What is family governance?
Some wealthy families are emotionally bound together by a commonly understood legacy as well as shared vision, identity, values, and purpose. Based on these factors, the family also manages its philanthropy together as well as its wealth. Every wealthy family is different and some have no emotional or financial ties.
What are some of the unique approaches in successful family governance?
- Articulating and gaining commitment to a common understanding of the legacy, shared vision, identity, values, and purpose.
- Managing the transition from controlling founder(s) to subsequent generations. Ideally the new governance is in place in time for the founder(s) to see that it is working, and to be comfortable that the family will continue to be bound together in future.
- Resolving family differences, which are often emotional and based on different perceptions.
- Gradually revising the shared vision, identity, values, and purpose over the generations. What was appropriate 50 years ago may not be appropriate 50 years from now. Managing the desire for continuity with the need for change, which can result in passionate disagreements. The legacy is not forgotten but actually increases.
- Balancing the need for wealth growth and preservation with the desire to distribute the wealth.
- Having a family constitution, which documents: the emotional aspects of legacy and purpose; how the family makes decisions; and family policies such as employment of family members.
- Having a family council for decision-making.
- Using a family office to coordinate the family council, family holding company, family bank, family philanthropy and family investments.
- Having investment committees and operating company boards with 75% independent directors, with no affiliation or income from the family other than their directorship. The remaining 25% of directors are family members. This approach results in better long-term financial performance than the average public company. At the same time, the independent leaders should understand and commit to the spirit of the family constitution and investment policy. Thus a somewhat different selection process for these people, compared to the traditional corporate governance.
- Guiding the investment committee is the investment policy (documented in the family constitution). An illustrative example might be to limit investments to a certain geography, reflecting the family heritage.
What are the biggest challenges faced by family governance?
- The family losing its understanding and commitment to long-term vision, identity, values, and purpose. This is a challenge as the family grows in size over the generations. The family council and family office are key to helping new family members understand and commit to the non-financial legacy.
- Family conflicts can easily arise, especially with multiple branches and multiple generations. A key issue can be the decisions around growing the family’s wealth vs distributing the family’s wealth.
- The leaders find it hard to “let go”. The founder(s) may have built their wealth, based on being the decision-maker(s). But to have a successful legacy, the founder(s) should transition to, and see, a new governance model in place. The same challenges apply to the CEO of the family office (who should be a non-family member), as well as chair of the family council. Thus, the succession planning for these two roles are critical and different from what one would see in traditional corporate governance.
- The family wealth could suffer dilution or shrinkage due to high expenses, poor tax planning, or distributions to the current generation of family members. It can be difficult for individuals to defer immediate spending in order for wealth to be available for the next generation. It is key to build in the concept of “stewardship” – that the wealth is being passed onto the current generation, who must ensure that wealth is also passed onto the next generation. The stewardship also applies to all the non-financial aspects which have been identified.
- Entitlement is often an issue. Young family members may grow up with wealth and feel entitled as they become adults. The family constitution should have principles around this. As Warren Buffet said “Give each child enough money so that they can do anything, but not so much that they can do nothing”. This approach to guidance as to how parents raise their children, can be a source of family conflict.
- Intense and transparent communication with the family. If the family does not know what is happening, the family will not care. And without the emotional commitment arising from caring, the family will dissolve.
- The subsequent generations attempt to run the family and business the same way the founder did (i.e. the family makes many investment and business decisions). The founder(s) have been successful this way. The facts show that family businesses with majority of independent directors outperform the average public company (except in health care and financial services). This can be a source of family conflict when subsequent generations believe they are just as competent, if not more competent, than the founder(s).
What is the critical role of the family council?
- It is the family council that helps bind the family across generations, by emotional bonding. Trusts and other legal documents alone will not be successful in keeping the family together.
- The family council: engages the family; resolves issues (there can be angry and passionate disputes); celebrates the family; starts the education of future generations; and enables blunt discussion about the future and the policies embedded in the family constitution.
- The family council may enable a once-a-year family assembly where all members of the family come together. There, the family council provides an update as well as learns the views and preferences of the entire family. This can be an opportunity to build (or destroy) trust between the council and the family, as well as among the family.
- The family council may represent different branches of the family.
- The family council provides the legacy, emotional, and policy context for family philanthropic activities, including family foundation(s).
- The maximum size of the family council should be 15 people, ideally less than 12.
- The family council may have up to three independent members, not affiliated with the family, nor “friend of the family”.
- The family office provides the support required, and daily management of family council activities.
What is the role of family philanthropy?
- It helps bind family members, providing continuity of family values, and illustrating there is more to the family than growing and sharing wealth.
- Family members on the foundation board(s) can actively participate, and make a contribution to the family. The guidelines and policies guiding the foundation(s) are set by the family council
What is in the family constitution?
The family constitution documents:
- The values of the founder(s).
- Other values.
- What the family members can expect from the family businesses and investments.
- Employment policy regarding family members in family businesses.
- The governance structure, e.g. family assembly, family council, etc.
There can be additional policy documents, approved by the council, but not part of the constitution e.g. investment policy, philanthropy guideline.
The family constitution should be signed by each family member.
The greatest legacy for the founder(s) is to be able to see that memory, legacy and values will carry on through a family which remains joined. Family governance is critical to this.
To enable discussion with your family, family council, and family office, download the following one-page slide.