Family Governance

Family Governance

Family governance is a crucial aspect of managing wealth, especially in large families where wealth is concentrated in a family business. It involves a system established by families to ensure the effective generation, transition, preservation, and growth of wealth over time. This system is particularly important in mitigating issues such as generational conflict, sibling rivalry, and other tensions that can negatively impact decision-making regarding the family business and wealth transfer.

Family governance is a system established by families to ensure the effective generation, transition, preservation, and growth of wealth over time. For instance, the Walton family, owners of Walmart, have a robust family governance framework that has helped them maintain their wealth over generations.

Purpose of Family Governance

The main purpose of family governance is to manage and mitigate issues that can lead to the decline of family-owned enterprises. These issues include generational conflict, sibling rivalry, and other tensions that can negatively impact decision-making regarding the family business and wealth transfer.

Governing Bodies

The governing bodies associated with family governance are responsible for managing and mitigating the issues that can lead to the decline of family-owned enterprises. These bodies play a crucial role in the effective private wealth management of the family.

Wealth Transfer Across Generations

Issues related to wealth transfer across generations are particularly relevant for families with wealth concentrated in a family business. These issues can be managed and mitigated through effective family governance.

Family Governance for UHNW Clients

While issues in family governance might seem to apply only to Ultra High Net Worth (UHNW) clients, a sound family governance strategy is a crucial component of effective private wealth management even for those families whose wealth is significantly lower. For many of these clients, family governance tends to be closely bound up with the management and succession of the family business.

Application of Governance Principles

Private wealth advisors can leverage the principles of good governance in their support to clients. For instance, consider the Walton family, owners of Walmart. They have a family governance structure that helps them manage their vast wealth and make decisions that align with their family values and goals. This structure also aids their relationship with their private wealth advisor, enabling the advisor to comprehend the family’s values and goals better, thereby providing more effective support.

Family Office Management

Good governance principles, although seemingly unrelated to a family setting, can be instrumental in managing a family office. For example, the Pritzker family, known for their Hyatt Hotel Corporation, uses these principles to ensure their family office runs efficiently and effectively, making decisions in the family’s best interests.

Seven Principles of Good Family Governance

Family governance involves balancing the interests of a family’s many stakeholders such as its members, management, customers, suppliers, financiers, government, and the community. The principles of good family governance include competence, objectivity, and collaboration.

Competence

Competence is a critical aspect of family governance. For instance, in a family-owned business like Walmart, decision-makers need to be well-informed and proficient in their areas of work. Safeguards should be established to prevent unqualified family members from assuming positions of authority. Criteria and qualifications should be set, similar to how a board of directors is chosen in a corporation. Provisions should also be made to remove a family member from a decision-making role in case of diminished mental capacity or family discord.

Objectivity

Objectivity in family governance involves applying facts, rational thinking, and good judgment in decision-making, while minimizing cognitive biases and emotional influences. This can be challenging due to personal histories and relationships among family members. For example, in the case of the Ford family, good governance would involve honest evaluation of decisions, assessing whether outcomes align with the family’s original goals.

Collaboration

Collaboration is key in family governance. It applies to interactions among family members and their interactions with their private wealth advisor and other external advisors involved in managing the family’s wealth. For instance, in the Rockefeller family, effective family governance could be disrupted not by disagreements among family members, but by the unprofessional and self-interested behavior of their external advisors and staff.

Integrity

• Integrity is a fundamental principle in good family governance. It forms the bedrock of trust, which is indispensable in any governance document or agreement. For instance, in a family-run business, integrity ensures that all members adhere to the agreed-upon rules and regulations, fostering a healthy working environment.
• Every governance document is inherently incomplete as it is impossible to specify all the relevant rights and responsibilities in every conceivable circumstance. For example, a family trust document may not cover every possible scenario of asset distribution, hence the need for trust and integrity.
• Trust becomes most important in areas where the contract or agreement is silent. This trust is based on the belief that the other party will act honestly and keep their promises, i.e., act with integrity. In a real-world scenario, this could mean trusting a family member to manage a shared property fairly and honestly.
• Without this core belief in integrity, joint actions can become fraught with friction and difficulties. For instance, disputes may arise in a family business if members believe others are not acting with integrity.
• Depending on the history and experiences of a particular family, this trust may already be present. However, acting with integrity is a sure way to rebuild any lost trust and maintain a trusting relationship. For example, a family member who has previously acted dishonestly can rebuild trust by consistently demonstrating integrity.

Professionalism and transparency

Family governance principles revolve around two core concepts: professionalism and transparency. These principles, also vital in corporate and political governance, are crucial in managing family affairs. Professionalism and transparency in a family context mean providing all necessary information to relevant parties and being honest about decision-making processes.

Challenges in Achieving Transparency

However, achieving transparency can be difficult, especially in families with a secretive approach to wealth. For instance, consider a real-world scenario where a private wealth advisor encounters a situation where the wealth acquirer or a senior family member is hesitant to share details about the family’s wealth. This lack of transparency can lead to issues, as the next generation may find themselves unprepared to assume leadership roles.

Commitment to Transparency

Therefore, a commitment to transparency often requires openness about the educational process and the standards for accessing information about the family’s wealth. The best practice is to establish a clear, consistent, and repeatable process that allows family members to gradually increase their influence and accountability.

Consideration for Outsiders

While the focus is on professionalism and transparency within the family, it’s also important to consider the extent to which the family wants their processes and activities to be accessible to outsiders. This decision may vary among families based on factors such as culture, traditions, and wealth level. Regardless, it’s a question that the family should discuss to determine a consistent approach to handling inquiries from outside individuals or groups.

Diligence and independent oversight

The principles of good family governance underscore the significance of diligence and independent oversight. These best practices necessitate a commitment to obtaining external feedback and viewpoints on the decision-making process. The principle of independent oversight demands a certain degree of transparency and honesty, but it also involves diligently and proactively seeking diverse perspectives.

Role of Private Wealth Advisors

Wealthy families often engage a private wealth advisor, recognizing the need for expertise informed by the experience of working with other affluent families. However, incorporating outsiders with different perspectives into the decision-making process can be challenging.

Effective Family Governance

Effective family governance suggests that an outside advisor serving on a family advisory board or council can remain focused on family priorities and goals, as they are emotionally detached from the outcomes. This role is akin to that of outside directors on corporate boards. These independent advisors are typically valued for their business acumen and their experience with efficient and productive decision-making groups.

Family Governance Fairness

Family governance is a system of decision-making involving the entire family, particularly in the context of family businesses or wealth management. One of the key principles of good family governance is fairness in decision making.

Fairness in Decision Making

Ensuring fairness in decision-making processes is a cornerstone of effective family governance. It requires taking into account the interests of all family members, even when their perspectives may not align with the majority. This principle is particularly significant in three real-world scenarios:

• Minority or Unpopular Perspectives: For instance, in a family business, a younger member might advocate for more sustainable practices, which might not be popular with older members. It’s crucial to provide a platform for such members to voice their concerns and offer them the necessary resources and support.
• Future Generations: Consider a wealthy family aiming to preserve their wealth for future generations. They must also consider the changing world these generations will inherit and how societal norms and expectations might evolve.
• Less Able or Unwilling Members: In some cases, certain family members might be less capable or less willing to contribute to the family’s work or business. Decisions regarding resource allocation and responsibilities for these members should be made fairly, acknowledging their limitations.

While these situations pose challenges, addressing them proactively can prevent potential crises.

Structures and Processes that Support Family Governance

Family governance is a structured approach to managing family wealth and business affairs. It involves the establishment of various entities and processes such as a family mission statement, a family council, a family advisory board, a family foundation, and a family constitution. These structures help in decision-making, conflict resolution, and strategic planning.

• Family Mission Statement:A family mission statement is a guiding principle that reflects the family’s shared values and commitments. For instance, the Walton family, founders of Walmart, have a mission statement that guides their decisions on wealth distribution and philanthropic endeavors.
• Family Council:A family council is a representative body that makes decisions on family wealth and business. For example, the Mars family, owners of Mars Inc., have a family council that includes representatives from different generations.
• Family Advisory Board:A family advisory board is a strategic entity that includes family and non-family members. The Rockefeller family advisory board, for instance, includes external members who bring in diverse experiences and perspectives.
• Family Foundation:A family foundation is a platform for philanthropy. The Bill and Melinda Gates Foundation is a prime example of a family foundation that unites family members towards achieving common charitable goals.
• Family Constitution:A family constitution operationalizes the family mission statement. It is broader and contains specific elements like the establishment of a family council. The Pritzker family, owners of Hyatt Hotels, have a detailed family constitution.

Steps to Develop a Family Constitution

A Family Constitution is a formal agreement that outlines the principles, values, and guidelines for managing a family’s wealth, including businesses, investments, and philanthropic endeavors. The primary objective is to ensure clarity, continuity, and unity in wealth management and distribution, particularly in succession matters.

Each family constitution is unique, reflecting the family’s values, goals, and challenges. It is a dynamic document that evolves to meet the family’s changing needs. The constitution should be drafted by the family, ensuring that family members can identify with the document, thereby enhancing its unifying and motivating force.

Family constitutions are often developed at the request of the second generation, typically after witnessing an unsuccessful succession event. For example, consider the case of the Walton family, founders of Walmart. After witnessing succession disputes in other business families, the second generation, led by Rob, Jim, and Alice Walton, decided to establish a family constitution to avoid similar issues.

Step1: Family Interviews

Family interviews play a pivotal role in the formulation of a family constitution. They serve as a tool for understanding the family’s current state and future aspirations, which is crucial for devising the right course of action. Although these interviews may be time-consuming for the private wealth advisor and their team, they are essential for earning the trust of each stakeholder involved in the process.

Step2: Different Types of Money Scripts

Money scripts are psychological constructs that evaluate an individual’s perceptions and convictions about money. These scripts are subconscious “recordings” that are formed and influenced by one’s experiences during childhood or young adulthood. They act as unconscious biases and can sway our behavior in subconscious ways. Money scripts are derived from an individual’s responses to life events, leading to the development of different money scripts from the same or similar experiences.

Origins of Money Scripts

The idea of money scripts can be traced back to the money attitudes scale by Yamauchi and Templer in 1982 and the money beliefs and behavior scale by Furnham in 1984. The contemporary framework of money scripts was established by Brad Klontz, a psychologist with a focus on financial planning and wellness. This framework has been substantiated in the literature and bears some similarity to these early frameworks.

Effects of Money Scripts

Money scripts have been found to be associated with personality types and to influence financial decision making. They enable the private wealth advisor to customize communications and framing to their client’s specific money script to enhance the quality of the client’s decision making. For instance, consider the Smith family, where John and Jane might fall into the money vigilant category, their children, Jack and Jill, might be in the money avoidance category, and their cousin, James, might be in the money status category.

Application of Money Scripts in Wealth Advisory

Although there are no rigid rules regarding the interpretation of the money script categories, they can assist the private wealth advisor in strategizing how to approach members of the client’s family, both individually and collectively. This can aid in customizing the communication and framing to enhance the quality of the client’s decision making.

Role of Private Wealth Advisors

Private wealth advisors are crucial in advocating for actions that align with their clients’ best interests. They bear a fiduciary responsibility, which includes maintaining confidentiality, especially when dealing with complex family relationships. For instance, in a family business scenario, the advisor might need to balance the interests of the business with those of individual family members.

Concept of Multi-partiality

Multi-partiality, a concept from family therapy, is highly applicable in this context. It involves the advisor aligning with all family members simultaneously, ensuring each person feels their concerns and goals are equally valid. This approach is more beneficial than neutrality, as it fosters a sense of support among family members.

Being purposeful in understanding each family member’s perspective is a key aspect of multi-partiality. The advisor’s role is to convince each member about the importance of family governance and their crucial role in its success.

Elements of Intentional Family Governance

Intentional family governance plays a pivotal role in private wealth management, offering numerous benefits. One of the primary advantages is the facilitation of robust succession planning. This process is often initiated due to the complexities associated with succession planning. For instance, consider the Walton family, owners of Walmart, who have successfully implemented a succession plan that allows for comfortable living from the sale of a minority stake, while the younger generation finds fulfilling roles within the family business.

Understanding Success in Succession Planning

It’s crucial to understand that the definition of success may vary significantly among family members. For example, Bill Gates’ perspective of success might differ from his children’s views. It’s not uncommon for family members to have differing viewpoints at the beginning of the process. The key is to identify these differences at the onset of the process. This allows for a more streamlined and effective succession planning process, ensuring that all family members’ perspectives are considered and their needs are met.

Key Benefits of Intentional Family Governance

Intentional family governance is a structured approach to managing family affairs, similar to corporate governance in businesses. It offers several benefits, including conflict resolution, clarification of roles and responsibilities, and promotion of family cohesion and unity.

Conflict Resolution

Intentional family governance provides a systematic approach to resolving conflicts, akin to the role of a human resources department in a company. For instance, in the Smith family business, a formal process for conflict resolution was established, ensuring fairness and transparency, thereby increasing acceptance of outcomes.

Clarification of Roles and Responsibilities

Family governance also helps define specific roles and responsibilities. For example, in the Johnson family office, roles were clearly defined as “John, the CEO, is responsible for strategic decisions” and “Jane, the CFO, handles financial management”. This clarity helps reduce friction and set expectations.

Promotion of Family Cohesion and Unity

Family governance promotes unity and cohesion. The process of creating a family mission statement, as done by the Williams family, can align family members around shared values.

Family Governance System

Establishing a family governance system is a structured process that involves the active participation of all family members. It is a crucial tool for managing family affairs, particularly in the context of family businesses. The process begins with the communication of the value of participation to all family members, followed by a detailed analysis of the current decision-making structure.

Process of Establishing a Family Governance System

After the initial communication, a report is drafted outlining the strengths and weaknesses of the current decision-making process. A meeting is then called to discuss the report’s findings, providing an opportunity for open communication and feedback. This step is crucial as it allows all family members to voice their opinions and concerns.

Post the meeting, each family member is asked for their commitment to begin the process of writing the family constitution. This document serves as a guide for the family’s decision-making process and is agreed upon by all members. The process of writing the family constitution can take several months and involves numerous meetings. These meetings are facilitated by expert guidance and involve the participation of all family members.

The process concludes with all members of the family agreeing to abide by the family constitution, signifying their commitment to the family governance process. For instance, the Martinez family successfully completed this process with all members participating in the writing of the family constitution and agreeing to abide by it.

Process of Drafting a Family Constitution

The process of drafting a family constitution is a systematic and iterative process that involves the active participation of all family members. It is a qualitative process that aims to capture the collective views and values of the family, rather than a quantitative process that involves specific calculations.

Initial Meetings and Interviews

• The process commences with weekly meetings with one or two family members, similar to how the Walton family of Walmart fame might have started their family constitution. The purpose of these meetings is to gather detailed information through interviews.
• The insights from these interviews are summarized, reviewed, and approved by the interviewed family members, and then incorporated into a draft constitution.

Expansion and Review of Draft Constitution

• Every week, the draft constitution expands, much like the constitution of the Rothschild family, as more views and voices are incorporated.
• Each month, the current draft is shared with the entire family for their collective comments, which are then incorporated into the draft constitution.
• The updated draft is then recirculated to all family members before interviewing the next group.

Finalization and Adoption of the Constitution

• After four months of work, all comments and views are incorporated into the draft constitution, finalizing it.
• A meeting is called to share the draft with the entire family for their final comments, which are then incorporated on the spot.
• The final step involves leading the family through a vote on adopting the final version of the draft constitution.
• The adopted constitution becomes the official Family Constitution, serving as a guiding document for the family’s future.

Family Constitution Process

The process of integrating all adult members into the creation of a family constitution can be a daunting task, especially when there is a history of discord among some members. This was the case with the Smith family, where significant effort was required from their family’s private wealth advisor to convince John and Jane to participate in the process.

Strategies to Convince John and Jane to Join the Family Council

The advisor likely used several strategies to convince John and Jane to join the family council. These strategies included emphasizing the importance of their unique perspectives to ensure all family members feel included and valued. The advisor also assured them that the conflict resolution process in the family constitution would be transparent, fair, and robust.

The legacy aspect was emphasized, indicating that being part of the family council is not just about business, but also about preserving the family’s history, ethos, and values. They were reminded of the broader philanthropic goals that may align with their passions. For John, his passion for music might translate into support for the New York Philharmonic Orchestra and local bands. For Jane, her passion for entrepreneurship might translate into substantial support for her expanding bakery business and other local entrepreneurs with businesses that align with the family’s values.

Receiving Financial Mentoring from Robert

Another strategy involved positioning financial mentoring from Robert not as a “lesson” but as a “sharing session” where Robert’s intentions are good and he genuinely wishes to impart knowledge about managing and growing wealth. Robert’s achievements as CFO and how his expertise can benefit the entire family, including John’s, and Jane’s ventures, were emphasized.

Joint sessions were organized where all the siblings could share and learn from each other, harking back to their fun days growing up as children together and fostering a renewed sense of unity and mutual growth. By emphasizing the importance of family unity, legacy preservation, and mutual growth, John and Jane can be encouraged to take more active roles within the family’s decision-making processes and benefit from its collective expertise.

Working with Wealthy Families

Managing the wealth of ultra-high-net-worth (UHNW) families is a complex task that goes beyond mere investment management. It demands a comprehensive, multi-disciplinary approach, necessitating the wealth manager to develop a wide range of skills.

Understanding UHNW Families

For instance, consider the case of the Walton family, the owners of Walmart. A private wealth advisor working with them would need to understand their unique experiences and perspectives. This understanding is vital in building trust, identifying key issues and challenges, and connecting the family with relevant experts.

Effective Communication and Decision Making

Effective communication and decision making, as demonstrated by Warren Buffet in his management of Berkshire Hathaway, are crucial skills required by private wealth advisors. These skills are essential in facilitating a process for the proper resolution of issues and challenges faced by UHNW families.

Sound Governance

Sound governance, similar to the governance structure of the Ford family’s wealth, is necessary to avoid and manage conflicts and promote professionalism. This involves the implementation of techniques that ensure the smooth operation of the family’s wealth management process.

Role of the Wealth Manager

While wealth managers need not be experts across all domains, they must develop enough proficiency to effectively support UHNW families. This includes the ability to identify important issues, connect the family with relevant experts, and facilitate the resolution of these issues.

Practice Questions

Question 1: The concept of family governance has been gaining traction in recent years as a tool to assist families and their advisors in decision-making processes. It is often associated with corporate governance in publicly traded corporations or political governance in political entities. Family governance provides a framework for decision-making and helps to ensure that decisions are made in the best interests of the family. It also provides a structure for the family’s relationship with their private wealth advisor. Which of the following best describes the role of a private wealth advisor in family governance?

1. The private wealth advisor is responsible for making all financial decisions for the family.
2. The private wealth advisor’s role is to understand the family’s values and goals and provide support that aligns with these.
3. The private wealth advisor is responsible for setting the family’s values and goals.

Answer: Choice B is correct.

The role of a private wealth advisor in family governance is best described as understanding the family’s values and goals and providing support that aligns with these. A private wealth advisor is a professional who provides financial services and advice to individuals, families, and businesses. They help their clients plan for their financial future by providing advice on a variety of financial matters including investments, taxes, estate planning, and retirement. In the context of family governance, the private wealth advisor’s role is not to make decisions for the family or to set the family’s values and goals, but rather to understand these values and goals and provide support and advice that aligns with them. This involves working closely with the family to understand their financial situation, their short-term and long-term goals, their risk tolerance, and their values. The private wealth advisor then uses this understanding to provide tailored advice and support, helping the family to make informed decisions that are in their best interest.

Choice A is incorrect. The private wealth advisor is not responsible for making all financial decisions for the family. While they provide advice and support, the ultimate decision-making power lies with the family. The advisor’s role is to provide the family with the information and advice they need to make informed decisions, not to make these decisions on their behalf.

Choice C is incorrect. The private wealth advisor is not responsible for setting the family’s values and goals. These are personal to the family and are typically established by the family members themselves. The advisor’s role is to understand these values and goals and provide advice and support that aligns with them, not to set them.

Question 2: The principles of good governance, although not directly applicable, can be very effective in managing a family office. These principles can help to ensure that the family office is run efficiently and effectively, and that decisions are made in the best interests of the family. Which of the following statements best describes the application of good governance principles in a family office setting?

1. Good governance principles are irrelevant in a family office setting.
2. Good governance principles can be applied to ensure the family office is run efficiently and decisions are made in the family’s best interests.
3. Good governance principles are only applicable to publicly traded corporations and political entities, not family offices.

Answer: Choice B is correct.

Good governance principles can indeed be applied to ensure the family office is run efficiently and decisions are made in the family’s best interests. Good governance principles, such as transparency, accountability, fairness, and responsibility, can be very effective in managing a family office. These principles can help to ensure that the family office is run efficiently and effectively, and that decisions are made in the best interests of the family. They can help to prevent conflicts of interest, ensure that the family’s wealth is managed responsibly, and ensure that the family’s goals and objectives are met. They can also help to ensure that the family office is accountable to the family and that its actions and decisions are transparent and understandable. Therefore, good governance principles are not only relevant but also beneficial in a family office setting.

Choice A is incorrect. The statement that good governance principles are irrelevant in a family office setting is incorrect. As explained above, these principles can be very effective in managing a family office and ensuring that it is run efficiently and effectively. They can help to prevent conflicts of interest, ensure responsible management of the family’s wealth, and ensure that the family’s goals and objectives are met.

Choice C is incorrect. The statement that good governance principles are only applicable to publicly traded corporations and political entities, not family offices, is incorrect. While it is true that these principles are often associated with these types of organizations, they can also be applied to other types of organizations, including family offices. In fact, applying these principles in a family office setting can bring many benefits, as explained above.

Glossary

• Family Governance: A system established by families to ensure the effective generation, transition, preservation, and growth of wealth over time.
• UHNW Clients: Ultra High Net Worth clients, individuals or families with a net worth or wealth above a certain threshold.
• Private Wealth Advisor: A professional who provides financial advice or guidance to help individuals manage their finances.
• Family Office: A private wealth management advisory firm that serves ultra-high-net-worth investors.
• Family Constitution: A formal agreement among family members that outlines the principles, values, and guidelines for managing the family’s wealth.
• Succession Planning: A strategy for identifying and developing future leaders who can replace old leaders when they leave, retire, or die.
• Fiduciary Responsibility: A legal obligation to act in the best interest of another party.
• Family Council: A representative body that makes decisions on family wealth and business.
• Family Mission Statement: A guiding principle reflecting a family’s shared values and commitments.
• Philanthropy: The act of making a direct financial contribution to support and advance outcomes that are desirable to the donor.

Private Wealth Pathway Volume 1: Learning Module 2: Working with the Wealthy;

LOS 2(d): Recommend appropriate approaches to the development, implementation, adherence, and amendment of a common, long-term framework for joint family decision making