In a 2018 report by International Finance Corporation, family businesses were stated to constitute the world’s oldest and most dominant form of business organizations. Also, these businesses represent more than 70% of the overall businesses and play a key role in the economy growth and workforce employment in most countries. The statistics show that 95% of family businesses do not survive the third generation of ownership due to lack of proper family governance structure. Structuring a business that is majorly controlled /owned by members of a particular family requires more than the general corporate governance practice.
Corporate governance practice in the corporate world recognizes the position and functionality of a Board of Directors (“BOD”) who ordinarily should be a group of professionals who have excelled in their various fields and can bring a reasonable degree of relevant experience to the business. They should be saddled with the responsibility of developing business strategies and ensure sustainability and growth of a business. While this looks adequate to solve any form of structural and governance issue in any organisation, the framework of a family business is such that the BOD is filled with family members and not necessarily experts in the relevant business. Therefore, the function of the board is more regulatory compliant than result oriented.
Most experts find themselves resolving the difficulty in balancing the family factor of the business, with the required expertise to keep it running for multiple generations. This is why an extra governance structure called the Advisory Board (“AB”) was created to cater to the peculiarity of family businesses.
The Advisory Board
The Advisory Board is a group of experts in various fields with the responsibility of providing guidance and professional advice to owners of family businesses. This is in no way a replication or duplication of the BOD. The Business Dictionary refers to them as Individuals appointed to offer expert advise to the elected board of directors. The AB has no legislated regulatory function or framework but should be established and well regulated by the provisions of a family constitution. Due to its subjective nature, there are no specific requirements for its composition, although it is often advised that the numbers be restricted to the required expertise needed to run the relevant business.
The family constitution establishing the AB should be formulated to clearly state the roles, guidelines and scope in which the AB would function. A major example of the provisions to be embedded in the family constitution are: to what extent should the BOD be compelled to take the advice of the AB? What level of interference should the AB have in achieving the objectives of the family business? What is the composition of the AB? What is the modus operandi of the AB?
Collaboration of both Boards
A family business has two pillars holding it up; The Sociological & The Operational. In the structural framework of a family business, the BOD often focuses on the social issues affecting the business. This often centers around ownership structure, membership interference, legacy and the likes. This however can be said to be the cosmetic part of a family business.
The AB on the other hand should ensure the operational side of the business stays alive which effectively determines how long the family business survives. The technical decisions regarding the businesses’ challenges are what the AB focuses on. This means the AB must constitute of people who understand the space in which the family business operates, the uncertainty of the market trends, regulatory framework for the family business and the likes.
In a nutshell, while the BOD majorly keeps the business a family affair, the AB focuses on keeping the business alive. This two bodies should then be brought into alignment by a well-articulated family constitution.
The reason many family businesses don’t go beyond the second generation at best, is the absence of the AB. Without the AB, the family business at some point will have to choose between opening the business up to external bodies for survival OR keeping it a family business but watch it die a natural death over time. The stark difference in the success rates of family businesses in developed economies and emerging markets can be directly traced to the presence or otherwise of the family governance framework, Advisory Board being a major component of such framework.
Another major component is the Family Constitution, which will be discussed in another publication.