Why do family businesses disintegrate?

Great wealth is a privilege and without a sense of stewardship and obligation, many rich descendants fall prey to ennui and boredom, failing to safeguard the family wealth or treat the business with respect

Published: 28, Nov 2017

At Terentia, the endeavor is to provide clients with a robust and holistic estate and succession plan that will seamlessly transfer the legacy from one generation to another through a mix of the best global practices and traditional values. Each service is tailor-made using technology and research and dual control has been exercised over operational processes. Under Estate Planning, Terentia helps clients to draw up Wills, set up Trusts and helps in execution of the wills. In Business Succession Planning, Terentia helps the family to hold the business equity in a structured and controlled way and also create rules, processes and systems to help the family co-exist in harmony through an arrangement called Family Constitution. The family can manage the investible assets through Family Office.

Poor succession planning is one of the major reason why 70% of the family-owned businesses fail or are sold before they are passed on to the second generation. Image: Shutterstock
Poor succession planning is one of the major reasons why 70 percent of the family-owned businesses fail or are sold off before they are passed on to the second generation. Image: Shutterstock

Poor succession planning, lack of trusted advisers, family conflict, different visions between generations, lack of financial education for children are some of the major reasons why 70 percent of the family-owned businesses fail or are sold before they are passed on to the second generation and almost 90 percent don’t make it to the third generation. Great wealth is a privilege and without a sense of stewardship and obligation, many rich descendants fall prey to ennui and boredom, failing to safeguard the family wealth or treat the business with respect which leads into disintegration of many family businesses.

One more major reason is a lack of financial education for children born into wealth. Many families fail to nurture a sense of responsibility, history, and family values in the next generation, thereby neglecting family capital of the family business. Unqualified relatives mantle positions of power simply because they are members of the founding family, this also results in disintegration of family businesses. Research into Asian family businesses has concluded that the majority of the Asian businesses fail because of the internal factors rather than the external. These internal factors include failure to plan for succession and family conflicts and the surprising fact is that these conflicts are predictable and can be planned for.

Majority Business Families Face Common Challenges In certain cases, we have seen that lack of clarity in terms of devolution which could lead to insecurity and eventually break up of family business. Now this lack of clarity can be in term of assets or in terms of business control and management. In many families we have seen that the remuneration structure is not defined. So, there is one member of the family who believes in a good life and not in contributing to the business. In this case the others may feel demotivated. Many times, we have dealt with families where there was no proper or formal communication channel to report the business activities and the developments and this lead to a lot of confusion.

In certain cases, the patriarch who is in his early or late eighties is not willing to let go off the control of the business.

How and when will the next generation learn to manage?
Complex cross holding ownership structure can lead the family into a puzzle maze. We have also seen challenges where the family members felt the patriarch had a bias or he was partial. Most of the times one has a problem with what the other has got and we call it as “Why you and not me syndrome”. For example, in a particular case, one brother was given a car called XJL (which cost probably Rs 1.80 crore) and the other brother felt poor as he was gifted a poor man’s 7 series car (which cost probably Rs 1.40 crore).

Every family is unique and face unique challenges and situations.

I think during the journey, the family fails to understand that if the business survives only then the family will survive. If they understand this basic philosophy, then most of the challenges can be managed. They need to plan to execute a family business succession plan which is an arrangement between the family members and helps strike a balance between the business and the well-being of the family. It is a combination of an estate plan and the family business plan. It would cover a combination of structures, policies and processes.

For example, in the above-mentioned case if there was car policy for the family members then there won’t be any issue or if the family had a remuneration and incentive policy for members working in the family business, then they would know  meritocracy exist at the family level as well. So it is up to the families to decide whether want to keep business in its form or allow it to disintegrate.

By Sandeep Nerlekar, CEO and MD, Terentia Consultants

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