Family Employment and Compensation – Context and other Considerations 
The involvement of family members in the business is one of the trickiest issues family businesses have to deal with, particularly as it is often complicated by succession planning concerns.
In an ideal world the transition from one generation to the next is not problematic – the successors are clearly identified and have the necessary skills and experience to facilitate a seamless transition at a time mutually agreed between the preceding and succeeding generations. There are sufficient family assets outside the business to allow those not involved in the business share equitably in family wealth, and those involved in the business are equally (though complimentarily) talented and ad idem on how to deal with all key issues facing the business. Their introduction to the business is smooth and their ongoing performance and reward does not give rise to any sibling 1rivalry or tension with nonfamily employees. And the transition does not give rise to any tax liabilities …
Perceived tension between family and business needs
In the real world, these issues can cause many sleepless nights for business owners, regardless of the size of the business or the number of generations it’s been in existence. At its core is the tension between the family and the business. It’s natural for parents to want their children to be involved in the business and, as parents, to be supportive as the children seek to make their way in the business. The difficulties arise if this leads to over-parenting – unwillingness to let go, tolerance of poor performers or an insistence of equal treatment of all children regardless of the quality of their contributions. It can be seen as a stark choice – for the family to succeed, harmony must prevail and conflict be avoided. For the business to succeed, hard decisions may need to be made that prioritise the business.
The reality is that if there isn’t a mechanism to deal with these issues, decisions can be made that are easier from a family perspective in the short term but which can lead to problems for the business and indeed family conflict in the longer term. This can arise especially if there are different capabilities and visions for the business in the next generation, but no guidance on how matters are to be progressed, leading to family members being accommodated in the business regardless of their ability to do the job. This can lead to frustration for those with the entrepreneurial ability to develop the business, as they feel either that their talent is stymied by parental unwillingness to let go and/or lack of sibling ability or that they are not being fairly rewarded for their contribution. This can ultimately be very damaging for the business – we’re seeing an increasing number of highly capable next generation family members seriously contemplating leaving their family businesses for these reasons.
Need to recruit and retain skilled staff
In our most recent family business survey, the recruitment and retention of skilled staff was identified as the main internal issue of concern to family businesses, particularly those seeking to achieve high levels of growth. If a family business is to succeed from a business perspective, it needs to ensure that it has the right people appropriately motivated and rewarded, so that they can help the business to achieve its objectives. While some of the skills requirements may be met by family members, it is likely that, as a business grows and develops, it will also need to look outside the family. Looking at this purely from the perspective of the business would require family members to be treated in the same way as nonfamily with regard to their employment in the business. This would mean that:
- they would go through the same interview process and would not be hired unless they demonstrated ability or potential to do the job they would receive only the same initial training and ongoing learning and development support as non-family members
- they would be subject to the same appraisal and performance review as non-family members
- their remuneration would be consistent with market rates for the role and their level of performance
Theory and practice – and succession issues
While the theory makes sense, it is not always practical, especially if the business is struggling to support existing family members and there are limited resources to finance external expertise. It can be hard to take the longer term view that the business is more at risk of failure without the discipline of rewarding performance and penalising non-performance. Focusing on appropriate HR process and policies in isolation also ignores the fact that the family business is likely to be the key (often the only) family asset and that in many cases management and ownership succession issues are entwined.
Family business differentiators
In order to deal effectively with employment and remuneration issues in a family business, it’s important to recognise the key ways in which family businesses are different and to accommodate and build on these differences throughout the HR process, for family and nonfamily members. This can also facilitate tax efficient (for business and family) remuneration packages that reflect and reward alignment of individual performance with business goals.
In our 2012 survey, the unique qualities of the family business were identified as:
- Longer term thinking and a broader perspective
- Quicker and more flexible decision making
- An entrepreneurial mind-set
- A greater commitment to jobs and the community, and
- A more personal approach to business based on trust
Longer term thinking and a broader perspective
As family businesses by their nature tend to be in it for the long haul, with many regarding the business as a family asset that they hold in trust for the next generation, there is likely to be a longer term view with regard to people development and assessment of capability. Exposure may begin at a relatively young and inexperienced age in order to facilitate ongoing and deeper understanding of the business. While it is understandable that family members in such cases do not have to prove themselves before getting the opportunity to get involved, they should appreciate that whatever tasks they are allocated should be done to the best of their ability and they should be compensated accordingly. Given that these early stage job opportunities are usually low skilled and easily benchmarked, it should not be difficult to ensure that performance is formally evaluated and that market rates are paid. There is generally little merit in seeking to structure tax efficient remuneration packages at this level.
In practice, families vary in how family members are rewarded. Some deliberately pay below market rates to family while others pay above the market or supplement cash pay with perks and benefits which, when associated tax costs are added, can be very costly to the business. If the practice is applied consistently to all family members it is less likely to cause family tension, but selective rewards or above market rates paid to family can have detrimental impact on the motivation of both family and nonfamily members.
As family members progress through the business and take on more senior roles, and as decisions on succession – both ownership and management – are put on the long finger while various family members are given chance after chance to prove themselves or simply because the current owners cannot make up their minds, the potential downside of long term thinking in a family business context becomes apparent. It gives rise to the risk that nonperforming family members in more senior roles are not sufficiently challenged, and strong performers are insufficiently rewarded.
Long term uncertainty over succession plans can be particularly demotivating. Providing clarity enables family members to make decisions about their continued involvement in the business, and facilitates structuring reward packages that are consistent with ongoing and likely future roles. For example, the appropriate reward package for a risk averse individual regarded as a “safe pair of hands” is likely to be quite different to that of a young visionary who is on track to double the size of the business over the next three years. In the latter case, linking the potential reward to the growth of the business, perhaps by way of equity, is likely to be both motivational and tax efficient.
Quicker and more flexible decision making
Family businesses consider themselves more agile and able to take advantage of business opportunities as they arise. Family member tend to be more flexible in doing what is necessary to pursue these opportunities, including being willing to relocate to overseas locations at short notice as the business expands internationally, to ensure that the expansion is carried out in accordance with the core values of the business. Again, this can provide opportunities to reward vision, flexibility and performance in a tax efficient manner, particularly in the context of changes of personal tax residence.
An entrepreneurial mind-set
Almost half of the almost 2000 respondents to our global survey believed that family businesses have the ability to reinvent themselves with each new generation. This can facilitate tax efficient structuring, particularly in the context of succession. For example, the individual may be content with a modest salary if it is clear that a significant portion of the uplift in value of the business will be directly attributed to growth shares held by the individual. This can allow significant value to flow to the next generation on a tax free basis.
A greater commitment to jobs and the community
While monetary reward is recognised as important, there are other factors that create strong commitment and staff loyalty. Family businesses are perceived as being more committed to their local communities and to job creation, and the community bond that this can help to create can be very helpful in terms of staff retention and motivation. However, this can be jeopardised if it is perceived that family members are unfairly rewarded for their efforts. It’s important, therefore, to differentiate between reward for the contribution made to the business and the additional support attributable to family ownership of that business.
A more personal approach to business based on trust
Almost 80% of respondents in our survey considered family businesses notable for their strength of culture and values, with this rising to 85% in third generation businesses. Many firms believe that their ability to build stronger and closer relationships with their customers leads to more business. The culture and values of a family business permeate its interaction with all of its stakeholders, including family members actively involved in the business and/or as shareholders, non-family employees, customers, suppliers, the local community etc. The culture of the family business emanates from the family, and in order for the desired values and culture to prevail it is important that the tone is set from the top.
The rest of the organisation will not buy in to a stated culture that is not clearly demonstrated to be fundamental to how family members deal with the business and each other. The buy-in has to start at the family level, and for that to happen the family needs to be involved in identifying and agreeing core values for the business and associated family matters. External support from professional advisers and/or nonexecutive directors can help this process to happen in a non-confrontational way.
If this is done properly and documented appropriately, ideally in a family agreement or constitution document, it provides fundamental support and a reference point by which potentially difficult decisions on a range of matters, including family employment and compensation, are made easier.
Conclusion
There is no single right answer in relation to employment and reward in a family business. Each family can work out its own solutions by reference to family values and business ambition, taking into account the factors that are relevant for that family and business, including its people and financial resources, ownership and management succession plans, need for family harmony, level of dependence on the business for family financial support, balance of family assets represented by the business, number of family members and their levels of financial independence, pension arrangements, physical health and tax planning strategies.
The most successful arrangements (ie those that help the business to succeed through the generations while maintaining family harmony) are generally supported by an explicit agreement on how family business is to be conducted.
Have you thought about this lately in the context of your own business? Is there transparency and open discussion on issues relating to family employment, including who joins the business, when and in what capacity, training, ongoing personal development, desire for external experience, agreed objective setting, mentoring, appraisal, reward structures and constructive employee feedback? If not, are you comfortable that your current practices are best for family and business? Or is it time to take a more proactive and business focused approach, in the context of agreed family values and objectives, that will help to sustain the business and the family for the longer term?
If you would like further information on family business or sucession matters please contact Nigel Dennehy on 061-455601.