There are several reasons why family businesses are worth saving. Apart from the sociological aspects of a more intimate employee atmosphere under family ownership, as opposed to a public company with professional management, one primary reason for maintaining family firms is that they are probably the best earning asset that a family will ever have.
A functioning business gives a family a rallying point and stature, all of which are dissipated in the event of a sale. Even slowish compounding of a business’ value will most likely outperform the investment averages over a period of time.
SaleOnce a family business is sold, the total amount of value or dollars which a family has working for it is reduced by capital gains tax, and then the dollars received are given to a third party money manager who will be charging a non-tax deductible fee for managing the funds and whose performance, if one is lucky, will meet the investment averages. Further losses incurred by family members after sale of the business are tax deductible perks such as insurance, business travel, company vehicles, etc. Moreover, a well connected-family that has the respect of the business community, local or otherwise, will usually find that many doors are open to family members than if they had no business relationship.
Planting SeedsLet’s look at one scenario. The family business has grown substantially and family members are just beginning to realize they are worth a considerable amount of money. Family members who are not involved in the day-to-day operation of the family business may be out leading their normal, or abnormal, lives. Many are dependent on income or dividends from the family business. They have jobs, houses, new cars, and they are meeting their payments. But gradually they realize that the business they have heard about for a good part of their lives has grown and when a friend or wife says, “Wouldn’t it be nice if shares could be sold to give us some cash for our child’s education, or buy a bigger house”, or whatever, a seed is planted.
Firm ValueAs other members of the family also realize that considerable value is present, a subtle force starts to build which may take 3, 4, or 5 years to culminate in a decision by the family member who is running the business that the liquidity desires of one or more family members have to be addressed. These are considered nuisance-type issues by the competent operating family members.
ConclusionThe family business executives are performing well, and would rather be spending their time bringing new products to market, increasing manufacturing efficiency, exhorting their sales people. Solving shareholder’s liquidity needs is a distraction, but one that at some point in the life of every family business, has to be addressed. Thus, the options for creating liquidity for shareholders which present themselves to operating family members include:
- outright sale
- going public
- leveraged recapitalization, or
- locating a compatible long-term minority.
This article has been partly extracted and modified from Kilborne, G. (1989). Achieving Liquidity in the Family Business. Proceedings of the 1989 Family Firm Institute Conference, October 4-7, Davis, California, USA.