Families who have built the majority of their wealth in one company eventually face the fundamental question: is it time to divest from the family-owned business? This investment likely created the family’s wealth but, depending on the current circumstances, a concentrated investment—like in a family business—can considerably increase portfolio risk.
Because of this reality, the choice of whether or not to divest is often debated by family members. Cambridge Associates has guided many family investors through this decision, aided by five important questions.
1. Am I an Insider with Control Over Business Decisions?
Most company owners are insiders with control over key management decisions. This affords better insight into the company’s inner workings and future trajectory. By contrast, a person with a large holding but who lacks control over company decisions, such as capital allocation, may be putting their investment at risk. Unforeseen market or business downturns may also increase undue risk exposure. Thus, an objective assessment of insider status and control is critical.
2. What is My Relative Opportunity Cost?
To estimate the opportunity cost of holding onto a concentrated family-business investment, it’s important to weigh the risk and return profile of the current position versus other investment opportunities.
In particular, it’s crucial to look at risk/reward both objectively–analyzing industry/sector developments, demographic shifts, changing consumer preferences, etc.—and subjectively, taking into account factors such as personal and family goals, retirement objectives, and timing around a generational wealth transfer. For many business owners, the investment decision is more connected to the subjective—i.e., how they feel about their financial health. Therefore, “reward” may be a better term to use in analyzing subjective returns–e.g., how rewarding might continued involvement be compared to other opportunities?
By considering both objective and subjective risk and return, owners can achieve clarity around their commitment to retaining their business and/or the need to protect the gains they have accumulated.
3. Does My Succession Plan Align with My Vision?
Owners often face a choice to sell or to pass the business along to family members. Weighing this decision raises several factors, including the company’s vision and the next generation’s interest and abilities. Business owners must also take into account the time needed to transfer knowledge and how changes might be viewed inside and outside the company. In short, it is imperative to consider all players and develop a detailed governance plan to ensure organizational stability.
4. Do I Want Control Over the Sale of My Company?
Most business owners want control over the decision to sell, including price and timing, but unexpected events such as changes in health, performance downturns, and industry shifts can undermine that control. To maximize control over outcomes, business owners should undertake advanced planning, identifying what factors—including time, valuation, and leadership—might prompt a move toward selling.
5. Do I Have a Plan for What’s Next?
Every business owner has company goals, but their goals for life after ownership may be less defined. Without a clear plan, some delay selling their business, fearing a loss of identity, lack of purpose, or post-sale boredom. These concerns require careful deliberation and cannot be downplayed.
Planning for Preferred Outcomes
The pros and cons of maintaining a concentrated investment in a business may seem overwhelming, but a thorough assessment of the business, tradeoffs, timeline, and succession plan can help family business owners make the decision with confidence.
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