Very few family businesses make it to the third generation in good health, says Heinz-Peter Elstrodt, who leads consulting firm McKinsey’s Family Business Practice globally. Successful family-run companies that have sustained over several generations are those that have evolved their business portfolio and entered new growth markets and verticals over time, says Elstrodt, who was in the country recently meeting with family businesses in Delhi, Mumbai and Chennai to understand the Indian context.
A veteran at McKinsey, Elstrodt has helped professionalise leading family businesses in Latin America, Europe and Asia. Elstrodt is eager to share his expertise with the emerging young Indian market.
How has the concept of family businesses changed over the years?
Family-owned businesses have gained much more prominence and attention. The view on family business has changed enormously in recent times, especially due to the growth in the emerging markets, including India and Brazil, where most of the private sectors companies are family-owned businesses and they have grown faster. Today, there is a lot more research on family business by firms like McKinsey and others.
What has been the most remarkable feature of family-owned businesses lately?
Family-owned businesses are much more conservative in terms of risk. In periods of crisis, this is a good thing. During the crisis, family-owned businesses performed better. There are a couple of hypothesis on this. One is that when businesses are well structured, it creates constructive tension between the owners and the managers.
In successful family businesses, which have been there for a couple of generations, there are strong values. Founders are very conscious and concerned about the company’s reputation, and this helps in the sustainability of the business. Wal-Mart and Cargill in the US, Metro and C&A in Europe are examples of successful family businesses.
What is unique to Indian companies?
India has seen tremendous growth in the last 20 years. You have old companies but also many relatively young companies (first and second generation companies), compared to Europe, US, South-East Asia and Latin America, which have many second, third and fourth generation companies. These newer family-owned companies have to figure out at some point of time how they want to govern themselves in order to make themselves sustainable beyond the founders.
To what extent should the family member be involved in management?
Interestingly, when we did research old companies (over 150 years old), it was 50-50. Half of the companies had an explicit policy that they didn’t want family members to be CEO; the other half had the opposite policy. And they were all doing well. So, there is no one right answer.
What is important is whether the family has the ability and motivation to generate highly qualified managers in the family. For example, in a European company, which has been around for seven generations, nobody can apply to work in the business. It has a group of family counsel, which invites family members to be part of the company at high level jobs if it is felt that somebody has proven to be good. This is only by invitation and only to those who have had a 10-year career outside the family business. This is an extreme form of meritocracy. And the company has been doing well with this policy.
Sometimes, you have to make tough decisions. Lot of family companies have had to take family members out of management because they were not so good. As a family business, can you deal with such conflicts?
Many old companies have family members as the CEO — there is an advantage. With their names attached, they will make an extra effort. But it is not for everyone. So, what does it take to sustain over a long period of time? Very few family businesses make it to third generation in good health. If you want, as a family, to create an institution that survives many generations, the company has to evolve faster than the economy. But it is very difficult. The few companies, which have been close to this, are those that have evolved their business portfolio. That’s the only way. Get into new growth markets and businesses over time.
Founders are unique people. They are dominating personalities, they know everything about the company bottom up and are centralised. Nobody can follow up this role easily. The whole management system has to change. Succession planning is a difficult challenge.
When you go from second to third generation, there is a different challenge. You have to get much more organised, as the family gets bigger. You have to be clear on policies and governance issues. The increasing degree formalisation goes a bit against the concept of family business, because the family is used to sitting around the table and talking. But it is important.
The tricky part is in solving issues before they come up. You have to think proactively about your governance challenge in the long term and act on that. Emerging markets can learn a lot from failures globally.
What is your advice on succession planning?
You need to teach the right values to the next generation. Some could become artists, some doctors but they are also likely to be shareholders. Shareholding is like partnership and it is important to know what values they represent.
You need to first determine what the future is, say in the next 10 years, and then you start working backwards to get there. Because the governance system from one generation to another shifts dramatically. This shift is very difficult for founders. Many founders are very brilliant and see a great opportunity that is not seen by others. They capture the opportunities and build the business step-by-step. But succession is a different process. You need to think ten years ahead. That might be very tricky for many people.
What is your view on increasing PE investor interest?
PE investors can bring in the necessary capital and interesting skills. In Latin America, for example, investors help organise governance issues; there is value in this for the enterprise.
Are family businesses good at quick decision-making?
The risk-taking is probably less. But if you have concentrated ownership, it makes decisions faster. I have seen family concerns making merger and acquisition decisions faster than non-family companies.