By Andrew Ratcliffe, Director of Private Client Holdings, a family office that specializes in generational wealth management.

Family businesses constitute the world’s oldest and most dominant form of business organisations. In fact, according to a white paper produced by Credit Suisse, worldwide, family enterprises represent anywhere from 80% of all businesses in developed economies to 98% of all businesses in emerging economies.

However, it is also a fact that most family businesses have a very short life span – with some 95% of family businesses not surviving the third generation of ownership. This high rate of failure among family businesses is attributed to several reasons, one of which is an attitude of entitlement found in subsequent generations.

Dubbed “affluenza”, this attitude of entitlement can become a significant challenge to multigenerational businesses. Warren Buffett is credited with a principle that aims to curtail its harmful effects on families: “Give each child enough money so that they can do anything, but not so much that they can afford to do nothing.”

An entitlement culture often emerges and expands as a family business with second- and third-generation participation, becomes successful. Call it “success breeds failure”: family members in subsequent generations have usually experienced more personal income than their parents. They may have also been receiving guaranteed income from a family trust fund. Therefore, members of the second and/or third generations naturally become more interested in living the good life and less motivated than their parents were to be entrepreneurial, work hard, lead, preserve, protect and grow the family business.

Family members infected with affluenza tend to take more out of the business each year to pay for their lifestyle choices than what they put back. They can become a detrimental source of inward-focused time-wasters who argue about things such as who gets to use which family asset next. As businesses grow, very often key decision-makers and operations managers may not be family members and yet are vital to the survival of the business.

Affluenza within a family business is often the consequence of a lack of preparation of the subsequent generations to handle the demands of a growing business and a much larger family. Family businesses can improve their odds of survival by setting the right governance structures in place and by starting the educational process of the subsequent generations as soon as possible.

Family governance

This is where the inclusion/introduction of a family governance role becomes vital. Family governance is a system of joint decision-making, most often by a board of directors, a family council and top management, which helps the owner family govern its relationship with its wealth and its enterprises. In other words, it incorporates the delicate balancing act of family, ownership and business.

It is often assisted in this mission by a family constitution that captures the family’s vision and important family values; a family employment policy setting the requirements for the employment of family members in the firm or family office; an ownership structure that allows for corporate control; and capable non-family managers who set a standard for the professional management of the family enterprise.

The desired outcome is rational economic and family welfare decisions that are not overwhelmed by traditional family dynamics.

Family governance helps a family business to manage the challenges of wealth and of succession, as well as navigating, and ultimately avoiding, the erosion of an entrepreneurial culture. It is an essential discipline for the long-term wellbeing of the family enterprise and the family’s wealth. It refers to a family’s ability to optimally discipline and control the nature of the relationship between family members and the business in such a way that the enterprise prospers.

A Family Office service, such as that offered by Private Client Holdings, will:

1. Facilitate regular meetings and information-sharing between all family members and key business managers
2. Establish solid reporting structures so that all stakeholders receive complete consolidated reporting (so that everyone is informed as to how much they are contributing or drawing from the family wealth)
3. Conduct independent audits of the business
4. Develop standard operating procedures for the family behaviour/contributions
5. Mentor future generations regarding the business
6. Provide a third-party objective opinion on business decisions
7. Maximise tax structures
8. Assist in setting up solid long-term structures within which the family and the business may prosper

Many families fail to govern the family-to-business relationship, and the impact this has on their businesses and wealth can be dire. Although there is no magical formula to achieve family unity and preservation of wealth, effective family governance is pivotal in preservation and growth of family wealth and family values.