Private Wealth

January 2011 issue

The Outsiders

One of the scariest decisions a family business may face is whether to hand a key management position to someone outside the family circle.


About five years ago, in the twilight of their lives, a husband and wife of 48 years decided to divorce. As the two struggled to continue working together in a company they co-owned for decades, the recession hit, throwing the $15 million family manufacturing business into chaos. Sales dropped and the product they produced became increasingly obsolete. After years of priding himself on the company’s communal atmosphere and annual picnics, the man—we’ll call him Pete Johnson, as he wanted to remain anonymous—was forced to lay off about a third of his 120 employees.

Nearing 75, Johnson was at an age where he was starting to step away from his business. But he found himself having to step back in—perhaps more than he ever had. He started spending more time at the office, working closely with his ex-wife, and amid the arguments and the economic turmoil, the couple realized something: They had two sons, one who headed up operations and one who ran sales and marketing, and they weren’t comfortable relinquishing control to either of them. They weren’t convinced either son had the skills to run the entire operation.

“My mother and father were united on one thing. They wanted to keep control of their own economic destiny,” says Johnson’s

elder son, the sales manager.

In the midst of all the turmoil, Johnson did what a lot of people who run a family business have done: He hired an outside consultant. The consultant recommended an outside person be hired to take on one son’s operational duties. He also suggested an insider be promoted to head up sales and marketing. Johnson followed the advice and within eight months the operations person was fired. The sales head resigned last month.

“Both were gone because the sons wanted them gone,” the elder son says. “And in a family business, you better shoot the sons in the head and bury them in the parking lot. Otherwise, (this kind of strategy) is probably not going to work.”

He pauses and reconsiders. “In this case, probably the simplest way of saying it is that family dynamics and economic circumstances doomed this idea, even if it was a good one.”

When a family hires an outsider to come in, it’s usually because the status quo isn’t working, says Marilyn Belleghem, a family business consultant in Ontario, Canada. But how well that person will work out depends on whether family members accept the outsider or view him as an invader—reacting to him the way white blood cells react to a foreign substance in the bloodstream.

Belleghem has seen family businesses hire a bookkeeper or sales person and relieve an enormous amount of stress among family members. Employees become more productive and families can’t believe they didn’t hire someone sooner. Then there are family businesses that can’t differentiate between a bookkeeper who pays the bills and someone who is going to take control of the company’s finances. The owner of the firm may become stern, holding too tight a rein on the new employee, double-checking his work.

“The ability to delegate and trust can be very difficult for someone who’s always done everything on their own,” Belleghem says.

Sometimes the “outsiders” in a business are closer than you might think. Luke Napoli’s parents started a mobile shredding business in South Jersey in 1991 and by 2003 it had grown to the point where they wanted to sell it and take the profit. But by that point, the marriage had deteriorated to where they wanted to get divorced.

Napoli says they often fought about money because his father created the business and his mother came in later and ran the books. She was more conservative about spending and his father viewed her as some back-office person trying to tell him how to run his company, Napoli says.

“The business tore them apart. And it forced employees into awkward positions because they had to take sides in arguments,” says Napoli, who worked for his family’s business from age 12 until it was sold. “My parents were absolutely incapable of separating their personal animosity toward one another from operating a business.”

Candace Talmadge worked for a broker-dealer in the 1990s founded by a husband-and-wife team, but the family’s dysfunctional dramas were played out regularly in the office. Just before the firm was slated to go public, the husband, who headed up the firm, initiated divorce proceedings against his wife, and the animosity between the two of them only got worse. One day the two of them walked a circuit through the entire office, arguing at the top of their lungs, making everyone around them squirm.

“We all just hunkered down at our desks and didn’t move or speak until the show was over,” Talmadge says. “They hired second-in-command people, but they all tended to leave. It was a really bad environment.”

Family businesses usually hire outsiders to key management positions if there’s either an internal crisis no one in the family can handle or if there’s no internal heir capable of taking over. In those cases, the firm may hire an outsider on an interim basis that may last years—until that family member can get up to speed. Some 10% to 15% of U.S. family firms are managed by non-family executives, according to a 2009 report by Barclays Wealth and The Economist Intelligence Unit.

One of the most notable cases is that of Henry Ford II, who was not ready to lead the automaker when his grandfather died, so an outsider was hired as interim CEO until the younger Ford was ready.

“Those circumstances work if you’re up front with the candidate,” says James Olan Hutcheson, president of Regeneration Partners, a Dallas-based consultant that deals with family businesses. He says an executive not too far from retirement might not mind stepping into a mentoring situation, so long as company officials clearly define the outsider’s role.

Bringing in an outsider, however, won’t work if the person is hired for the wrong reasons. Sometimes, a non-family member is installed as president because, for example, two brothers can’t agree on who should take the position. That’s a recipe for disaster, Hutcheson says.

In a family business, the foundational question members have to ask themselves is, are they going to make decisions related to the business that are in the interest of the business or in the interest of the family? Hutcheson says. For the business to work, the answer must be the former.

“That’s the key that turns the entire machine,” he says. “Without that clarity of understanding, you end up with a bunch of noise that just serves to damage and hurt the family and the business.”

Jessica L. French, 29, chief operating officer of W.L. French Excavating Corporation in North Billerica, Mass., says her family firm works because they put business first, family dynamics second. For instance, French’s oldest sister, 38, is an authority figure in the family, organizing family gatherings, acting like older siblings might act. But in the family business, she has a subordinate role because while her siblings were working for their father, she was getting married and raising a family. Now that her children have grown, she’s rejoined the family business but sometimes chafes at the fact that she must answer to her younger brother and sister.

“She came in later and hasn’t earned her stripes,” French says. “It was hard for her having her younger siblings telling her what to do, but this is a business, and either you know your role or you’re out.”

That may be easier said than done, says Sue Ouellette, a nurse practitioner turned business consultant near Baltimore. A family enterprise may be a business, but the inherent dynamics in the family structure, dysfunctional as they may have been, don’t simply go away.

“The business is a microcosm of what the family was like,” she says.

Ouellette says when she would fly from her home in Seattle to her parent’s house in Boston for holidays, she’d have to sit in her car in the driveway for ten minutes before going in because she knew once she walked through the door she’d revert back into an 8-year-old in the presence of her parents. She wanted just a few more minutes of being a rational adult before that happened.

“All that stuff is only amplified in a family business,” she says. “If I was an outsider coming in, I wouldn’t just want to talk to the CEO. I’d want to talk to other people who work there. I’d want to know a lot before I went there.”

But even if the outsider wants to come in, non-family members don’t have a fighting chance unless family members accept them. And for that to happen, communication is vital, Ouellette says. If the son is a foreman in a construction business, and the father brings in a consultant that has nothing to do with the son’s role, so long as the father communicates what he is doing and why, it shouldn’t be a problem, Ouellette says. But if, say, the daughter is the father’s right-hand man, and he decides to bring in someone as CFO, she might feel threatened. She might even throw a temper tantrum. In any business, someone might feel betrayed. But when it’s a parent/child relationship, the betrayal can cut even deeper.

“For the consultant coming into something that wasn’t agreed upon by everyone, that can be a nightmare. They will never fit in,” Ouellette says. “That person will probably be sabotaged.”

The reality is, more times than not, bringing in an outsider will not work, she says. That’s because in most family businesses, communication—whether it’s a discussion about bringing in an outsider or about issues that have arisen out of the natural family dynamic—is often poor, she says.

“I would say it doesn’t work out more than it does,” Ouellette says, though it depends on your definition of “working out.” If you call a company that is growing and is somewhat profitable, but family members are barely talking to each other because one brother is making more than the other and they can barely be in the same room as each other, then perhaps there are companies that have hired an outsider and prevailed, she says.

“There are a lot of companies out there making a decent profit, but if all the family members were on the same team, working synergistically and were able to talk to each other about issues as they came up, would it be more profitable? I’d say so,” she says.

Indeed, only about 33% of family businesses make it to the second generation. Just 12% make it to the third, and only 3% make it to the fourth, according to the Family Firm Institute.

Cameron Rogers, who worked his whole adult life for his father’s company, Legacy Pacific Land Corp., a real estate development company in British Columbia, agrees that the success of bringing in outsiders largely depends on how family members—particularly the CEO—treat and view that outsider.

“We brought in some pretty highly paid outsiders, but my father wouldn’t let go of the day-to-day decisions to them. Everything required his approval and sign-off,” Rogers says.

Conversely, families who can delegate have brought in outsiders that wind up serving the family and providing opportunities for family members and dividends for the business. They turn the family business into a professional enterprise, Rogers says.

“If you bring in outside managers, but you don’t change your culture or give them normal decision-making powers, you end up with people who resent you and the family and will do whatever they can to tear the family apart,” he says.

If a family is pulling together and everyone is going in the same direction and has trust, you can accomplish a lot of things that you can’t accomplish in a non-family business, Rogers says. There’s a higher degree of trust. And while outside employees come and go, family members can be there permanently, he notes.

Outsiders aren’t always a panacea. Jeff Sands, a director at Dorset Partners, a turnaround company based in Dorset, Vt., says outsiders can actually ruin a family business, largely because, like proprietary traders at a big Wall Street firm, they’re taking risks with other people’s money.

Sands’ father, a serial entrepreneur, started a family business more than two decades ago that sold home décor supplies. The family owned it until it was sold in 2006, but several years before the sale, they brought in outside management. Sands’ father retired and Sands became preoccupied with a new business he had launched. He brought in a chief financial officer, who he then promoted to be president. The new president brought in his own management team, but it “complicated the hell out of what should be a simple business,” Sands says.

“They were burning through cash and running into trouble, and then cooking the books to make it look good,” Sands says. “They spent more than they were bringing in.”

The information technology department, for instance, was increased from two to eight people.

“We had a simple little business that sold nice pieces to simple folks, and we made a ton of money doing it. And they thought we didn’t have enough systems and processes, and so they over-complicated it,” Sands says.

Sands says a fatal flaw was in offering the management team a stock appreciation program so they could enjoy any appreciation in the business. But, for the outsiders, there wasn’t a downside if profits fell.

“The downside was the bank threatened to take my house from me,” Sands says. “They were playing big games with my money.”

He wound up firing the whole team and fixing the business, mostly by getting rid of all the stuff they added.

Sands says most people who own a family business don’t want to bring in outsiders either because they’ve heard horror stories from those who have—like himself—or they’re control freaks and can’t relinquish power.

“You can’t have an entrepreneur without having ambition, and you can’t be an entrepreneur without being a control freak,” Sands says.

Then there are the unquantifiable factors that might have made a business work for the person who founded it but may not work for a smart consultant brought into management. His firm was fashion-oriented, and his family managed to pick colors that were in demand from year to year. But if you bring in someone who gets the colors and hemlines wrong one season, you’re toast, he says.

But more than that, owners don’t mind picking up garbage in the parking lot, or driving to some small boutique in Alabama to make a sale. Outsiders aren’t as likely to do that, Sands says.

“But heck, that’s the whole business. We’re selling to folks like that. The owner has no ego when it comes to the customer base,” Sands says.

“Fancy-pants management guys” may not feel the same, he says.

“My advice is, build it, sell it, and do it again if you want to. But don’t even try to move it on to the next generation or someone else outside,” Sands says.


© Copyright © 2011 Charter Financial Publishing Network Inc. All rights reserved.