family business planning

How to Prepare the Next Generation to Run the Family Business

by Liz Kislik

Summary .   

Statistics on family-owned and -operated businesses show that although as many as one-third of family businesses transition to second-generation leadership, in the last five years, that number has dropped to only 19% . According to a 2021 Family Business Survey by PWC, in the U.S., “only one-third have a robust, documented, and communicated succession plan in place…[and] globally, only 24% of family businesses are focused on next-gen involvement.”

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Adam J. Brinkley

Business planning, building a family enterprise that lasts.

While creating a successful family business is an exceptional achievement on its own, many founders wish to help ensure future generations can build on this success and continue to generate wealth for their families.

However, that’s often easier said than done, however.

In keeping with the adage “from shirt sleeves to shirt sleeves in three generations,” many affluent families fail to maintain their business and preserve their wealth beyond the founder’s great-grandchildren.

For many families, a major obstacle is failure to adequately plan for the future: Some don’t identify and nurture family talent or properly reinvest capital. Or they’re too slow to make necessary business changes. In some cases, their mission and goals may be unclear or inflexible.

Fortunately, there is a path to multigenerational prosperity. When families takes steps such as establishing shared goals, diversifying their business’ revenues and prioritizing the education of future generations , it can help to ensure both the future success of the enterprise and an enduring legacy for the founders.

“A successful family enterprise isn’t just the business itself. It includes all other ways in which the family builds value and connects, such as a family council, a family foundation, a family office, and all the assets and activities the family does in some form of collaboration. It includes the individuals who make up all aspects of the family enterprise—their motivations, talents, aspirations and common mission,” says Andrew Hier, Partner and Senior Advisor at Cambridge Family Enterprise Group (CFEG), a family enterprise advisory and education firm. “Successfully pairing all of these elements together takes careful planning and time.”

Here are six key priorities:

Establish a shared mission.

Family unity is the cornerstone of a lasting family enterprise because it allows for smart decision-making around the longevity of the business. It facilitates the family to move in the same direction in support of the same goals, which leads to smart decision-making around the longevity of the business. It can also lead to an understanding of the family’s shared mission and core values as it pertains to the business and the family itself.

Defining a shared mission takes work and can involve multiple discussions with family members, but the efforts often pay off by giving families a stronger sense of identity and holding them together through change. Some families document their mission and values through a “family constitution,” which is a written document of the family’s core values, mission, vision, agreements, and policies about how they will treat one another and what they own together. Some family constitutions also insert corporate documents such as the business strategy and structure.

Implement family governance.

Family governance is a framework for family direction and decision-making based on a shared mission and goals, and it is often separate from the operating businesses. Some families may hold a Family Assembly or regular meetings during which family members learn and plan for the future. A family-council working group can help propose policies on matters such as family employment, family unity, family communication, and talent development. Some families create a separate ownership council, composed of some or all of the family business owners, to align on what the owners want for the family enterprise, including guiding principles on direction, risk management, capital allocation, and dividend policy.

Evaluate the next generation.

Each member of a family has a unique set of skills and interests. It’s important to identify roles for different family members that capitalize on their own passions and strengths, with the intention of aligning their interests with those of the business.

Establish a process to evaluate the next generation of leadership and ownership using an assessment that measures qualifications, skillsets and interests. Then, use those assessments to map out development plans. Some may work in the family business; some may occupy other roles in the larger family enterprise. Remember, there are many roles—shareholders, board members, philanthropic leaders, wealth creators, wealth oversight, governance members, family council leaders—and there should be a place for everyone who wants to participate and prepare themselves.

Prioritize education and communication.

To create a business that succeeds from generation to generation, the next generation has to be excited about it. Cultivate interest and a sense of accountability for business decisions and share information about the family business and investments. Teach younger generations the family history, values and basic leadership and ownership skills.

“If you want to create a business that succeeds from generation to generation, you have to allow the next generation to become excited about what you’re doing and help them become qualified to contribute,” Hier says. Some families set up an education committee to direct learning and keep family members motivated.

Hier says a successful multigenerational families develop their family identity and culture as learning families, ensuring that each generation acquires the critical skills and understandings necessary to become good stewards of all aspects of the family enterprise. “These families prioritize learning together as an ongoing, life-long activity."

Think about how to diversify the business.

Families may want to consider how the strengths of the current business may apply to other sectors or industries that show potential for growth over time and that align with the family’s values, skills and interests.

Take, for example, a prominent family whose business originates in news publishing in markets with many automotive advertisers. From there, the business can successfully expand into content curation and product research for the auto industry, ultimately becoming a leader in those areas as well. Such thoughtful diversification into related lines of business can be key to the longevity of the family enterprise.

Make a succession plan.

Families that plan to transfer a business to heirs should consider what a successful transition of ownership, governance and management will look like for the next generations. For the family member(s) currently owning and/or running the business, this process may include important financial and ownership decisions around:

• Gifting equity to children—either outright or in a trust—in a tax-efficient manner
• Bequeathing equity at death, with an eye toward addressing any family conflicts that may arise based on shared ownership
• Ensuring there is sufficient liquidity to pay estate taxes after you pass

There are also non-financial decisions to make when planning for succession in a family enterprise, such as:

• The role of the family in the organization
• The leadership model and governance structures that will fit the next generation’s skills and the evolution of the family enterprise
• The process of gradually transferring responsibilities and authority as milestones are met

Creating and maintaining a family enterprise that lasts across the generations of your family can, in some ways, be as challenging as building the original business itself. A Morgan Stanley Financial Advisor or Private Wealth Advisor can help you identify strategies to maximize investment opportunities, tax considerations, and succession planning.

A Private Wealth Advisor can also help you evaluate longevity in consideration to selling your business. Many business owners measure their family’s success by how long they’ve been in business, as opposed to growth or profitability. In some cases, a family could be best served by selling a business and pivoting to another venture. It’s important to evaluate if exploring other options is right for your business. Having a supportive team of stakeholders, including your family and wealth advisors, can help you consider the right option for the business.

Hier spoke alongside Morgan Stanley thought leaders about successful family enterprises at a Private Wealth Management event for business owners in Philadelphia.

Disclosures:

This material has been prepared for informational purposes only. It does not provide individually tailored investment advice. It has been prepared without regard to the individual financial circumstances and objectives of persons who receive it. Morgan Stanley Smith Barney LLC (“Morgan Stanley”) recommends that investors independently evaluate particular investments and strategies, and encourages investors to seek the advice of a Morgan Stanley Financial Advisor. The appropriateness of a particular investment or strategy will depend on an investor’s individual circumstances and objectives.

The views and opinions expressed herein do not necessarily reflect the views of Morgan Stanley Wealth Management or its affiliates. All opinions are subject to change without notice. Neither the information provided nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. Past performance is no guarantee of future results.

Morgan Stanley Wealth Management is a business of Morgan Stanley Smith Barney LLC.

Morgan Stanley Smith Barney LLC (“Morgan Stanley”), its affiliates and Morgan Stanley Financial Advisors and Private Wealth Advisors do not provide tax or legal advice. Clients should consult their tax advisor for matters involving taxation and tax planning and their attorney for matters involving trust and estate planning, charitable giving, philanthropic planning and other legal matters.

© 2023 Morgan Stanley Smith Barney LLC, Member SIPC .

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Family Business Articles Family Business Succession: 15 Guidelines

Family Business Succession: 15 Guidelines

By John L. Ward , Stephen L. McClure

Succession is the most painful and critical time for family businesses. Less than one-third of family businesses survive into the second generation, and only about 13 percent make it into the third generation.

How do the successful ones make it? After working with hundreds of family businesses, we’d like to offer 15 guidelines that we hope will help you during the succession process.

1. Succession is a process not an event Rather than thinking of succession as an event that happens on a designated day, consider thinking of it as a process that occurs over a long period of time. Parents should begin to lay the groundwork for succession while their children are still small. How? By the way in which they talk about the business at home.

As the classic story goes, the business owner comes home from a typical day at the shop and complains that three key people quit, a customer didn’t pay his bill, the suppliers sent the wrong order again, and the bank is threatening to jerk the loan. Then, he turns to his son or daughter and says, Someday, this will all be yours.

Of course the truth of the matter is that most people who are in business for themselves love it, or they wouldn’t be doing it. However, the tendency is to talk more about the bad events than the good ones. But making a conscious effort to present a balanced perspective on the family business can help the next generation gain a better understanding and appreciation for the business.

2. Present the business as an option not an obligation Many, many parents hope that their children will want to follow in their footsteps and join the family business. But some fall into the trap of overselling the need to follow the family tradition. Others never bring up the subject because they don’t want to pressure their children. The key is to present it as an opportunity, not as an obligation.

How? We encourage parents to tell 15- or 16-year-old children, Whatever you choose to do with your life, we will support and encourage you. It’s probably too soon for you to know now what you want to do. If you should become interested in the family business, you will be very welcome. We have found it to be very rewarding and very fulfilling, but it’s clearly not the easiest way to live or the only way to live. It’s one of your many options and we will support and encourage you no matter what you decide.

That’s a conversation that rarely, if ever, takes place in a family business. But we think it’s very important to extend a non-conditional offer of support during the child’s high school years because it is very healthy for the son or daughter to think in terms of options.

Speaking of sons and daughters, beware of making assumptions on the basis of your children’s gender. In terms of interest and capabilities, both sons and daughters can contribute to your firm’s success.

3. Get outside experience Of the hundreds and hundreds of family business successors we’ve interviewed, all who have had outside experience said that they recommend it highly.

Why should your child work for someone else after finishing school? There are many good reasons why outside work experience is an advantage. Your sons or daughters can build their own identity, get outside knowledge, increase their self-confidence, bring back knowledge to the business, grow up a little bit, make mistakes on someone else’s time, find out what it is like to look for a job, discover what their market value is and learn how to take criticism. But the best reason is that this is how they will learn that the grass isn’t greener on the other side of the fence. They will learn that there is no such thing as a perfect boss or a perfect business.

If we can make only one recommendation to young people, it is to work for someone else for three to five years.

But what if that isn’t possible? What if the daughter is 32 years old and is now vice-president of marketing? Or, what if the business is small and they need a family member on sweat equity just to survive?

Then we try to find out other ways for that son or daughter to get the same sense of reality and outside perspective. Sometimes that means getting involved with their trade association or with other sons or daughters of another family business or with a community service group.

For many parents, however, it’s hard to believe that their children will want to come back, after working somewhere else. But the odds are better than two to one that they will come back, because magnetism to the family business generally increases with age.

4. Hire into an existing job It’s very important to hire your son or daughter into an existing, meaningful, defined job. Why? You will know how much to pay and what to expect. The rest of your staff will know how your child fits into the office hierarchy and how to treat him or her.

Often family businesses hire their children into ill-defined jobs and say, Because you’re family, you can do anything that needs to be done around here. We wear a lot of hats and now you do, too. But then you open the door to resentment on the part of the rest of the staff. Sometimes, employees doubt that the second generation is qualified to lead the company. Don’t set your son or daughter up for failure by giving him or her an overwhelming but undefined job. Instead, create a situation where progress can be measured.

5. Encourage the development of complementary skills After the next generation has entered the business, encourage the development of skills that are complementary to your own. Why? Your own skills are probably well ingrained into the business by now. If the parents are super salespeople, then the children are going to need to bring some operations or information system skills to the business. If the parent generation adhered to the philosophy of make it and invent it, then the next generation is probably going to have to know what the terms market segmentation and break-even analysis mean.

Is it easy to accept the fact that your child can improve or add to your business? No. You have to be a very secure person to be open to this type of action from your own child. But consider the alternative: would your business be better off having a second generation who brings nothing and can only try to duplicate everything you have done?

There is a cartoon that shows a son saying, Dad, sales are up 200 percent, production costs are down, and we’re on the cover of Business Week. The father says, Yes, and your shoelace is untied. It’s hard to recognize and praise our children’s professional achievements.

6. Teach the foundations One of the most valuable things the parent generation can give the next generation is an understanding of the historical, cultural and strategic foundations of the business. It’s very useful for the children to be aware of the firm’s underpinnings of the underlying principles that hold the enterprise together.

Even though you, the business founder, have lived the business, you may not be able to take a step back and identify your strategies. You may be too close to it all. If that is the case, let your child learn from a key employee who is able to explain why you do the things you do, as well as how you do the things you do. For example, instead of just showing your son or daughter how to treat your customers, the key employee will explain how the customer service policy evolved and what advantages the current policy has.

7. Start with mentors We always recommend that when the children enter the business, they should work for a mentor rather than with the parent.

The mentor should be the most valuable, loyal, secure, and long-lasting employee. That person should be your alter ego, the one who does all of the things that you don’t like to do.

When you set this arrangement up, you should have a conversation with the mentor that goes something like this: I would like Karen to work with you because she can learn a lot from you. But I know what will happen in three to five years. You two will clash. It won’t be anybody’s fault it’s just inevitable that she will want to do something on her own. The moment that happens, the mentoring relationship will end, and I will move her into the next step of the plan that I have in mind for her. It’s very important to clarify all of this and set it up right from the start.

We would like to add a word of caution here. Even if you have always made it clear that you intend to keep your business in the family, you may have an employee who believes that he or she is better and more qualified and rightfully deserves the opportunity to lead the company. Could it be that the employee may attempt to undermine your successor’s efforts? Be aware that this possibility exists. Be clear, keep your eyes open, and don’t let an unpleasant situation build up. You may have to offer the employee two options: recognize the successor’s role, or leave the company.

8. Designate an area of responsibility What is the next step of your plan? Give your son or daughter his or her own area of responsibility. It should be well defined. It could be a certain department. It could be handling the advertising. It could be managing personnel. As your child gains in experience and competency, increase the number of areas of responsibility. By giving pieces of the business, you will be working toward a smooth succession.

The model that we encourage you to have in mind when you think about succession is the track relay race. One runner has the baton, and the other runner has to catch up, take the baton, and continue the race. Your business will pass to the next generation much more smoothly if that second generation is running at full speed right next to you. It should be an exchange that is almost imperceptible.

9. Develop a rationale I’ve just described the ideal transfer. But what if somebody breaks stride or stumbles? Lots of things could happen.

As a matter of fact, the transfer zone is usually a very painful period. The parent may go through a grieving period as he or she says goodbye to the business. But the son or daughter has pain also. He or she may have the most pain.

Maybe there is a disagreement over money. Maybe it is over power. Maybe the founder is not entirely convinced that the successor is ready. How do you make it through this period?

You, the founder, and the successor could both benefit from forming a rationale or a statement that says why all this is worth it to you. When things are particularly painful and you are wondering why you are going through this, you can tell yourself, It’s difficult now, but it’s worth it because For example, after thinking things through, you may conclude, It’s worth it because we employ a lot of people, and I’m proud to be part of this business. Sorting out your feelings will help you though this difficult time.

10. Recognize that you are not alone We have found that it often helps families to know that they are not alone. All families face the same difficult issues such as How should we value the business? and Should the founder keep a title like Chairman of the Board? Somehow, it helps to know that these issues are difficult for everyone who tries to settle them.

It can also help to know that the way in which family members respond to the issues is fairly predictable. In many cases, mothers are overprotective, and fathers think they are invincible. Rather than blaming your oldest son for being too hard driving and too achievement oriented, consider the fact that almost all first born children are like that. Rather than blaming your youngest child for not taking the business seriously, consider the fact that the baby of the family almost never takes anything too seriously.

Rather than thinking that your family members have personality problems, recognize that it is very natural for the people involved to feel the way they do.

Because conflicts are universal, you can learn from other people who have gone through them. That’s why we generally recommend joining family-business forums or support groups. Not only will you be able to see how other people resolve their problems, you will also see that you may not be as bad off as you had previously thought. There is almost always someone who is in a worse situation.

11. Have family meetings Of course, good communication among your own family members is essential. Sometimes productive communication occurs spontaneously, and sometimes you need to plan for it.

At a family meeting, the whole family gets together to discuss an important matter. Sometimes it is best to hold these meetings at an outside neutral location, such as a resort or a restaurant; sometimes it is best to sit around the kitchen table.

How do you begin? You may wish to start by selecting a topic and moderator. We usually recommend, however, that you keep things informal and relaxed so that everyone can participate comfortably.

The benefits of these meetings typically include a greater feeling of unity (or team building), a clearer understanding of the issues, and a better understanding of the family’s range of perspectives.

12. Plan, plan, plan Long before the succession should take place, we encourage the founder to write a business plan, an estate plan and a succession plan all at once. We always know that we’re asking for the near-impossible, but we do it anyway because it works. You need to write these plans at the same time because they influence each other.

This is not, however, a do-it-yourself project. Help from your accountant, your attorney, and someone who has knowledge of organizational development is critical. Your job is to bring these experts together and develop the plans that can guide you through the succession period.

We’re not going to tell you that it will be easy. We’re not going to tell you that you will be able to do it quickly. But the long-range benefits of this approach cannot be overstated.

13. Create an advisory board We recommend advisory boards to all small businesses. Why? They are an extremely valuable sustaining resource. The board should include the type of people mentioned above (lawyer, accountant, and organizational specialist) and at least one other person from your industry whom you respect. Often, the business owner will offer the board members an honorarium instead of a salary. If liability issues are a concern, you can call the board a council. In any case, you will benefit from group discussions of important issues.

14. Set a date As you go through the planning process you will be able to determine a realistic and financially advisable termination date. When your plans are concluded, you should know exactly when the leadership evolution process will be complete and you should be ready to hand your business over to the next generation. It is essential that you are fully committed to that date, that your staff is aware of the plan, and that your successor can depend on you to follow through with it.

We have emphasized many times that succession is a process. Choosing a retirement date, preparing your successor, preparing your business for transition, and preparing yourself for a different sort of life are all important components of that process.

15. Let go Why do so many founders at the end of the transition process say, Well, I was wrong. We are not going to be able to complete the transition this year after all? Or, even worse, why do so many decide that they want to come back to the business two or three years after they left if for good?

It is hard to let go of responsibility. It is hard to let go of authority. But it is even harder to let go of control.

A psychiatrist can give you a lot of explanations about why this is true. Letting go is a very complex and difficult process that should not be underestimated. We’re sure you know many business founders who are in their 60s who do not want to leave the business because they are afraid of giving up their identity, they don’t know what they’re going to do with their time, and they know three people who died the day after they retired.

But we would like to offer an additional explanation for why letting go can be difficult for entrepreneurs. If you are tied financially to the business, it will be almost impossible for you to let go of it.

One of the central goals that you should have while writing your business plan, estate plan and succession plan is to create financial security that has no ties to the business. You need to be financially independent. And if you aren’t, you won’t be able to resist the temptation of interfering with the business.

Conclusion Perpetuating a family business is the ultimate management challenge. We’re convinced, however, that you can increase your chances for success if you believe that succession is a process that may take fifteen or twenty years to complete. Fortunately, there has recently been a sharp increase in the number of resources (books, journals, support groups, and conferences) that have been developed to help you. We hope that you will take advantage of the support, plan ahead, be candid with your family and staff, and successfully transfer your business to the next generation. Good luck!

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