Last week, business dailies reported two news items from the corporate world with prominence.
The first news item relates to Infosys Limited. The last of the founders has exited the company. Founders have asked to be considered as ordinary shareholders, and not promoters. Narayan Murthy has declined to continue as Chairman Emeritus. He will adopt a hands-off approach and will not get involved in management of the company.
However, before relinquishing office, he appointed Vishal Sikka, a professional manager as CEO. The promoters holding in the company is around 16 per cent.The next news item relates to Reliance Industries Limited (RIL). Two young siblings, daughter (Isha) and son (Akash) of Mukesh Ambani and Nita Ambani have joined the boards of two subsidiaries of RIL, Reliance Jio Infocomm and Reliance Retail Limited. Both are 22-year-olds.
Thus, the third generation of Ambanis has joined the family business. Which of the two news items is more important from investors perspective? Founders of Infosys are technocrats and first generation entrepreneurs.
None of them belong to any business family. They controlled and managed the company as professionals. Therefore, their exit as promoters would not change the basic structure of corporate governance, except that it might be a bit easier for the board of directors to sack the CEO, if necessary, in a crisis situation, for example, if the company fails in the product market or capital market. It is good news only to the extent that Sikka will get a free hand in driving the company.
Appointment of Isha and Akash as directors of subsidiaries of RIL is to be viewed as a part of the grooming process. Globally, the trend in family business is to educate and groom the young generation to enable them to take higher responsibilities of managing group companies.
Mukesh Ambani was inducted in RIL at the age of 24. Induction of the third generation in a family business is very important news from investors perspective. This ensures longevity of the business and continuance of the family culture. The general perception is that the quality of corporate governance in a family business is not as good as it is in a non-family business.
This is a myth. In a Harvard Business Review article (What you can learn from family business, HBR, November 2012) the authors reported that their research could collect evidence that family business is more resilient than companies that are not family-controlled.
The findings are based on the study of 149 publicly traded, family-controlled businesses, with revenues of more than $1 billion located in United States, Canada, Portugal, Spain, France, Italy and Mexico. The way those companies are managed was compared with comparable companies, which are not controlled by families, in the same sectors and same countries. Research results revealed that during good economic times, family-run companies dont earn as much money as companies with a more dispersed ownership structure.
But when the economy slumps, family firms far outshine their peers. Stewardship for future generations comes naturally in family businesses. Strategy choices of family businesses are different from those of non-family businesses. Family businesses focus on business sustainability and they balance short-term and long-term better than non-family businesses.
Family businesses have their own challenges. The most important question that family businesses often face is whether the family should get predominance over business. Researchers have reported that successful family businesses skillfully balance family governance and company governance.
However, it is not uncommon that family businesses go through crisis because of its linkage with family governance. Similarly, family businesses often face crisis during transition from one generation to the next.
Succession planning, sibling rivalry and dispute among family members often put family businesses in difficult situations. The board of directors plays a totally different role in those situations than what is written in rule books. In those moments of crisis, the board guides the company to navigate through the critical phase.The responsibility of the board of directors is to help the company in enhancing firm value.
In a non-family business, the primary responsibilities of the board of directors are to appoint the right CEO and to ensure right strategy choices, balancing short-term and long-term.
In a family business, primary responsibility of the board of directors is to act as a sounding board, except in a crisis situation. In both types of companies, independent directors are expected to protect minority shareholders from management misfeasance. Making too much noise about the monitoring role of the board of directors in family businesses will do more harm than good to investors. One size does not fit all.