Motivating the Family Business Owner To Act

Transcription

1 Motivating the Family Business Owner To Act by Michael D. Allen ACTEC refers to American College of Trust and Estate Counsel; GNP, to gross national product; GRAT, to grantor retained annuity trust; GST, to generation-skipping transfer; IRC, to the Internal Revenue Code; IRS, to the Internal Revenue Service; Model Rules, to the American Bar Association s Model Rules of Professional Conduct; and Texas Rules, to the Texas Disciplinary Rules of Professional Conduct. A. Introduction 1. Prevalence of Family Businesses. Of the estimated 18 million business enterprises in the United States, more than 80 percent are family dominated. R. Duman, Family Firms Are Different, Entrepreneurship Theory and Practice (1992) and Manfred F. R. Kets de Vries, The Dynamics of Family Controlled Firms: The Good and the Bad News, 21 Organizational Dynamics (1993). Family-owned and family-managed businesses account for more than 50 percent of the nation s employment and 50 percent of its GNP. W. Gibb Dyer, Cultural Change in Family Firms, Jossey-Bass, San Francisco, 1986; and P.C. Rosenblatt, M. R. Anderson and P. Johnson, The Family in Business (Jossey- Bass: San Francisco, 1985). Michael D. Allen is a partner in Allen-Lottman, P.C., Tyler, Texas. He is a fellow of the American College of Trust and Estate Counsel a frequent author on estate planning topics. The author thanks Roy Williams, Gordon Snyder, Gerald Le Van, Curtis Meadows and Jim Mincey for their insights. A complete set of the course materials from which this outline was drawn may be purchased from ALI-ABA. Call CLE-NEWS, and ask for Customer Service. Have the product number of the course materials SF09 handy. 5

2 6 ALI-ABA Estate Planning Course Materials Journal February Imminence of Business Successions. Over the next several years, an estimated 43 percent of the nation s family-owned businesses will change leadership. Arthur Anderson/Mass Mutual, American Family Business Survey, This turnover is unprecedented. 3. The Hope The Family Business Will Continue. Perpetuating the family business is typically a deep seeded hope of families. Surveys indicate 79 percent of senior generation members want their families to retain the family business and 70 percent of the next generation share these hopes. Arthur Anderson/ Mass Mutual, American Family Business Survey, Probabilities of Cessations of Family Businesses. Family business successions are very problematic. Widely-cited statistics indicate only 30 percent of these firms continue as family businesses into the second generation, and under 15 percent continue into the third generation. Manfred F. R. Kets de Vries, The Dynamics of Family Controlled Firms: The Good News and the Bad News, Organizational Dynamics (1993); and J. I. Ward, Keeping the Family Business Healthy (Jossey-Bass: San Francisco, 1987). In other words, the attrition rate from the first generation into the second generation is 70 percent, and the attrition rate from the second generation into the third generation is greater than 50 percent. 5. Good and Bad Cessations. There are commendable reasons why a family may choose not to continue its family business. As examples, nobody in the family may want it, an irresistible sale opportunity may arise, or the business may merge and lose its family identity. But a large percentage of cessations occur for undesired reasons. Undesired cessations of family businesses are acute, widespread phenomena which produce enormous suffering and loss to families and economies. B. Factors Contributing to Succession Breakdowns 1. Traditional Assumptions About Causes of Succession Failures. Traditional assumptions of owners and advisors have been that family business succession failures are primarily attributable to two causes: taxation and poor management decisions. The dominant advisory strategies that have evolved in response to these assumptions can be called tax driven succession strategies (designed to minimize income and transfer taxation) and governance strategies (designed to produce effective delegations and transfers of authority).

3 The Business Owner 7 2. Difficulties in Assessing Causes of Succession Failures. The complexities, uniqueness and long life cycles of families and family businesses make it difficult to conduct empirical studies to determine the factors which lead to succession failures. Furthermore, it is impossible to say x percent of failures are caused by this and y percent are caused by that. Succession failures are over determined. For every succession failure, there is a multiplicity of determinants. Each failure is produced by an amalgamation of factors that uniquely interact to cause the particular failure. 3. Improved Understanding of Succession Breakdowns. Our understanding of the family succession process is expanding. Recent research has isolated consistent patterns in the factors leading to succession breakdowns. Michael H. Morris, Roy O. Williams, Jeffrey A. Allen, and Ramon A. Avila, Correlates of Success in Family Business Transitions, 12 Journal of Business Venturing (Sept. 1997). a. This research suggests that the primary factors fall into three general categories and that the weight which should be assigned to each is as follows: i. 60 percent of a typical breakdown arises from relationship ( how we get along ) issues; ii. 25 percent of a typical breakdown arises from lack of competence or being unprepared; iii. 10 percent of a typical breakdown arises from tax and traditional estate planning issues. b. These findings support the author s experience, which is that the primary enemies of a second generation business having multiple owners are: i. Lack of common mission or common direction; ii. Inability to effectively communicate as necessary to make and implement prudent business decisions; and iii. Lack of business competence and/or experience coupled with the failure to hire outside assistance to provide missing talents.

4 8 ALI-ABA Estate Planning Course Materials Journal February 2001 C. Importance of Revising Advisory Perspectives and Advisory Habits 1. What can we conclude from these emerging findings? What new actions can advisors learn to increase the effectiveness of the succession plans they orchestrate? a. Appreciate the Prevalence of Cessations. In our can do professional culture, it is difficult to appreciate the prevalence of family business cessations. The statistics don t seem to register in our advisory alarm systems. Most advisors act and advise based on a presumption that traditional succession strategies will enable most businesses to prosper for years to come. It is critical that advisors learn to appreciate the difficulties in orchestrating successful successions. b. Don t Exaggerate the Blame on Taxation It Creates a Naive Sense of Wellness. Transfer taxation is widely assailed as the primary cause of family business succession failures. A growing body of research indicates this blame is exaggerated. For example, in Australia, which has no estate tax, the failure rate of family businesses is essentially the same as in the United States Dr. Alan Carsrud, UCLA Anderson School of Management, as quoted by J. A. Taylor, Planning for Death and Taxes, Investor s Business Daily, January 29, 1997, p. A1, based on research conducted by Dr. Kenneth Moores and Dr. Joseph Mula. Similarly, in France, which has an entirely different transfer tax system, the failure rate is essentially the same. Jean- Pierre de La Rocque, Governance of the Family Business, L Express, February 20, 1997, p. 60. An exaggeration of the benefits of tax reduction can create a false sense of security that an effective succession plan has been implemented. c. Expand Capacities To Observe. Our abilities to orchestrate effective successions are directly tied to: i. The accuracy of our assessments of the underlying causes of breakdowns; and ii. The set of distinctions we use to observe the family and business under consideration. If we are intent on producing better succession results, we must become better observers of the process. d. What We See (Leads to) The Actions We Take (Lead to) The Results We Produce. Every profession has a set of distinctions that it uses to observe

5 The Business Owner 9 what is happening. When results are unsatisfactory, a first reaction is to take different actions. But since our actions are based on our capacities to see, any significant change in actions requires that we become better observers by developing new distinctions with which to observe and assess a situation. e. Revise Advisory Habits to Produce a Balanced Approach. Professionals assess problems and recommend solutions from the perspective of their professions. Tax advisors are trained to operate from tax perspectives. A primary thesis of this outline is that serious problems are more likely to arise when tax objectives dictate the primary decisions in a succession plan. The highest quality legal documents and tax strategies will not save a family business being internally besieged by dysfunctional relationships or undermined by incompetent decisions. We must ask ourselves: Are current advisory habits adequate in light of the fact that family relationship issues may be six times more detrimental to successions than estate planning issues? Similarly, are current habits adequate in light of the fact that successors being under prepared can be two and one-half times more detrimental than estate planning problems? f. Develop Multi-Disciplinary Professional Alliances. Legal and tax advisors do not need to become experts in interpersonal communications or preparing heirs. The call is for us to develop working relationships with professionals from other disciplines who can assist us in addressing the destructive potential of poor communication habits and inadequately prepared heirs. D. Distinctions Between Estate Planning and Succession-Estate Planning 1. There are significant distinctions between traditional estate planning and business succession-estate planning. 2. Often, an estate planning advisor is asked to implement business succession planning. This advisory position is analogous to playing checkers and chess. Both are played on a checker board, but they are very different games.