The role of the board in family business strategy

John L Ward is the Co-Director of the Center for Family Enterprises at Kellogg Graduate School of Management (USA) and the Wild Group Professor of Family Business at IMD (Switzerland). He serves on the boards of four family companies in Europe and the USA.

The best strategies in family companies are sound for both their business and their ownership. When boards successfully link these two realms, family businesses can often leverage significant strategic advantages over other companies

The realm of business is dynamic and unpredictable. Companies are constantly reacting to evolving markets and competition. Family businesses face the added challenge of balancing business and family issues in strategy. Business change inevitably creates stresses that impact both management and ownership interests. In this setting, the board of directors has the special role of assuring the strategic alignment of business and ownership interests.

Succession and ownership
Succession is the greatest single challenge to family business continuity due to the fact that close family ties and overlapping management and ownership interests often make objective decisions difficult. Ownership succession can disrupt family business continuity and fundamentally impact business planning in many ways. The death of a principle owner, for example, can trigger estate taxes that cause significant ownership demands on capital. Estate planning can have implications for both management and ownership succession, as controlling interests pass from one generation to the next. Typically, the number of shareholders increases with each generation and the relative size of individual ownership interests diminishes. By the third generation, management often no longer holds majority ownership and the larger share of ownership is held instead by an increasing number of minority family shareholders.

These fundamental shifts in ownership configuration can cause dramatic shifts in the financial demands of ownership. As the number and diversity of minority shareholders increases, the ownership group as a whole tends to become more conservative and income oriented. Often, there is an increasing demand for liquidity. The changing investment expectations of ownership can directly impact strategy by dictating both the amount of capital available to the business and by increasing the cost of capital. The boards of family companies need to be aware of the ways that ownership succession can impact their businesses strategically and they must assure business plans are aligned with evolving ownership goals. In growing businesses and families, it is the board that assures the ongoing strategic continuity between management and ownership.

Leveraging the board
In the early stages of family business development, boards usually have little power. The entrepreneurial founders of most businesses are usually all-powerful owner-managers and their boards fulfill an advisory function. Often, early value creation in a business is dependent upon the knowledge, concentrated authority and drive of its founder. As a family business becomes established and its founder ages, transferring this base of knowledge and authority to the company and successor leaders is often the greatest strategic challenge.

An effective advisory board at this stage can facilitate this transfer of control.  The board can help the owner-manager identify and articulate key components of their business knowledge. It can help design appropriate management struct­ures for succession and assure business continuity during the transfer of impor­tant leadership functions. Independent directors, in particular, can play a special role in these processes, as objective, experienced advisors to both the founder and their successors in ownership and management. An advisory board at this stage can help foster levels of planning that many families reflexively avoid.

Planning in the growth stages
As the family business grows, formal strategic planning becomes increasingly critical to maintaining long-term business performance. In the lifecycles of many family businesses, they naturally reach a critical size, where further market penetration is difficult or less profitable. At this stage, an effective board of directors can help a maturing business accomplish rigorous strategic reappraisal.

Typically, management does almost all of the actual planning. Managers assess the potential of different business strategies for their company. They analyse their company's internal strengths and weaknesses, and try to identify external opportunities and threats. Once a shared understanding of business potential is in place, managers identify strategic priorities and directions, and then select the particular strategies that fit their business and their market.

The board must review the strategic planning and approve management's vision and plans. The board is also responsible for assuring that management is using a well-designed process that effectively incorporates all appropriate planning elements. The board's most important work, however, is the critical assessment of management's strategic analysis and assumptions. Managers often have an intimate stake in strategic decisions and the board can ask the important questions that test the biases of management. Traditionally, the board's role is to assure that planning is fresh and rigorous, and that management's plans are appropriate and achievable. A board with independent directors can also lend objectivity to internal strategic debates and cost/benefit analyses. 

The mature family business
As family businesses enter the third and fourth generation of ownership, there is an increasing need to develop and coordinate the many levels of family business planning. As families grow larger, they often organise family governance, holding family meetings and creating family councils. Family governance serves to educate the family about the business and ownership related issues, like estate planning and family employment. Some families generate a comprehensive family continuity plan at this stage that articulates their collective vision of ownership. 

The board of directors can be a catalyst to this level of family planning, both by providing financial support for shareholder relations and by encouraging ongoing communication and consultation between the board and family governance. Independent directors can have a particularly important role in this process, by lending objectivity to the resolution of the many, complex issues that arise at this stage. Increasingly, the board must resolve issues like family management evaluation and compensation, shareholder liquidity and dividends, internal capital allocation, business continuity and contingency planning, management development and succession.

Effective boards take into account shareholder views relative to dividends, profit objectives and liquidity, and they recognise when the financial demands of the shareholder base are changing. Good boards also anticipate the effects of large estate settlements or fragmenting ownership groups. Sometimes, targeted buy-outs of dissident or disinterested shareholders are necessary; at other times, wider ownership demands for liquidity can necessitate the development of a strategy for selling the company or going public. In each of these cases, the board must assure that the strategies of the business and the ownership are aligned.

In less dramatic circumstances, the board can serve to shelter strategic business decisions from a lack of family/ownership consensus. As ownership views grow more disparate, an effective board can help the family focus on their collective, long-term interests and the strategic needs of the business. A good board will foster rigorous, business-generated strategies that create sustainable growth in shareholder value. It will also help communicate how these business strategies support the best interests of all shareholders.

New ventures, acquisitions and divestitures
Larger, older family businesses often become conglomerates, grouping a number of business units together under a single holding company. The board of a holding company has the key strategic role of managing a portfolio of businesses. Each business unit within the portfolio has its own lifecycle and strategic potential. Market segments become saturated or change; competitors can become dominant; growing cost structures can squeeze margins. Many things can happen that will make an individual business less profitable or preclude further growth. There are times when businesses need to be harvested or exited, when capital needs to be re-deployed into new market segments.

These are often difficult decisions for management. Managers, and especially family business managers, develop an attachment to their businesses, to the people who work for them, to the suppliers and the marketplaces they serve. Often, boards have to play a lead role in making difficult divestiture decisions. A good board will be sensitive to personal stakes but will also create a decision-making process driven by rigorous financial measures, with set goals and a limited turn-around timeframe.

Boards also have a key role in the final selection of acquisitions or new ventures. Managers are often enthusiastic about the prospects of an acquisition or new venture and eager to invest. The role of the board is to assure the rigorous assessment of market potential, start up or acquisition costs, and payback potential. A good board will set expected parameters for new investments in advance, including goals and objectives that are both strategic and financial. When new ventures or acquisitions are proposed, the board should question management's assumptions and assure that possible investments not only have great market potential but also fit the organisation's competencies and have a good prospect of achieving payback within a specified timeframe. 

The boards of family companies must be careful to assess not only the financial potential of a particular business but also the potential impact of a decision on family ownership and management coherency. Sometimes, the board must develop a strategy for mitigating family conflict. Trusted independent directors can sometimes play a special educational role, acting like advisors to the family, helping to explain board actions with clarity and impartiality. Often, the board must take the role of providing continuity and stability in times of change and conflict.

The board as final arbiter
In many ways, a board's ultimate role is conflict resolution. Conflict in family business often takes the form of indecision. Family forces struggle for control of decisions and resolution is often difficult to achieve. The complicated dynamic of family members in both management and ownership can make consensus agreements impossible to negotiate. In business, however, decisions need to be made and often there is no room to compromise. In these instances, it often falls to the board to make the difficult decision.

When the board acts as final arbiter, it performs an important strategic function.  Assuring the timely resolution of issues is often key to the ongoing success of a family business. Equally important is rationalising decisions and removing them from a realm of personal conflict and emotion. The boards of family companies need to be decisive, but they also need to be diplomatic. Sometimes, independent directors can help the board take on its diplomatic role by hearing out family dissidents or by being a buffer between factions. Independent directors need to be careful not to take sides in family disputes and to cultivate trust. The family is much more likely to accept decisions if they believe all sides in a dispute have been fairly heard.  In particular, the board must balance management and ownership interests, and work to assure that family issues are resolved as decisions are made.

The board can also recognise the importance of many different stakeholders to the success of the business and balance their interests in decision-making. A good board will safeguard its strategic partnerships with employees, customers, suppliers and creditors. Maintaining these relationships is vital to the business. Thus, a board must act to assure that narrow shareholder interests do not negatively impact broader stakeholder interests. A good board will recognise the strategic importance of balancing all stakeholder interests in order to leverage the greatest value from the company.

A board can also act as final arbiter in resolving disputes within management.  In many family companies, the board can help assure the appropriate career development of individuals. It can assure fair practice in reviews, compensation and advancement. It can balance the roles of family and non-family managers, and assure proper lines of authority and accountability. And in extreme cases, when necessary, the board must take responsibility for the replacement of leadership. Firing an important manager can be both the most difficult and most important strategic decision made by a board. Nothing impacts the performance of a company more than the quality of its top management. Successful family companies are run with professionalism and when leadership is not performing – whether its family leadership or not – it must be changed.

The strategic roles of the board
The boards of family companies have many roles in the development of family business strategy – they can help to facilitate transitions, clarify issues, assure proper management planning, foster sharing of information, and provide stability and continuity in times of conflict. A good board can also help to educate the family ownership about their business and their collective interests. It can foster concepts of fair practice and stewardship, and work to achieve the alignment of ownership values and business strategy, which give many family companies a strategic advantage over their competitors.  Most fundamentally, a good board can assure that the best interests of all stakeholders are well balanced and that the sustainability of the family company is assured.