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Overview
Product Details
| ISBN-13: | 9780230111035 |
|---|---|
| Publisher: | Palgrave Macmillan US |
| Publication date: | 01/11/2011 |
| Series: | A Family Business Publication |
| Edition description: | 2nd ed. 2011 |
| Pages: | 128 |
| Product dimensions: | 5.50(w) x 8.20(h) x 0.40(d) |
About the Author
STEPHEN L. McCLURE Principal at the Family Business Consulting Group, Inc. and specializes in family communications and decision making, succession planning and implementation, and governance & management in family firms.
JOHN L. WARD Co-founder of the Family Business Consulting Group Inc. He is Clinical Professor at the Kellogg School of Management, USA and teaches strategic management, business leadership and family enterprise continuity.
Read an Excerpt
Family Business Compensation
By Craig E. Aronoff, Stephen L. McClure, John L. Ward
Palgrave Macmillan
Copyright © 2011 Family Business Consulting GroupAll rights reserved.
ISBN: 978-0-230-11103-5
CHAPTER 1
Introduction
Two Fusco brothers and a sister own and operate the printing business started by their father 20 years ago in Cleveland, Ohio. Another sibling is independently successful in real estate and inherited assets other than company stock. Since their father passed away 10 years ago, they have made many changes to the business. In fact, change has been continuous as the business has grown and its customer and competitor markets have evolved and new, more formal management practices have been introduced in response. Among these changes has been the development of formal marketing and human resources roles, first the introduction of an annual budget followed by continual improvements each year in its use, adoption of a formal strategic planning process with short- and long-range goals and defined accountabilities, and an ever-expanding customer and prospect information system to measure and monitor service quality and sales and marketing opportunities. The three employed siblings all agree, except for long-term employees he would certainly remember, their father would not recognize the business as the one he started.
The four second-generation siblings are in their late forties to mid-fifties and have ten children ranging in age from 14 to 26. The oldest of the third generation, after successfully completing college and getting two promotions in three years in a business in Oregon, has expressed an interest in joining the family firm. Her credentials are perfect for the business. She can immediately make a very significant contribution to the quality measurement process the business has been trying to implement. The question now confronting them is: if she joins, what should she be paid?
When the father started the business, he was alone and had no need to think long term about the pay structure for the second generation. He did not know it would be a family firm; he was just trying to make the business successful and, later, trying to take advantage of opportunities for expansion. After a while the oldest of his four children joined the business, and when the second-oldest expressed an interest, there was no resistance; the business needed all the help it could get from hard-working and caring family members. When the second of their children was about to join, the founder and his spouse talked it over and decided that the pay should be the same for their two children working in what was becoming a family business. The couple reasoned that it would be hard to pay different amounts to their two oldest children, who were only two years apart in age and had always used each other as a benchmark in academic and sports pursuits, and certainly in the amount of attention they received from their parents. There was no resistance from their children. At that time, the two siblings were more interested in contributing to the exciting growth of the business.
By the time the founder retired, three of his four children were in the business, all equally compensated. The fourth child never considered working in the business. Dad and Mom had completed their estate plans and balanced the business's value for the three active children by bequeathing the family's second home in a resort community along with life insurance proceeds to their child who was not in the business. "Equal assets to the four children" was the underlying theme as they responded to their advisor's many suggestions to minimize their taxes.
Ten years after their father retired, his oldest grandchild is expressing an interest in joining the business and the siblings are meeting to consider the opportunity. Their conversation goes something like this:
* Youngest brother and parent of the candidate: I suggest we offer her 15 percent over what she is making now and provide moving expenses, just like we did when we hired the CFO.
* Sister and aunt to the candidate: I can appreciate the generosity of providing moving expenses, but as a quality analyst, on our organizational chart she will be on the same level as our supervisors in the plant and we would never pay for moving expenses to hire a supervisor.
* Youngest brother and parent of the candidate: I can understand what you are saying and it is wise to be consistent with our policy. However, everyone understands that this is a family company and family members, no matter how much we try to behave otherwise, will always be treated differently.
* Oldest brother and uncle to the candidate: She is just right for the position, and it will be great to have her and her new husband raise their family closer to us all. I am all for that, but we need to consider the consequences for what we may do in the next few years as others become old enough to join. Are we deciding that we will always pay moving expenses and provide a 15 percent increase in pay if our children want to come to work here?
* Youngest brother: You have a good point and we really need to think this through. I'm starting to wonder how we reconcile what we pay ourselves with how we treat our children. And, what about our brother's kids; he's not an owner, but one of his two boys may be very capable, may want to join, and we may very much want to have him. Our system of equal pay has not been a problem and I'd say it has allowed us to avoid a lot of problems. Maybe we should pay each one in the third generation the same too.
* Sister: While equal pay may not have been a problem for you, I consider it unfair at a basic level. We each make vastly different contributions to the success of this business, yet our pay is the same year after year. I'm embarrassed to tell the kids that we do it this way. Can we all agree that we will not repeat the equal pay rationale in our children's generation?
* Oldest brother: You have never been this vocal about your dissatisfaction with our pay system. I've thought it unfair too; however, in thinking of solutions, I've always gotten stuck when trying to figure out a way to change it.
* Sister: Yes, and now we are getting stuck on how to pay our niece. What will she think of us if she were to understand that we are going to make her play by the standard employee pay rules, yet we do not?
Compensation is at the heart of more family business questions than any other topic except succession. "What is fair pay among family members? How do I determine the appropriate pay for my son's job? How should shareholders in the business be paid? How can I resolve family disputes over pay and still have time to run the company?" All are common queries.
Pay is an immediate and tangible symbol of the family business's multifaceted relationship with the family members and others it employs. Unfortunately, cases like the Fuscos' (a composite of examples from real family businesses) are all too common. It is extremely easy to confuse a paycheck in the family business with return on ownership, parental concern, or methods of achieving emotional goals. (Please see Exhibit 1.) The result is a mixed message that can damage the business and the family. With seemingly simple decisions about pay, the three Fuscos are in jeopardy of undermining their credibility as professional business managers. If they choose to pay the younger family member anything outside what they would pay a non-family employee for the same job, they are saying, "Family members' personal needs override job contributions as a determinant of pay." Yet, like so many family firms before them, while the Fuscos have made huge improvements to the business, they are still victims of the antiquated pay system they started with and never changed. No wonder compensation poses some of the most sensitive and complex problems family businesses face.
The importance of family business compensation planning is growing as more business owners bring multiple heirs into management. As discussed in Family Business Succession: The Final Test of Greatness, our studies show that family business employment of multiple offspring is about twice as prevalent as it was even 10 to 15 years ago. Questions over how to pay family members; how to distinguish among their roles as employees, shareholders, and loved ones; and how to maintain control over pay while keeping everyone happy are driving many business owners to the brink of burnout.
No family business is immune to such tensions and misunderstandings. In one case a younger brother in a middle management job in the family business was offended by the higher salaries of an older sister and brother-in-law who had executive jobs. He surfed the Internet to conduct some misguided research of his own in an effort to prove that he should make as much as they. The resulting discord blocked important planning for months.
In another case, a second-generation shareholder not active in the fast-growing family business complained about his siblings' big salaries, company cars, and country club memberships. He disregarded the fact that in addition to paying him and other shareholders ample dividends, his siblings had tripled the size of the company, multiplied the value of his holdings, and used the perks mostly on company business.
In another common problem, the details of employee compensation issues can mount to overwhelming levels in a growing business, engulfing the entrepreneur in minutiae. As business owners spend more and more time on individual compensation questions, most at some point throw up their hands and say, "This pay and benefits business is crazy! We've got to have a system that makes all this make sense. We need some rational basis for these decisions—not all this stuff about people's emotions and personal needs!"
Whether frustration or proactive management produces systematic compensation policies, the result encourages professional growth among family members and other employees, as well as strategic business goal accomplishment. A rational system involves communicating a clear understanding of the value of various company jobs. It means weighing family members' expectations about lifestyle and, often, encouraging them to accept financial responsibility for themselves. It also means grasping a powerful tool to educate employees about the business, foster their trust, and motivate them to perform well.
To accomplish this, many family businesses find they must discard some extremely common and popular notions about using pay for other purposes—ideas that can seriously hamper sound planning. Some of these notions, including several affecting the Fuscos, are summarized in Table 1 and are examined in greater depth in Chapter 5.
Chapter 2, will explore some principles in developing a philosophy of compensation and provides examples of different philosophies to match variations in types and stages of family firms. Chapter 3 provides a quick course in how businesses establish rational market and merit pay systems. Chapter 4 offers practical guidance on special issues such as the role of compensation in providing support for retiring business owners, compensation for non-family executives, recruiting employed family members, and the use of a board compensation committee and a compensation consultant. Chapter 5 provides forewarning information to help avoid pitfalls and offers transitioning steps for moving from pay systems that are not sustainable to rational market and merit pay practices.
Chapter 6 describes ways to build trust in the compensation system among family members, employees, and other constituencies. Finally, Chapter 7 offers ideas to help shape the expectations of family members and others around the ideals and goals that underlie sound pay practices.
CHAPTER 2Compensation Philosophy
For many business owners, recognition of the need for change in compensation practices begins a process of transformation. As they try to develop some kind of system, most family businesses create a philosophy of compensation and a way of communicating it to employees. In the process, compensation becomes a tool for carving out new milestones.
That's not to say that the business owner must embrace a rigid, bureaucratic method that eliminates human judgment or an owner's prerogative. We know of no foolproof compensation system that has employees consulting a graph or pushing a button on a computer to find out what they will be paid next year. Rather, business owners at this stage, often with the help of directors or professional advisors, focus on systematically aligning compensation with their goals and mission for the business.
This section outlines the first step in building a rational compensation plan: developing a philosophy of compensation that builds a framework for base pay and incentives tailored to the special values, goals, and needs of the particular family firm.
DEVELOPING A PHILOSOPHY OF COMPENSATION
A good compensation plan should provide incentives so that everybody involved in the business works for what is best for all. To accomplish that, the plan must reflect the business's core philosophy.
A philosophy of compensation is a summation of the values, goals, and principles that guide all decisions about salary, benefits, and perks. It provides a framework that relieves decision makers of the burden of developing each compensation package individually. Building and describing this framework can force business owners to assess their most fundamental goals.
A central question is how the company remains competitive. Some companies, for instance, stress increasing shareholder value. This emphasis on profit maximization underlies a belief in hiring and retaining people at relatively low pay, charging customers higher prices, and keeping supplier costs low, resulting in the best possible returns to shareholders.
Others take an employee-driven approach that focuses on creating the best possible opportunities and environment for employees. This reasoning holds that if employees are encouraged through attractive pay, benefits, and perks to perform at their highest potential, stockholders, customers, and other constituents will benefit from improved productivity, efficiency, and quality.
Other businesses put service to the customer first on the list. This reasoning holds that if customers are attracted and retained through low-priced, high-quality products, the business will grow, creating new jobs for employees and higher returns for shareholders.
Most business owners would agree to some extent with all of these priorities. The question is usually one of emphasis—which of these goals do strategists stress most often, and which are the most central to their mission? The answer can strongly influence how compensation philosophy is determined and articulated.
Another philosophical issue that impacts compensation is the owners' attitude toward risk. Those who believe that the risk and the rewards accrue to the owners tend to focus compensation on a relatively fixed salary. Those who believe that employees should participate in business risk may make salaries lower and variable bonuses a larger part of total pay.
Another central issue is determining how jobs are valued. The backbone of compensation policy might be, for instance, that everyone is paid according to the market value of the job performed. Other family businesses may add "qualitative" criteria, such as the leadership, communication, or analytical abilities required to do a particular job well in a particular company. (See "Job Evaluation" section in Chapter 3.) Still others may decide to pay family members equally, reflecting an attitude of "one for all and all for one."
Whatever the choices made on these issues, the fundamental requirement is that the compensation philosophy provide for a consistent, aboveboard approach to pay.
SHOULD WE EMBRACE A MARKET APPROACH?
To avoid problems, there is no substitute for paying people based on the size and difficulty of the job and in relation to comparable jobs at comparable companies. In other words, the marketplace provides the basis for compensation policy and owners should make sure that everyone understands how pay is determined.
Market value is a fair and consistent guide to setting pay, and it is relatively easy to explain to employees and shareholders. Simply put, a market value philosophy means you pay an employee what it would cost you to hire someone else to do the job. Its objective basis reduces the potential for misunderstanding and manipulation. It gives family members and other employees a realistic view of the value of their work, and it drains negative emotion from sensitive family interactions over pay.
Yet "pay people what their job is worth" is easier to say than do. Some family businesses decide for good reason not to embrace a market value approach, and any business considering doing so for the first time should stop to consider the ramifications.
In some businesses, pay has been set on non-market criteria for a long time. Some family members and other loyal employees may have been increasingly overpaid over the years. Family members who have been relatively underpaid may not see any reason to stir up the issue and hurt people's feelings. The status quo may be acceptable, and introducing market data or consultants' appraisals that expose inequities may only open unnecessary wounds.
Before taking even preliminary steps to seek data or make comparisons with other businesses, the following questions should be considered:
1. How has pay for family members been set in the past?
2. Are there important reasons to change to a "market value" approach?
3. If we do get objective data and it shows significant inequities, what will we do then?
These issues are especially important when the business is passing to a new generation of family members. During preparation for succession, members of the younger generation should meet to discuss the above questions and decide whether a change is needed.
(Continues...)
Excerpted from Family Business Compensation by Craig E. Aronoff, Stephen L. McClure, John L. Ward. Copyright © 2011 Family Business Consulting Group. Excerpted by permission of Palgrave Macmillan.
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