Trust in family enterprises

Trust is a hidden yet crucial element of family and business dynamics. Research has suggested that trust may facilitate collaboration and cooperation, provide the foundation for productive working and family relationships, relate to employee attitudes and job satisfaction, and foster customer or stakeholder satisfaction and loyalty (Donna M. Romano, Louisiana State University dissertation, May 2003).

In family enterprises, it’s not always easy to sense when one family member trusts another. It’s often easier to notice the behaviors and attitudes that arise when trust has been lost. One of the challenges enterprising families face is how to build or rebuild trust in the family system, the business system or both systems. Another challenge is how to gauge the level of trust in enterprising families.

One way to approach trust practically is to think about situations in which family members must be able to trust one another. The table below identifies several systems and stakeholder groups for whom the potential for conflicts of interest or conflicting needs exists.

Active and inactive shareholders may have different perspectives about executive compensation and bonuses. Active shareholders usually receive compensation either as a member of the management team or as a board member in addition to what they receive through dividends or distributions. Inactive shareholders typically receive only dividends or distributions that are declared by the board of directors. Do the inactive shareholders trust that the active shareholders are receiving appropriate compensation as managers or board members? Do they trust that their dividends are fair and take into account an appropriate balance between current and future needs of both the company and the owners?

The management team often includes family and non-family executives. Do non-family executives trust that the family members have been hired based on their skills and experience rather than on pure nepotism? Do they trust that performance evaluation of family members is fair and that their own positions are not at risk if they give a family member a negative evaluation?

Family members often wear multiple hats, even inside the family. They may be members of a branch in an extended family, a spouse (in-law), a parent, adult child, sibling and/or cousin. There are a number of questions that might arise within the family system: How do family members heal “bad blood” that may have existed between branches for generations, often for unclear or even forgotten reasons? How do families manage sibling rivalry in the family and the enterprise? How do parents ensure that their children are treated fairly and equitably in the parents’ estate plans?

Balancing competing stakeholder interests

The table below identifies a number of stakeholder groups typically present in enterprising families and business systems. In order for the systems to function well, each of these stakeholder sets with potentially competing interests must maintain an appropriate balance over time. In the family system, this balance is frequently maintained by a strong matriarch or patriarch. As families grow in numbers and branches, family governance structures, such as family constitutions and family councils, are developed to help maintain balance. In the business system, formal governance structures perform the balancing function. In each instance, the optimal operation of the balance/governance function requires that the stakeholders trust in the fairness of the balancing function over time.

When stakeholders don’t trust that the balancing function is fair, there are numerous undesirable outcomes or symptoms of distrust. These range from bad tempers, negative attitudes, frequent bickering and complaints at one end of the scale to estrangement and litigation at the other end. In between these extremes one might find strikes and job actions in the business system and lack of communication with family members or outright boycotts of family activities in the family system. Even balancing functions that seemed to have worked well over the years can be severely strained when various “trigger events”—such as births, deaths, marriages, divorces or the sale of a business —occur.

Trigger events can test even the best-designed balance or governance function and negatively affect levels of trust in the family and the business. If, for example, the family lacks a prenuptial agreement policy but insists on a prenup when a family member announces his or her intent to marry, the bride or groom may construe the demand as a sign of mistrust and in return may lose trust in the family as a whole. If after an owner’s sudden death the reading of the will reveals a lack of estate planning or other surprises, polarizing litigation over property could result. When family members are placed in management above their experience and training, without performance-based evaluation, non-family executives may consider leaving the company because they no longer trust the management team’s ability to meet its goals or they no longer trust that they will receive promotions they deserve if they’re competing with those family members.

An analogy

The traditional way a business tracks its economic results is through double-entry accounting. Using this method of debits and credits, which dates from the 13th century, a business can determine its financial position (balance sheet) and the results from a specified period of business activity (profit and loss statement). The business can also analyze specific transactions to determine whether they resulted in a positive or negative outcome.

In a very simple example, let’s assume that a business is formed with $100 in cash capital. Prior to any other transactions, if a balance sheet were prepared it would show $100 in assets, $0 in liabilities and $100 in owner’s equity. Suppose we use $50 of the cash to purchase an item in the wholesale market for eventual resale. If a balance sheet were prepared immediately after that purchase, it would still show $100 in assets ($50 in cash and $50 of inventory), $0 in liabilities and $100 in owner’s equity. Now suppose the business sells the item from inventory for $75. A profit-and-loss statement for the period would show a profit of $25 ($75 sale less the $50 cost of the item). A balance sheet prepared after the sale would show $125 in assets (all cash), $0 in liabilities and $125 in owner’s equity.

If one were to develop an accounting system for trust, it might work in a similar way, even though we cannot precisely denominate trust amounts in a currency equivalent. If we assume that families generally want to trust each other, then family members start with a positive balance on their personal trust balance sheet. Every significant encounter (transaction) with other people in the business or family system can result in the creation of additional or enhanced trust balances (a profit), the destruction or diminishment of trust balances (a loss), or no change (breaking even). The relative importance or significance of the encounter will determine the magnitude of the trust creation or destruction.

Entrepreneurial coach Dan Sullivan of The Strategic Coach Inc. cites four basic habits that result in personal trust enhancement:

1. Be on time.

2. Do what you say you are going to do.

3. Finish what you start.

4. Say “please” and “thank you.”

It stands to reason that the converse—failing to abide by these habits—will result in a loss of trust. There also seems to be both a long memory for trust “transaction deductions” and a cumulative multiplier effect regarding trust “transactions.” For example, people who are habitually late for appointments, even if only by a few minutes, may have created so many deductions from their trust balance that others may consider them untrustworthy in other areas as well.

Families may inherit positive or negative trust balances based on stories passed from one generation to the next. As young family members grow up, they create their own stories based on their choices, their willingness to acknowledge and learn from their mistakes, and their rapport with multiple generations of their extended family. Family memory is long and rarely based entirely on fact. Family members with a reputation for youthful recklessness find that reputation hard to shake, even though years may have passed since the reckless behavior occurred.

It is common in families to hear language such as: “You always …”; “You never …”; “Ever since you were five you have …”; “I remember when you ….” Applying these untested generalities may lead to major permanent deductions from the person’s trust account. If these deductions are undeserved, they may ultimately undermine the family’s ability to function effectively with one another.

If a family enterprise’s employees and customers see the current leadership as trustworthy, younger family members entering the business will have a trust credit. Whether the next-generation members grow that trust account or deplete it depends on their interest, skills, experience and effort. Another factor affecting the trust account status is the senior generation’s ability to create a succession and continuity plan that allows younger family members to take appropriate risks, learn good leadership skills through hands-on experience and benefit from honest feedback about performance.

Increasing your trust assets

Enterprising families may enhance the level of trust in their systems by:

1. Identifying values and vision statements that clearly state the family’s priorities.

2. Creating transparent governance structures and processes that include clear protocols for decision making, consequences for unacceptable behavior and gauges for measuring the success of projects, goals and action plans.

For practical tools and suggestions, plus the story of how a father and son started rebuilding trust, see Trust Me: Helping Our Young Adults Financially, a book by family psychologist Kenneth Kaye, Ph.D., with his son Nick Kaye.

High levels of trust are essential in order for family enterprise systems to thrive over generations. When enterprising families acknowledge that need, they are able to assess and understand the impact of diminished trust balances. When a family proactively adopts trust as an essential value, it opens the door to restoring depleted trust balances over time. Individual efforts to behave in trustworthy ways—even if these involve taking two steps forward and one step back—will provide an accumulation of consistent positive outcomes, interactions, and stakeholder transactions that grow the family’s trust balance.

Michael T. Hartley, CFP, is chairman and CEO of DKE Inc. and a principal in Transition Dynamics Inc. Bonnie B. Hartley, Ph.D., is president of Transition Dynamics Inc. (www.transitiondynamicsinc.com).

How to build trust

Edward “Sandy” Cutler, Ph.D., president of BizCoach Inc., offers these observations on building trust.

Over the past 20 years, I’ve continued to conduct field research to validate and reaffirm the findings from my original research on trust. Listed below are 12 trust building-behaviors that successful leaders exhibit and utilize:

1. Walk the talk (actions are more important than words). People pay more attention to what a leader does than to what a leader says.

2. Demonstrate respect. People want to be respected for who they are and for what they do.

3. Reward responsibility. Everyone wants to feel valued and believe he or she is making a meaningful contribution to the organization.

4. Be an active listener. People need to be heard and -listened to.

5. Involve people in decisions. People want to have a say in decisions that affect them.

6. Respect confidences. Confidential information, particularly about people, should never be divulged.

7. Be impeccably honest. Nothing fosters mistrust of a leader more quickly than dishonesty.

8. Encourage appropriate risk taking. Many people live in fear of making a mistake because many organizations operate a system of reprisals for errors.

9. Keep a positive attitude. Most people want to be around someone who has a positive attitude and outlook on life.

10. Treat everyone fairly. While this may seem self-evident, not all leaders treat people fairly.

11. Strive for continual improvement. Effective leaders are always seeking ways to improve their leadership skills.

12. Deliver results. Demonstrating a capacity to deliver results and to focus on outcomes, and not activities, is an important behavior of the most trusted leaders.

© 2010 BizCoach Inc. Used with permission.