Governance and family companies
The concept of sustainability often comes naturally to family companies since they need to serve the family’s needs through the generations, but Stephen Young, Global Executive Director, Caux Round Table, argues that they also need good governance to turn those ambitions into reality.
There is a common view that family companies don’t need much governance. Families provide their own governance for themselves and their businesses, especially in cultures with strong patriarchal patterns of family organisation.
But this view is superficial. Business success demands from those with positions in the company fidelity to role responsibilities and emotional self-control to serve as part of a team performing as expected for the common good of the group. The culture of business rationality is very different from the more affective culture of patrimonialism and favouritism which constitutes the authority pattern in many families. If a family puts a priority on the business success of its company, it needs governance over the company appropriate to the roles and responsibilities of market-focused and profit-focused decision making.
What then is governance? How should families come to appreciate governance as a beneficial addition to their quest for happiness and wealth creation? Governance achieves two important tasks. Firstly, it moves subjective values and other ethereal concepts from abstraction into material reality. Secondly, it provides control of outcomes through the selection of priorities and the imposition of accountability.
Since a business enterprise is a cooperative enterprise, organising people to function as needed is essential. Business does not happen through spontaneity or serendipity but through planning and intentional decision making in response to complex currents of people and circumstances. Business happens for better or worse through governance. Every business has goals and objectives. Some values must be chosen for implementation within the business if it is to be a self-sustaining organisation and have an impact in the market.
Governance is needed to convert ambition into results. A company run without governance runs the serious risk of being erratic, faddish, ad-hoc, wasteful and irrelevant.
Governance also selects among alternative courses of action in order to limit choices and impose discipline. Governance delivers control – control over self and control over others. This function aligns owners of a business with the rationality necessary to achieve business success. Governance enables family owners to control themselves to do what is in the best interest of the business and to control the people who serve the company and make its decisions.
Choosing between Dr Jekyll and Mr Hyde
But what values should a family choose to implement through governance? Should the family seek to run its company as the good Dr Jekyll or as horrific Mr Hyde? The challenge of governance for a family lies in choosing its goals and objectives. A family company could be socially responsible or it could be very irresponsible in extracting advantages for itself from society.
A decision must be made as to what goals and objectives will become the vision and mission of the company. The governance process will take whatever it is given by the family and bring it to life in the market.
Generally speaking, bad values in the context of a family company look towards money and power for the family. Selfishness in seeking to establish the social, cultural or political power of the family as a collective enterprise often demands that the company be run for the extraction of cash for transfer to family accounts. Then financial wealth can be used for the purchase of status goods through conspicuous consumption in the fashion of absentee landlords, feudal aristocrats, or demanding warlords shaking down their dependents and retainers. This is the family acting as rentiers, not as risk-taking capitalists creating new wealth for themselves and for society.
From the perspective of society, business should be part of Adam Smith’s metaphoric ‘invisible hand’ contributing to the general economic growth of the community. Rent extraction, living off a company only as a rentier, compromises the robustness of economic growth.
The Caux Round Table, therefore, developed a set of ethical principles to direct owners of private wealth away from rent seeking towards productive contributions to social prosperity. These principles start from the premise that wealth comes from earning a return on capital – human, financial, physical, reputational and social. Current wealth generates future wealth. A necessary use of wealth, therefore, is to ensure the creation of more wealth.
Wealth is a form of capital, constituting in particular the flexible ability to use and deploy finance capital. Both individual initiative and social institutions interact to produce all forms of capital, giving to capital a mixed character subject to the authorship claims of both individuals and society. Capital therefore arises out of a process of living and working together
for a common good. Ownership of shares in companies and corporations is, of course, a primary form of wealth in the global economy.
Further, the highest and best use of any form of capital is to generate additional capital. Capital should not be used to hinder society’s ability to create more capital for the benefit of others. Consumption is not the most responsible use of capital.
The proper use of wealth is necessary for the achievement of more gentle and happy social circumstances, for improvement of the human condition. Possession of wealth generates envy in others, leading to cultural and social tensions. Unequal distribution of wealth further gives rise to resentment, alienation and political conflict.
The fundamental principle for owners of wealth to acknowledge is that the ownership of wealth entails stewardship. The ends of holding wealth encompass more than meeting self-centred desires for dominion and indulgence. There is a fiduciary aspect to the ownership of capital. Wealth is to be consciously devoted to meeting the needs of society, of others, and the challenges of the future. Wealth should be of benefit to society.
This fundamental principle is made more specific by these subsidiary principles:
- Wealth should be used to enhance other forms of capital: financial, physical, human, reputational and social. First, wealth should be used to sustain and improve the institutions that permit the creation of wealth. Accumulated over time, wealth can influence the future. Wise use of wealth avoids immediate consumption and invests in the creation of better outcomes for future generations. When wealth is invested in the creation of additional finance capital, it should invest in those businesses and productive enterprises that adhere to the Caux Round Table Principles for Business. In particular, the current wealth of advanced industrial countries (some US$79 trillion) should be increasingly directed towards the creation of conditions for sustained economic growth in poor, developing and emerging market nations. Wealth should be used to enhance all forms of capital formation in nations that adhere to the Caux Round Table Principles for Governments.
- The desires of owners for self-satisfaction should be balanced against society’s need for robust accumulation of new capital in all forms. Philanthropy is incumbent upon those who possess wealth. The social function of wealth is to finance a greater good. Those who are to inherit wealth should be expected to assume the fiduciary responsibilities of stewardship that accompany the possession of wealth.
- Wealth must support the creation of social capital. Social capital – the reality of the social compact incubating successful wealth creation and permitting the actualisation of human dignity – is created over time by governments and civil society. From the rule of law to physical infrastructures, from the quality of a society’s moral integrity and transparency of its decision making to the depth and vitality of its culture, social capital demands investment of time, money, imagination and leadership. Wealth should pay its fair share in taxes to support public programmes enhancing social capital and should invest in the private creation of social capital through philanthropy.
- Wealth should be invested in institutions enhancing human capital. Education and culture can be funded from public budgets on a consumption basis, but wealth should shoulder the principal responsibility in a society of providing permanent endowments for institutions of education and culture.
- Private wealth should supplement public expenditures for the social safety net. Private charity and philanthropy should respond to the health and human services needs of the less fortunate.
- No one is morally entitled to the use and enjoyment of wealth procured by fraud, corruption, theft, or other abuse of power. Those who control such wealth should make restitution of such wealth to public bodies or civil society. Use of private property
rights to shelter such wealth is ethically suspect.
A simple and straightforward way for family companies to manage governance is to carry forward into the company the best family values. A family is a community which has a place for all its members and has expectations that its members will flourish and have happy lives.
Of course, many families are dysfunctional and don’t act on the basis of love and kindness towards relatives. Families can be upsetting interpersonal fire pits of emotional dramas, power struggles, resentments, and other psycho-social neuroses. But families should seek the best, which is to experience mutual love and support in comfort and advancement.
Families can extend to their companies this sense of mutuality and reciprocal obligation. The family value most appropriate for setting company priorities would be to share beneficial outcomes with employees, customers and the community while living in harmony with the environment.
The family and its extended family – so to speak – of stakeholders in the family company come to share value produced by the business. The family business can be something of a social enterprise serving a variety of beneficiaries. As the company prospers, so will the family but the company cannot prosper well unless its employees, customers and suppliers share in what the company makes possible – its goods or services or its financial benefits.
In Japan a similar concept derived, I think, from Shinto naturalism with Buddhist overtones is called Kyosei. From this point of view, a company, like a family, is part of a wider environment which sustains it. By taking care of its environment – its customers, its employees, its creditors, its suppliers, its community – the company improves the odds of its own financial success. It creates through Kyosei favourable support structures which will feed its needs with quality input and resources.
In the US, the tradition of Calvinism in the old families of New England provided a similar incentive to run family companies with regard for customers, employees and the community. The Dayton family in Minnesota became famous for not only its sound and successful business undertakings but as leaders in charity and community problem solving.
The honour and reputation of a family – its legacy over the generations – is built on how it lives up to values or not. Putting in place governance of a family company such that it acts responsibly promotes honour and a worthy reputation.
Honour and reputation may not be desired goods for investors in public companies, who most often see their relationship with the company as strictly financial, but they are frequently the psycho-social glue which holds families together. They set standards of high performance which family members come to accept as a birthright to live up to.
But on the purely financial side, a family company improves its long-term value to be gifted down over the generations by paying attention to its stakeholders. Companies that exploit their stakeholders can profit in the short run but often lose out in the long run. Financially, family companies are more likely to worry about long-term returns, the building of capital wealth that can sustain descendants. Family members should be reluctant to ‘take the money and run’, for in taking the money out and away from the company, they are undermining the family’s future wellbeing.
Governance in family companies, therefore, needs to constrain that narrowly focused impulse to profit at the expense of the family group. This is part of the second function of governance – providing discipline and rationality to promote the wellbeing of the business.
Thus, family companies have an inbred bias for sustainability of enterprise in order to serve the family’s needs over time and through generations. To be sustainable, good governance is necessary. Poor governance adds risk and brings on difficulties and losses. Good governance foresees challenges and is responsive to demands for excellence. With good governance, family companies will prosper more and longer.
Once the first aspect of governance is at work, the second comes into play – exercising control through the selection of specific goals and objectives and holding those in positions of responsibility accountable for their actions.
But younger generations as they come to maturity may or may not be as committed as their parents and grandparents to personal governance of the family business. It is at this juncture between generations where governance can be most important for family companies. If the right values have been chosen by the founders and the right structures for rational priority setting have been put in place, the family company can continue to prosper, with professional managers over time becoming incorporated into a family ethos of purpose and achievement.
In conclusion, governance is not in tension with family control of business but is a vital part of success in running such an enterprise.
Stephen Young, Global Executive Director, Caux Round Table
More information on the work of the Caux Round Table can be found at: www.cauxroundtable.org.