March/April 2017 Openers

By Barbara Spector

A PwC study of U.S. family businesses concludes that these firms must plan strategically for the medium term.

A PwC survey of 160 stakeholders in U.S. family businesses has concluded that too few family firms are developing formal succession plans, instituting governance structures or planning responses to industry-disrupting scenarios.

In its survey report, the accounting and consulting firm said many respondents appear to be neglecting medium-term strategic planning, which bridges the gap between day-to-day concerns and the family's long-term vision for the business.

Families that have established formal succession planning and strategy planning practices "tend to be better prepared for that middle period," notes Jonathan Flack, leader of PwC's U.S. Family Business Services practice.

Particularly in the founder and second generations, family business leaders are inclined to focus narrowly on immediate tactical decisions; as the saying goes, they spend too much time working in the business and not enough time working on the business.

"Families have always struggled with putting processes and formalized structures in place," Flack says.

For example, 87% of the survey respondents predicted that five years from now they would generate most of their revenues from the same products or services they offer today.

This is generally not a realistic strategy for business longevity, notes Alfred Peguero, PwC's U.S. family business survey leader. "How does that tie into the idea of growth and innovation, meeting clients' demands and needs, and [changing] consumer tastes?" Peguero asks rhetorically. He notes, for example, that companies in the food industry have had to respond to consumers' growing aversion to sugary snacks and preference for products that are free of genetically modified ingredients.

When asked what would drive their growth in the next five years, 83% of the U.S. respondents planned to increase business in their existing markets. Only 43% predicted that growth would come from acquisitions, while just 41% envisioned entry into new sectors, and a mere 26% foresaw their companies diversifying into new countries.

A parallel PwC survey of stakeholders in more than 2,800 family companies from 50 countries found a disconnect between a perceived need for innovation and the development of plans to actually achieve it. Nearly two-thirds (64%) of the global respondents cited the need to continually innovate as the biggest challenge they would face over the next five years, Yet 72% of the global study participants said their companies would have largely the same portfolio in five years, and 53% said diversification was "not important."

"The changing economy, and the way we do business in the world today, is going to put far more pressure on businesses going forward," Flack says. In an environment marked by rapidly changing technology and global competition, innovation is essential, he notes.

Leveraging capabilities

For the 2016 edition of its biennial U.S. survey, PwC conducted telephone and online interviews between May 9 and Aug. 19, 2016. Annual revenues of the companies represented ranged from less than $10 million (7% of respondents) to more than $1 billion (17% of respondents); nearly a third (31%) of the firms generated annual revenues between $100 million and $500 million.

Companies represented in the survey were about equally split between those in the first and second generation and those in the third generation and above (49% and 51%, respectively).

In the vast majority (91%) of the companies represented, the family both owned and managed the business. More than half (54%) the individuals who completed the survey were members of the family that owned the business.

Flack says the family firms that are best positioned for longevity are those that are able to diversify. "A lot of families have certain capabilities that are unique to their business, but they're also unique because they're a family business," he says. However, he notes, many family business leaders "haven't taken the time to step back and say, 'I know that my people are great, I know that my marketing is great, I know that my distribution is great. How else could those capabilities be used to grow?' " Many of the U.S.'s largest family companies, such as S.C. Johnson & Son and Mars Inc., have grown by diversifying beyond their original product line and expanding sales abroad, Flack notes.

As part of the strategic planning process, business leaders must address the possibility of digital disruption in their industry as well as their company's vulnerability to a cyber attack. PwC's findings indicate that family business owners would do well to put such scenario planning higher up on their priority list.

Only about a third (32%) of the U.S. survey participants said they think their business could be hampered by digital disruption in the short term to medium term, and only 45% said they have a strategy that is fit for the digital age.

Similarly, a third (34%) of the U.S. respondents predicted that cyber threats would be a challenge, and less than half said they are prepared to deal with a cyber attack.

"We know that family businesses are typically the slowest adopters of any technology," Flack says. The reason, he says, could be related to long employee tenure at family firms. Although employee loyalty is a positive attribute, low job turnover means fewer opportunities to bring in new hires with a broader set of digital and technological skills.

Flack predicts that next-generation members who are poised to join their family businesses over the next five to 10 years will help bridge the digital skills gap. "I think they will help at the board level, and I think they'll help at the management level," Flack says. "Because they grew up in the digital world and they grew up with technology, we think that they are extremely well equipped to help lead their families through that transition."

Plans for the future

Nearly three-fourths (74%) of respondents said they employ next-generation family members, up from 59% in 2014. But many survey participants did not envision their younger family members at the helm of the company in the future.

Only 41% of respondents to the 2016 survey said their next generation would run as well as own the company in the next five years, compared with 48% of respondents to the 2014 edition of the PwC survey and 52% of the survey population in 2012.

Just 11% of the 2016 survey participants planned to have the next generation own the business with non-family members running it, compared with 26% who envisioned this strategy in 2014. Nearly one-third (30%) of the 2016 respondents said they'd be seeking to sell to an outside party within the next several years, compared with 19% in 2014 and only 12% in 2012.

In previous iterations of PwC's U.S. family business survey, respondents "tended to be much more optimistic" about the prospect of keeping the business in the family, says Peguero. "In this survey, there's an uptick in [the percentage] that would consider selling the family business to a third party." Peguero calls this finding "a little concerning."

Would the results have been the same if the survey had been conducted after, rather than before, the presidential election? "I think the sentiment in business before the election was the expectation that growth would be flat," Flack says. Anecdotal evidence based on PwC advisers' conversations with clients combined with an increase in transactions since the election indicates that some U.S. family business leaders are expecting the economy to grow, Flack reports.

Yet concerns about the economy likely were not the only factor behind survey participants' plans for an ownership transition outside the family. Of the 2016 respondents who planned an ownership change within five years, 52% said the new owners would be family members, down sharply from the 74% who had these plans in 2014. In 2012, the percentage was even greater (76%). Notably, the figure was higher (55%) even in 2010—when the nation was still reeling from the "Great Recession"—than it was in 2016.

The current study found that family business leaders were thinking about succession, although they had not formalized their plans. More than two-thirds (68%) said they had a succession plan in place for at least some senior roles. However, only 23% described their succession plan as "robust, documented and communicated," down from 27% in 2014.

"We continue to see [that many] families have not put some more formalized succession planning and formalized strategy planning in place," says Flack.

Nearly 40% of those who completed the survey said professionalizing their business will continue to pose a challenge, whereas only about 20% answered in this way in 2014.

One cause for optimism in the survey findings was family commitment to the business strategy. Almost 70% of those who took the survey said the family and business strategies were completely aligned.

Older firms have more structure

A new feature of PwC's family business survey was a breakdown of results by generational cohort. Responses from survey participants whose companies were in the founder or second generation were compared with findings from those whose companies were in the third generation or older.

For example, leaders of older family firms were more inclined to keep the business in the family. Only 8% of survey participants from third-generation or older companies planning to sell said they would seek outside buyers, compared with half the respondents in the founder or second generation.

Older companies were more likely to grant shares to family members not employed in the business (60% of those in the third generation and older, compared with 42% of the founder and second-generation companies).

The mature firms were better prepared to diversify. Of the older companies that were sustaining double-digit growth, 40% planned to expand to new countries, compared with only 19% of those in the first or second generation. Nearly half the older fast-growth companies planned to expand into new industry sectors in five years, vs. 39% of the rapidly growing younger businesses.

The older companies were more likely to have board members in a position to help them address today's challenges. More than half the respondents from companies in the third generation or older said their boards fully comprehend the threat of digital disruption, whereas only one-third of those in first- or second-generation companies said their boards understand the problem.

Another area requiring a forward-thinking approach is succession. More than one-third of the first- and second-generation firms lack a succession plan, whereas 75% of companies in the third generation and older have some kind of plan. And while about two-thirds (65%) of survey participants from older companies said they think their next generation is being properly evaluated, only 51% of those from companies in the founder or second generation felt that way.

Flack says he and his colleagues will use the survey data to demonstrate to their clients in first- and second-generation companies the practices that more mature family firms have instituted.

"We know that Generation 1 and Generation 2 family businesses don't have a lot of structure," Flack says. "What we try to highlight to them as they transition on to the next generation is that structure is needed: structure in the succession planning, structure in the governance, structure in the strategy. The survey really helps to highlight this point. The data shows what third-, fourth-, and later-generation businesses are doing that the first and second generations are not."

Copyright 2017 by Family Business Magazine. This article may not be posted online or reproduced in any form, including photocopy, without permission from the publisher. For reprint information, contact bwenger@familybusinessmagazine.com.

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March/April 2017

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