These are challenging times for family businesses. Some have been affected by the economic slowdown and may have to consider a sale or major transition they never contemplated before. To make the best decisions, family businesses need a reflective capability, a level of expertise and access to information that allows them to make the best choice from an array of options within limited timeframes and with incomplete information. Governing boards of these family enterprises are a resource that can be mobilized to make decisions about purpose, leadership, strategy and future ownership while considering the impact of economic changes and other external forces.
Yet families are slow to realize the benefit of independent boards. A 2007 study of nearly 800 family business leaders by Laird Norton Tyee found that while 75% of the businesses had a board, less than half had non-family board members. If you discount the presence of close family advisers, only about 37% of these businesses have some non-family presence on the board.
Independent directors—those who are not family members, owners, managers, friends or paid advisers—bring a higher level of expertise and objectivity to the tough choices. Outside directors can challenge the family to look at ways that it might balance its long-term financial interests with competing short-term family interests. An independent board can act as a resource to help the family balance its own needs with those of an enterprise operating in a new and complex economic environment.
The role of the board
The governing board is an important resource that can help the family enterprise change and adapt. The board can represent family shareholders in an objective manner and can serve as a check and balance on the power of the majority owners who may include the patriarch and long-time family shareholders. In a family enterprise, the board has an additional role: to make sure the family’s voice is represented. The board ensures that the family expectations and the needs of the business are balanced in a manner that will sustain the business and meet the family’s long-term financial interests.
The board of a family enterprise is responsible for adding value to the business in three ways:
• Overseeing the leadership, operations and finances.
• Providing strategic direction by anticipating the need for change and identifying new opportunities.
• Mediating between the needs of family shareholders and those of the business.
The board helps the family deal with leadership succession and strategic initiatives, and it helps the business remain focused on the external environment by innovating and investing in new opportunities. We can view the board as a resource helping the business to face short- and long-term internal and external challenges. The board’s role can be represented as follows:
| Internal Focus | External Focus | |
| Short Term | Selection and oversight of the executive | Generation of revenue, customer service |
| Long Term | Leadership succession
Mediating shareholder differences |
Strategic planning
Sustaining the business and generating newbusiness opportunities |
A board helps management see the challenges ahead more clearly and prepares the company to respond more quickly. Ideally, it acts as a partner to an already committed management team, providing support, encouragement and resources to make more than just cosmetic changes. The oversight role of an effective board leads from evaluating current data to the consideration of immediate and longer-term strategic issues. In a family enterprise, this provides an opportunity to bring in expertise and information that family management may not be considering.
Becoming an independent board
In our work helping families create independent boards, we have identified several practices to help enhance the independence of boards by selecting and rewarding independent directors. These directors can provide resources and wisdom that the company cannot afford to hire internally. Good directors should be selected for the specific capabilities and experience needed by the company. In addition to specific capabilities, a family should look for the willingness of an independent director to understand the family.
Recruiting independent directors is serious business that must be undertaken systematically. The first step is to determine the needs of the company and the skills and experience needed in prospective directors. The preferred method for recruiting candidates is to cast one’s net wide by using a retained search professional or seeking candidates from industry associates, professional advisers, colleagues and the community. Very often the best candidates are people not known by the owners except maybe by reputation. Finding directors willing and able to serve, whose expertise fits the needs of the business, entails a great deal of exploration.
Families and their recruiters must have a well-scripted approach if they are to attract the very best candidates to their boards. The notion of working with a successful family operation may be appealing, but families should clearly identify the key attributes of their organizations that will attract independent directors. They might itemize their strengths and outline the benefits of serving as a director of their family enterprise. Next, they should clearly identify the duties and time expectations of directors, including descriptions of board committees on which prospective directors might serve. Recruiters should anticipate the questions candidates might ask and prepare responses that reflect not only business issues but also the values and history of the family. Multiple family members and non-family executives should interview the prospective board members.
Families may find it advantageous to pursue more than one viable candidate and consider inviting more than one to join the board. Certainly, families should bring on two or more independent directors when they first move to add outsiders to their board. It is unrealistic to think that a single individual can provide the breadth of experience and ability to produce the objectivity the family needs. Adding two or more independent directors can break entrenched family patterns and offer the family a diversity of opinions and approaches. Only when there is a healthy balance between family and non-family members on the board will the family enjoy the benefits of a truly independent board.
As demands on directors grow in this era when regulatory oversight has increased in reaction to corporate abuses, some directors may be reluctant to join a board because of financial and legal liability. Numerous qualified professionals may want to give back by serving family enterprises as a board member, but their time is valuable and their personal exposure must be acknowledged. Therefore, compensation for independent directors can be an important issue for families to address. Since family enterprises rarely grant equity to non-family members, independent directors must receive direct compensation. Fees and benefits paid to independent directors of family enterprises are rarely equal to those paid to directors of public companies. However, they should be more than a nominal amount and should be based on the size and complexity of the business enterprise and the demands placed on the directors. One measure of appropriate compensation is a comparison of fees paid to family and management who serve on the board.
Families should resist the temptation to bring their professional advisers or family friends onto their boards as outside directors. Attorneys, accountants or investment advisers who are compensated for providing services to the family or its enterprise can hardly be expected to be “independent” board members. Such professionals are more likely to have conflicts of interest than they are to act as independent members of a board. The same can be said of family friends whose loyalties will always be with the individual family members with whom they have a bond. Such board members do not satisfy the criteria of being truly independent.
The board and the family owners
One of the unique elements of being an independent director for a family enterprise is the need to understand the expectations of family shareholders. Independent directors do not represent any particular family branch, generation or constituency. Rather, their role is to listen to what the family wants and help them balance personal expectations with realistic business objectives. For instance, family members may want a certain rate of return that is unrealistic given the business’s competitive and economic environment. Sometimes the independent directors must take the lead in explaining why the company needs money for other purposes. The role of independent directors is easier if the family has governance structures that provide established guidelines and a means for communications among family, shareholders and the board of directors. Some families facilitate these communications by holding regular dinners or special meetings for the board and family members.
The value of the independent board today
As family enterprises grow, family shareholders may have voting control but may lack the objectivity and expertise to give strategic direction to the business. Independent directors can act as an open window, allowing the family and management to look strategically at their business practices and the challenges of their markets. While there is no guarantee that naming independent directors to the board results in better business performance, their presence does signal a seriousness of intention to make business decisions based on sound principles and objective data.
An independent board can help the family owners get beyond the idiosyncratic personalities, family practices and related family dynamics that may impede successful business decision making. If a family enterprise hopes to succeed today, it needs every advantage it can get. Independent directors are a key resource that business-owning families can pursue.
Dennis T. Jaffe, Ph.D., is a professor of organizational systems and psychology at Saybrook University and author of Stewardship of Your Family Enterprise (www.dennisjaffe.com). Sam Davis is a principal in Relative Solutions LLC, a consulting firm to family enterprises (www.relative-solutions.com).