When decisions in family business revolve around financing the business and the "family capital" as investments, it raises a question of balancing return against risk. A general principle is that risk increases if a higher return is sought. In order to achieve a high and rapid return, people are prepared to take large (or larger) risks. On the other hand, investors who look for safe investments should be satisfied with a lower return.
At the heart of such decisions is the motivation of the financier or the group of family financiers who are invested together in the long run. Very often, business families are insufficiently aware/conscious of their own motivations as financiers of the business. More so, when it involves a large and diverse set of family units as the owners group, a clear "owner strategy" along with well-defined goals become imperative to mitigate risks.
The owner strategy should be set in motion through an "owners council" which helps them to understand how shared ownership impacts shareholders, family, and the business itself. It doesn't replace the corporate board or family council, although it can be a committee of the family council if there are no non-family owners.
The owners council articulates its vision for the company which includes growth and profitability targets, distribution targets, values for operating the business etc. The council expresses this collective vision to the corporate board and the board must also in turn communicate to shareholders what is possible, realistic, and required to achieve that vision. This creates a healthy forum for company strategy development and the process encourages realistic expectations about what it takes to meet the owners' goals/expectations, thereby reducing the potential for conflict and facilitating timely decision making in the boardroom.
The Owner Strategy Triangle: Balancing Growth, Liquidity & Control
The triangle represents the inherent tension between (1) the need to control ownership of the business, (2) need to invest in the future of the business to remain competitive and (3) the need to provide family business owners adequate liquidity to meet their personal financial needs.
Let's consider the scenario - the family managers working in the business want to retain as much capital in the business as possible in order to fund growth or launch new products & services to deal with competition. However, the family shareholders who don't work in the business might feel that majority of their wealth & personal security are tied up in the business and thus prefer higher dividends. This is a classic case of growth and liquidity paradox which cannot be solved but only needs to be actively managed. It involves a trade-off between the roles being served by the family members as managers or owners, and sometimes both.
According to the authors of the HBR Family Business Handbook, owners might pursue only one of these goals or sometimes a mix of these three. Most often, a two-goal approach is adopted by family firms.
Growth and control - Owners who value growth tend to sacrifice high dividends while being able to retain control over the firm. Outside equity is taken up on a very limited basis.
Growth and liquidity - If both are being valued then that firm is focused on expansion of the business and also focused on higher payouts to shareholders. In such a scenario, the business depends upon external financing like debt or equity or a mix of both which can significantly threaten the loss of control by family if not managed well.
Liquidity and control - If liquidity and control is an important expectation of the family owners, then there is a need to compromise on the pace of growth & lower the ambitions of business expansion. This can pose a significant risk to the business making it vulnerable to heavy losses in a highly competitive and disruptive business environment.
Therefore, it is important for family owners to remain highly engaged and informed about the business (even if they don't work in the business). In addition, it is also important for the owners council to frequently align on their collective goals to prevent future conflicts or make uninformed choices.
Over time, as family businesses move to the third generation and beyond (cousins' consortium), when there are numerous family members who are not active in the business, the family and the business need to focus on planning for liquidity in advance of a shareholder's need and put in place proper governance procedures allowing for financial transparency and non-active shareholders' involvement (such as a seat on the board).
Financing Transitions: Managing Capital and Liquidity in the Family Business by Francois de Visscher, Craig Aronoff and John Ward (2011).
Ownership Strategy: The Foundation of Every Family Business (FFI Practitioner, December 1, 2020)
Harvard Business Review Family Business Handbook by Josh Baron and Rob Lachenauer (26 January 2021)