Family first

One of the earliest successful producers of personal computers was Massachusetts-based Wang Laboratories. Led by Shanghai-born An Wang, the company was a dominant player in the home computer market in the 1970s and 80s. An Wang was known as the "indispensable leader," and in 1972 when the company had 2000 employees, already no fewer than 136 people reported directly to him. At its peak, Wang Laboratories had annual revenues of US$3 billion and employed over 24,000 people, making it one of the Boston area's largest employers. But in the mid-1980s, Wang nominated his son Fred as his successor to become company president. In the Massachusetts meritocracy there were cries of nepotism. Senior managers resigned, product innovation and delivery faltered, and debt increased exponentially. Wang Laboratories lost 90% of its capitalisation in four years, and by 1992 had filed for bankruptcy.

The spectacular implosion of Wang Laboratories highlights an Achilles' heel of family-run businesses; securing the family dynasty. No surprise then that succession planning is an overwhelming concern of family business owners.

We should not underestimate the great sense of satisfaction that owners, especially business founders, derive from their lifetime's work. A sense of self-identity, enjoyment of exercising privileges, satisfaction of a need for belonging and intimacy, respect for perpetuating the family reputation can all add up to a deep sense of emotional fulfillment. This "socioemotional wealth" is conceptualised to satisfy the family's needs, including family control and influence and renewal of the business through succession.

Succession is more important than growth

The chairman of multinational special vehicle giant Terberg Group, recently said that ensuring the continuity of the conglomerate as a family business "is more important than growth." Controlling owners tend to take family's affective needs, rather than pure profitability, as a reference point during the decision-making process.

According to a report by INSEAD, family firms account for about 70% of GDP in the global economy and 60% of global employment. In China, family businesses are estimated to represent more than 60% of all private-owned companies listed. The effect of such an emotional rationale is pervasive. In this article, we look at how different aspects of socioemotional wealth shape business strategy in the context of new industry entry decision.

Preservation of family influence

In 2019, Deloitte's Family Business Center polled 791 executives of family-owned businesses from 58 countries around the world. 68% of controlling owners surveyed intended their companies to be handed down within their families. So, the decision-makers of family business are inclined to maintain the status quo of family control and constrain the influence of outsiders.

Family control can limit opportunities for outside professional managers

To maintain the control of the group, the controlling family is likely to maintain a centralised management style and to be personally involved in both key decision-making and daily operation. But such engagement reduces the availability of executive positions to nonfamily managers. In INSEAD's survey of Asian family firms in 2017, about 89% of CEOs were family members. According to Cruz's research published in the Academy of Management Journal, the mean proportion of family members in top management teams (excluding the CEO) was 49% in Spain's family-owned businesses. Country Garden, one of the largest Chinese family groups ranked by the 2019 Global Family Business Index, had four family members in its team of eight executive directors.

The domination and engagement of family members discourage existing nonfamily managers because they are unlikely to reach the top management positions. However, the talents and inputs of nonfamily managers are particularly valuable in the pursuit of new industry entry, which, by nature, deviates from the group's existing businesses. Knowledge, skills, and experience are required which are beyond the reach of the controlling family. When one of the largest Chinese real estate developers, Evergrande group, diversified into the production of bottled spring water, they poached Hua Zhang who was serving in Nongfu Spring, to take charge of marketing Evergrande Spring. They also approached another outsider, Huafeng Yang, who had expertise in logistics management. Conversely, the exclusion of nonfamily managers from the core management limits the family business groups' capability to diversify.

Family business groups are reluctant to raise external capital

Family owners generally shy away from borrowing external funds because they perceive high leverage as high dependence on outsiders along with escalated bankruptcy risk. Typically, such funds are raised through debt and equity financing. But in equity financing, controlling owners usually need to concede certain ownership and control to outsiders such as institutional investors. Deloitte's 2019 Global Family Business Survey found fewer than 34% of respondents willing to sacrifice company control to drive greater success.

The presence of such external owners or board members is usually associated with a more independent governance structure that monitors and constrains the controlling family. For example, firms with more non-executive board members are found to be more likely to engage external auditors to monitor the management. Such a structure may also enforce accounting, financial, and human resources practices that minimise controlling owners' prerogative. Therefore, external financing constrains controlling owners and may lead to goal conflicts between outsiders and the controlling family. In these circumstances, controlling owners tend to be reluctant to borrow external capital to support an active diversification programme.

Securing the succession is a challenging path

Family dynasty succession aims to ensure a smooth transition to future generations. Transgenerational continuity is a common goal of controlling owners. The effects of succession of family dynasty on decision-making may vary according to the level of complexity that controlling owners encounter during the succession process. As the number of family members increases and more people become involved in the distribution of family assets, succession becomes a more complex challenge. Family members are more likely to form coalitions and raise conflicts among one another because of different objectives and goals.

After the death of Guccio Gucci, the founding patriarch of the fashion giant, the company was split 50-50 between his sons Aldo and Rodolfo. Rodolfo passed all his shares to his son Maurizio. Maurizio allied with Aldo's son Paolo, to gain control of the board of directors. After that, he dismissed his uncle Aldo and moved Aldo, Paolo and Aldo's other two sons out of the company. After several years, Maurizio proved to be an unsuccessful president. To avoid his ownership being split by three cousins, Maurizio cooperated with an outsider, selling the majority stake of family-owned equity to Investcorp. But eventually Maurizio himself was voted off the board of Gucci and Investcorp took control.

These conflicts are particularly salient in the context in which the rule of equal inheritance of family assets applies, particularly in Chinese societies. This considers each household (家) as a basic unit of the kinship system. All children of each household, in some cases all sons, receive equal shares of the family assets (分家) after the father passes away. Youtheng Wang, a Taiwanese tycoon, once said, "If one family member gets a Mercedes- Benz, I will make sure every other family member will also have one." Compared with a system in which the eldest child takes control, the institution of equal inheritance induces greater complexities and conflicts.

Escalating conflicts within a family are usually detrimental to the longevity of the family business. Yung Kee, a famous restaurant known for its roast goose speciality, was once a go-to for locals, a pilgrimage site for tourists, and an integral part of Hong Kong's culinary landscape. When the founder died, the ownership of the company was divided among his three children. Two sons, Kinsen and Ronald, each equally owned 45% of the shares, whilst daughter Mei-ling held the remaining 10%. The two brothers had totally discrepant business philosophies, one conservative and the other aggressive. They disagreed on just about everything, sowing discord within the family and among employees. Eventually, with the support of his sister, Ronald bought her 10% and thus took the controlling share. The dispute intensified after Ronald's son was appointed as a director. Kinsen launched a lawsuit to force Ronald to liquidate the parent company of Yung Kee. The five-year court case exhausted the family and brought unwanted media attention. The restaurant's reviews were no longer raves. Yung Kee lost its precious Michelin star in the meltdown.

Diversification contributes to the mutual independence of successors

New industry entry can be a solution that resolves the challenges of family dynasty succession. Entering a new industry can carve out a specific business sector for each of the entitled children, satisfy their needs for autonomy, and thus reduce conflicts and facilitate harmony within the controlling family.

In his book "Chinese Family Business and the Equal Inheritance System: Unravelling the Myth," Victor Zheng records an interview with a director of Chiu Chow Chamber of Commerce, who owned a large general commerce group. The director said:

"In the 1970s, I found all my sons became mature. If all of them joined the same business, it would be risky and conflicts would be inevitable. I therefore diversified our business to different areas. For instance, since my eldest son had good connections and experience in semiconductor production, I went into this field and made him responsible for it. My second son had an interest in button production and he was then assigned to take charge of this area. My third and fourth sons led the property investment firm. Each son had his own territory."

Two other directors also reported to Zheng that they had diversified their business to different fields with quite similar rationales and patterns.

A new business sector can serve as a learning platform

New industry entry can also create a learning platform and provide career opportunities for descendants. The next generation, especially those who are new to the family business, are able to enhance their management skills without impairing the core business. In addition, they can be better prepared for the succession by establishing their leadership and enhancing their status in their respective organisations. As pointed out by the founder of Veronesi Group, one of the top players in the food industry in Italy, the purpose of diversifying into the financial sector was "to enhance the succession process by giving shares to all my five children and in particular an increasing responsibility to the three males, who were actively involved in the business."

Sunac China Holdings, founded by Hongbin Sun, is one of the top five real estate developers in China. In 2017, Zheyi Sun, son of Hongbin Sun, joined the team of executive directors after spending three years in different departments. In the same year, Hongbin Sun diversified Sunac into the cultural sector by purchasing the equities of LeEco and acquiring a 91% stake of cultural and tourism projects from Wanda. Then, in December 2018, he established Sunac Culture Group. Subsequently, Zheyi Sun was named as President of Sunac Cultural. According to an internal interviewee, this appointment will prepare Zheyi Sun for taking over the family business.

Founder generation or not?

The level of affective attachment varies according to the generation of the controlling owners. To the founder generation, the family business is not only a financial source to provide for descendants but also the crowning achievement of a lifetime of endeavour. Affective attachment gradually accumulates as family dynamics and business growth interact over time. The founder generation prefers to adopt a "paternalistic" management style characterised by concentrated management control, authoritarian hierarchy, and distrust of outsiders. They are more likely to avoid hiring new employees to protect family members and loyal employees, and thus are less willing to enter new industries.

The founder-generation owners perceive a strong desire and obligation to sustain the family business and are likely to prefer strategies that reduce potential family conflicts and ensure smooth succession. They also recognise the high cost associated with shutting down the business. Successful internal transition demonstrates that their accomplishments will continue into the next generation, bringing glory to the founder and the family name in the process.

In comparison, the successor generation usually has not experienced the challenges and hard work of the start-up process and, thus, enjoys less privilege and status. Some may take over the family businesses because of filial piety, family tradition, or social pressure. They may be less motivated to be actively and personally involved in business management and control. Others may prefer to pursue personal interest and take a career path outside the family business. Therefore, successors are less sensitive to the negative bearing of the new industry entry on family influence.

The successor generation also commonly lacks a close bond with, and respect from, existing business stakeholders. They may face constant power contests among siblings and other family members. They are less sensitive to the need to provide family assets and career opportunities to their family members during the family dynasty succession.

Study of Taiwanese family businesses

We conducted an empirical research with a sample of 80 of the largest Taiwanese family business groups. Our findings were published in the Journal of Management last year. We showed that controlling owners are more likely to enter new industries when crunch time comes around and long-term family succession is at stake. They are, however, less likely to act due to direct family influence, for example the short-term interests of family board members. These tendencies are stronger when the founder generation is still in control.

The demands of family succession also affect the organisational approach to entering a new industry. There are two main choices; innovate within the existing structure or form a new firm outside the existing company.

If the family decides to work within the existing business group, a new division may be established, or a legally separated firm. These kinds of arrangements offer important advantages. They usually require fewer initial resource commitments, such as human resources, information systems, or financial structures. They also reduce the risks of external scrutiny and financial distress, and thus better protect family control from being diluted.

Establishing a totally new firm, however, has its own distinct advantages in perpetuating the family dynasty. A legally independent firm provides more opportunities to nurture the various interests of family descendants and creates more space to promote them. It is also likely to incur fewer family conflicts and less erosion of the established businesses during family succession.

Overall, our results underline the importance of fulfilling the emotional needs of the controlling owners, particularly in the founding generation. By demonstrating a path through which family firms can evolve from small-scale family entrepreneurs to larger family-owned entities and eventually to business groups, our study illustrates the extent to which family considerations influence firm evolution.

Advice for stakeholders

Stakeholders in family firms should recognise the multifaceted nature of owners' emotional attachment to the business. Understanding different dimensions of socioemotional wealth has important implications because family owners are rarely open about their pursuit of personal affective needs. It is clearly prudent for stakeholders to be aware of different rationales, so that they can make an effective intervention or a better preparation for all possible outcomes.

The contingent effects on different generations suggests the particularities of different decision-makers. Stakeholders can identify more attributes to categorise controlling owners and find patterns of their cognitive processing.

Advice for owners

For controlling owners of family business, subtle personal affective needs may sometimes conflict with financial interests of the firm. As illustrated in this article, the exercise of family control can lead to a focus on short-term interests while the transgenerational intention reflects an extended time horizon. Controlling owners should be conscious of potential conflicts between economic and emotional rewards or between different affective needs, and then make a better trade-off.

Controlling owners also need to keep in mind that outside stakeholders in family firms may have their own affective needs. For example, employees may indeed have emotional attachment to the family firm in some circumstances. Controlling owners can build on such socioemotional linkages to reinforce employees' commitment and contribution to the profitability and longevity of the family business.