Some 70 percent of family-owned businesses fail or are sold before the second generation gets a chance to take over, according to a 2012 Harvard Business School study.
A big reason for the failure is business divorce, a colloquial term used to describe the separation between owners of a business, which can be just as painful as a regular divorce.
This is especially true in the case of a family business. Family businesses often fail and end up in a business divorce because:
- A family feud among members with equal power is inevitable.
- Emotions run wild.
- The family is ill-equipped to handle complex business issues.
Family feud exists in every family. Sibling rivalry, for instance, is all too common. Children think their time has come despite their parents who think otherwise. It is inevitable for egos to take control, especially when there is an equal distribution of power in the business. Poor business decisions are made, leading to poor results. Poor results can lead to potential business failure, and over time, lead to business divorce.
Another common reason is emotions. Despite the phrase, “it’s just business,” it’s never “just business in a family business. To the contrary, everything is personal. “Why should [insert name here] get as much money as I do when I’m the one who personally signed surety”? Does this sound familiar? Unlike in other non-family business settings, in a family business, when owners are divided over a business issue, the issue becomes personal. This is especially true when families grow to include new members (yes, we are talking about your sibling’s new spouse or stepfather).
The final common reason is being ill-equipped to deal with complex issues. As businesses grow, they face many challenges, including financial and legal issues. Family businesses usually start with owners who have no expertise on these sophisticated topics. These issues become more pronounced as businesses grow. If ignored, any one of these issues could shut down the business.
With the above in mind, here are three recommendations to help protect against potential business divorce.
Give control to one person. Ideally, family members should not do business together. If a family does decide to start a business together, one person should be in control. When two siblings have equal power, for instance, they are more likely to fight over issues unnecessarily. When one has a controlling interest in the business, the others have no choice but to go along.
Document everything from the start. Set parties expectations and contributions from the beginning. Use a written agreement, such as a shareholder’s agreement, partnership agreement, or operating agreement that (1) defines each person’s responsibilities, (2) provides a dispute resolution, and (3) restricts one’s ability to transfer ownership. It’s difficult enough to do business with your brother, but do you really want to do business with his wife?
Seek professional help. With the advent of the Internet, too many people use self-help. Why pay thousands of dollars to form an entity when you can do it yourself for a lot less? These form documents available on the Internet are helpful only if the users know what they are doing. Relying on these documents is akin to believing you can get a regular divorce for next to nothing. Talk to a lawyer. Talk to an accountant. These professionals can help you set up a business properly from the start, including preparing proper start-up paperwork.
Starting a successful business is tough. Maintaining a successful family business can be tougher. Protect yourself to ensure you have a successful business for many, many years.
Edward T. Kang is managing member of Kang Haggerty & Fetbroyt LLC.
(Philadelphia Business Journal)