Corporate Governance of Family Companies

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Corporate Governance of Family Companies

• Peter Taylor
• International Finance Corporation (IFC)
• Bogotá, July 2003

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What is a family company?

• Narrow definition wholly-owned and managed by
  the founders or their families
• Broader definition the founders family have a
  controlling stake and a leading role in the
  senior management
• Often publicly listed companies
• Broadest definition the founders family
  continues to have significant influence in the
  company

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Why CG of Family Companies is important to IFC

• Huge role in private sector development in all
  non-communist countries, but especially in Latin
  America
• Very large proportion of IFCs client companies
  (even among largest companies)
• Governance identified as
• A major investment risk in family companies
• An opportunity for IFC to add value to clients

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Not enough attention to CG of Family Companies

• Not a major focus of public-policy makers
• Not a major focus of academic literature
• so IFC had to start from the beginning
• Developed specialized Tools for analyzing
  family companies
• Helped by work in this area by IMD, NACD, etc.
• More importantly, learnt from the experiences of
  our clients

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IFC CG Tools for Family Companies

• Progression Matrix
• Adding value, not scoring
• 4 levels of evolution
• 4 areas of analysis
• Information Request List
• 4 areas of analysis
• Building a library of numerous resources
• Family charters
• Model Board documents
• Case studies

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Special Strengths of Family Companies

• Long-term view in decision-making
• Desire to build a business for future generations
• Commitment of family management to their company

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Special Challenges for Family Companies

• Need to separate the family relationships and
  company relationships
• Especially financial relationships and accounts
• Informality of governance policies
• Lack of internal controls
• Challenges only increase as the family grows with
  subsequent generations
• and now the specific issues IFC analyzes

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1) Succession Planning

• Important for all companies, but especially for
  family companies
• Often, dominance of the founder in the first
  generation
• Often, biggest problems with the third generation
• Plan as soon as possible family patriarch (or
  matriarch) could leave at any time

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2) Family versus non-family employment and
promotion

• Need to have clear policies
• Could be highly selective, with specific
  qualifications and experience required
• Could be open door
• Non-family committee (such as independent Board
  members) should act as arbiter

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3) Equitable treatment of non-management family
shareholders

• Diverging interests and access to information
  between these two groups
• Common problem the insiders want high salaries
  the outsiders want dividends
• Do the outsiders trust the insiders?

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4) Equitable treatment of non-family shareholders

• Same basic issues as treatment of minority
  shareholders in all companies
• Diverging interests and access to information
  between inside, family management and the
  outside, non-family shareholders
• Extra issue even non-management, family
  shareholders are likely to have informal
  advantages over non-management, non-family
  shareholders

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5) Board meetings, Management meetings, Family
meetings and Shareholders meetings

• Roles are often confused
• Board meetings in theory
• Oversight of management
• Input to strategic decisions
• Board meetings in practice
• acts as a Family meeting or a communication
  mechanism
• Most decisions are made in the Management
  meetings

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6) Family shareholding retention and voting as
the family grows

• As the Company passes to subsequent generations,
  the number of family shareholders increases
• Who should receive shares?
• Tension between keeping the Company under family
  ownership and allowing the family shareholders to
  sell their shares
• Establish rights of first refusal
• Create some kind of liquidity facility
• Should the family shareholders vote individually
  or as one voting bloc?

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Possible Solution - Create a real Board of
Directors

• Performing classic functions of a Board
• Oversight of management
• Strategic direction
• Bringing in independent, outside Board members is
  even more important for family companies
• An outside, objective perspective
• Independent resolution of conflicts of interest
• Important arbiter on family governance issues,
  such as employment issues
• Board-building does not need to be a one-step
  process

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Other solutions

• Family Charter (protocolo familiar) with clear
  policies
• Formalization of informal practices and
  conventions
• The clarity is often more important than the rule
  itself
• Family Council or Family meetings
• Training!