Thursday, July 4, 2013

Why Family Owned Businesses Are More Sustainable Than We Think

Few weeks back I read a book by Devdutt Pattanaik where he touches the debate between family owned businesses and the, now more acceptable, professionally run businesses where we do not necessarily have an owner but instead a CEO who can be fired by the board anytime. This led me to write the below post and explain why the former style creates more sustainable businesses than we think.

Imagine a CEO of a large organization and what he personally must thrive for. I am not talking about the founder and CEO of the company but a man who has climbed his corporate ladder and then reached the position after years of turmoil and job switching. He knows that that his son/daughter is not going to inherit the position from him. He also knows that he might not remain the CEO of the organization forever. So clearly, his incentives to create a long lasting and ever-growing organization have somewhat reduced. He is less likely to take decisions which will prove valuable only 25 years from now. Instead his first objective would be to prove to his board members and share holders that he can help the company achieve a better growth rate than his predecessor.

Now lets see who the share holders and board members are. Like the CEO, the board members too have a limited tenure. This would mean than it is in the interest of everybody sitting in the board room to prioritize on creating value in the next 10 years rather than in the next 25. The CEO wants to get a larger bonus by improving the bottom line and so do the rest of the employees. Even the investors, be it retail or institutional, want their money to grow as fast as possible. As an investor you don't want the company to shrink today so that it can grow 25 years from now. You would rather exit now and reinvest later. This way even the investors put pressure on the board to show year-on-year growth and fast improvement in bottomline. So for the CEO and the employees, it becomes a must to relentlessly thrive for growth which is better than last year and so on. 

Structure Of Family Owned Businesses


What this leads to is the scary avoidance of steps towards creating sustainable businesses. Power companies would not worry about running out of coal 100 years from now. Mining companies would not worry about protecting the community around their mines. The tough decisions which an owner will take in his company to ensure he passes something valuable to his grand son would never be taken. 

This loss to the ecosystem does not get into the accounting books of any company and does not necessarily affect their valuations. Though we do see organizations giving equity to top management and running the ESOP programs, it somehow does not force you to take those tough decisions. It is probably time that we discuss and rethink the whole structure and come up with a better structure.   

4 comments:

  1. Very well written.. I find your posts very interesting and worth reading :-)

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  2. Thanks Deepak...Glad that you like them.. :)

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  3. I have read a similar article on "Why founder is the better CEO than an outsider". Except the case of Google generally founders turn out be better CEO for the company just because they love the company most. As a founder you love the company, your son also loves but your grandson might have some other ideas for his life, as such he might not be the best guy for the position. That's when you bring home grown CEO s on board, people who have sweated for the company and loves it as much as you do. If that is the case they think about company's long term future and vision. But then again your points are valid as we saw in the case of Lehmann Brothers, how it flourished under Lehman's for hundred years and perished under outside CEO s in just 40 years. Good article though.

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  4. Consider my comments as critiquing tone, not criticizing.

    1) Do you think any family run business has been more sustainable than GE or IBM?
    2) Large corporations have used the 'professional' approach, BECAUSE it works better. Right?
    3) The concept of Family-run business is a very popular trend, especially in certain parts of India and especially in certain communities. It works wonderfully well, provided you do the same thing forever. There is little or no innovation.
    4) Take Fortune 500 companies: How many of them are still Family run as opposed to professionally run?

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