what conditions a family member can enter the business and how compensation will be determined (e.g., market prices? family member premium?). For families that choose merit-based entrance and promotion, market-based compensation makes sense. And by taking seriously the development of family members who choose not to enter the business, families can help them find work they are passionate about rather than having them end up in the business as a disappointing default.
What is the Lesson?
Enterprising Families: By taking development seriously (in AND out of the business) you will help promote family members who grow and contribute to their endeavors wherever they may be. You will also free up cash for retirement for hard working founders, to build the business, or for family enjoyment.
Advisors to Enterprising Families: Once again you are in a key role when it comes to helping your family clients understand the complex interplay between business and family. Ask how compensation is handled, educate about policies in this area and help these families understand whether their businesses are efficient machines or bloated welfare states (or even, as many are, somewhere in between.)