Wealth Strategies
Why Family-Owned Firms Often Set Hottest Performances – JM Finn

The author of this article delves into the qualities of several family-owned companies and reflects on their strong performance and characteristics.
Family-owned businesses aren’t always given sufficient
recognition or appreciated, although one hopes that’s not the
case with readers of this news service. Family-owned firms
include some of the world’s largest, such as Walmart (US),
Berkshire Hathaway (US), Exor (Italy), Schwartz Group (Germany)
and Ford Motor Company (US).
Despite ostensible issues with governance, capital allocation and
succession planning, many public family-owned companies surpass
the average performance of their respective industries. This is
at a time when active wealth management means that clients
still want to obtain sources of Alpha for a reasonable price
– a theme which deserves attention.
The article comes from Nina Etherton, assistant fund manager at
UK firm JM
Finn.
The usual editorial disclaimers apply; if you wish to
respond, email tom.burroughes@wealthbriefing.com
It may come as a surprise that many listed companies are still
under the influence of their founding family or a significant
long-term shareholder. As well as retaining a material proportion
of the shares, they may control the votes, have seats on the
board or hold management positions. Some of the most well-known
companies on the stock market fall into these categories,
spanning all geographies and sectors: from Tesla to H&M,
Samsung Electronics to Berkshire Hathaway, LVMH to
Softbank.
Interestingly, those companies where the founding family or
long-term shareholder retain a significant influence appear to
outperform the wider market. A study by Credit Suisse which
tracked the share price performance of a group of 1,000 companies
with family ownership since 2006 claims this outperformance is as
much as 3 per cent on average every year.
The irony is that there are many potential problems that come
with this continued influence. The three most obvious are
succession, capital allocation and corporate governance. So what
is it about family influence that can, in some cases, overcome
these challenges and drive superior financial
performance?
Succession
The principal impediment to the long-term success of family-owned
businesses is succession. For example, who inherits ownership and
control when the founder retires or dies? Elon Musk, an early
investor in Tesla who is now CEO and has the controlling
shareholding, was mindful of this when he announced that his
eleven children will not inherit his Tesla shares upon his death.
Instead, Musk suggested the shares be passed to an educational
institution, clearly feeling that this would result in more
reliable stewardship of his innovative company than his
burgeoning brood. Should future generations retain an influence
in the company, the danger is that they are not as capable as
their predecessors and the company could deteriorate over time.
Similarly, another risk to us as investors is the possibility
that a family member could sell down their stake after it is
inherited. In this scenario, our investment might suffer from
downward pressure on the share price.
Brown-Forman, the US drinks company whose portfolio of global
brands includes Jack Daniels, has been very successful at
avoiding these pitfalls to ensure the smooth transition of
responsibility between generations of the founding Brown family
(they still retain a 51 per cent stake, having listed the
remainder on the stock market after the end of Prohibition). As
an example, in 2021, the previous chairman, George Garvin Brown
IV, retired and was replaced by his brother, Campbell P Brown,
without any operational problems. Importantly, the selection
process to work at the 153-year-old company is more stringent for
family members than for normal employees. There is a "Next
Generation Committee" which aims to engage and inspire the
sixth generation, from which future leaders will likely be
picked. This emphasis on meritocracy rather than entitlement is a
key ingredient to a fruitful partnership between external
investors and a founding dynasty. The benefits are clear at
Brown-Forman where the shares have delivered an average growth
rate of 11 per cent per annum over the last 50 years, which is as
far as our data goes back.
Capital allocation
The second problem with some family companies is that –
particularly as they mature and are passed down between
generations – they err on the side of caution when it comes to
spending the company’s capital. Family-owned companies tend to
spend a lower proportion of revenues on research and development
(R&D) compared with their non-family peers. The paradox is
that despite this frugality, their revenue and profit growth
often outpace those of the wider market. This is because
limitless R&D budgets do not necessarily equal financial
success. The cautious influence of a long-term family shareholder
can help avoid expensive vanity projects, focus more on
practicalities such as routes to market and develop more
efficient decision-making processes. In other words, they get
more bang for their buck. Financial caution also results in a
reluctance to take on leverage, or borrowing, to fund growth and
a propensity to avoid large acquisitions. Leverage and
acquisitions are both standard levers management can pull to fuel
growth. The key is to use them with prudence.
Lifco, a listed Swedish holdings company majority owned by
Swedish investor Carl Bennet, exemplifies restrained but highly
effective capital allocation. Its business model is to acquire
small companies in the dental, sustainability, and demolition
markets. The common thread linking these seemingly incongruous
sectors is that Lifco finds them to be fertile hunting grounds
for niche businesses with attractive financial characteristics
such as high revenue growth and high margins.
Bennet’s desire for a reliable and growing income means that 30
to 50 per cent of profits are paid out in dividends. This imparts
a sense of responsibility in management who reinvest the
remaining profits selectively into new acquisitions. Importantly,
they avoid large-scale deals which are usually more expensive and
likely to add less value. Although additional debt will sometimes
be taken on to fund particularly attractive deals, the majority
are funded with cash. This controlled approach to mergers and
acquisitions (M&A) has allowed Lifco to grow its dividend at
an average annual rate of 17 per cent since the 2014 Initial
Public Offering.
Another example of the long-term benefits of cautious capital
allocation is Robertet, a French flavouring and fragrance company
based in Grasse, France. Founded in 1850, it is now under the
influence of the fifth generation of the Maubert family who have
a significant stake and management positions. A comparison
between Robertet and its larger Swiss competitor Givaudan
reveals that, while both spend similar proportional amounts on
research and development (R&D), completely opposing emphases
are taken in terms of balance sheet strength.
Over the last five years, Givaudan has taken on 33 times more
debt than Robertet. So far, Givaudan and Robertet continue to
grow at a similar level, however the additional risk Givaudan has
taken on, could leave it exposed to potential operational issues
and economic challenges. In contrast, the benefits of Robertet
being held largely en famille mean it is much more resiliently
capitalised.
Governance
Criticisms are occasionally raised about the governance of
family-owned companies. For instance, when a family business
lists on the stock market to gain an injection of external
capital, they may choose to issue dual share classes: one for new
investors and one for the founder or founding family with higher
voting impetus. This can be problematic for the external
investor, whose opinion will be less influential than that of the
founding family, often regardless of the number of shares
bought.
Meta (formerly Facebook) is a prime example. Mark Zuckerberg
– founder, chairman and chief
executive – holds 95 per cent of the Class B
shares whereas most other investors hold the Class A shares. One
Class B vote is worth ten Class A votes. Through this structure,
Zuckerberg enjoys 59 per cent of the total votes with only 13 per
cent ownership of the total shares, allowing him to retain
control of the company, while still being able to benefit from
external investors’ liquidity.
The problem is that checks on his power are therefore limited. In
the Reality Labs division, he has so far invested over $40
billion into the Metaverse (a virtual world users can access by
donning a virtual reality headset). However, this vanity project
is yet to turn a profit and made a loss of $13.7 billion due to
the amount being spent on continued development. Zuckerberg does
have a strong track record and these investments may well pay
off, but even large investors with a differing view of the future
of communication will struggle to have a material impact on the
direction of travel.
In some cases, however, family influence can contribute to a
sense of responsibility and stewardship that result in superior
standards of governance. Deborah Cadbury’s book Chocolate
Wars tracks the progress of her family’s chocolate empire
from its humble beginnings in Birmingham in 1824. She illustrates
the benefits of their Quaker capitalist principles. Believing
that cocoa was a nutritious alternative to gin – the tipple of
choice in the early nineteenth century – the Cadburys grew the
sales of their innovative products quickly.
For instance, instead of excessive advertising, which they viewed
as disingenuous, they relied on the quality of the product to
grow the customer base. Their intention to do business for the
benefit of society rather than personal gain along with their
pious principles of hard work helped steer the brand to global
popularity within only a few generations.
Modern standards of stakeholder capitalism in family-owned
companies are often supported through a foundation structure.
This is the case with Associated British Foods, a UK listed
company whose underlying businesses include Primark and Fortnum &
Mason. The Weston family has a 56 per cent stake, principally
through the Garfield Weston Foundation, which donates £90 million
annually to a multitude of charitable causes across the UK. This
commitment to multigenerational philanthropy gives the foundation
a clear incentive to ensure Associated British Foods is managed
responsibly with a long term-time horizon, since the company’s
dividend is the ultimate source of funding.
Conclusion
Not all quality companies are family owned, and not all families
are good stewards of capital. Like any investment approach,
nuance is required to identify those companies that will benefit
most from the stabilising influence of family involvement. The
constant that emerges in companies that overcome the hurdles
around succession, capital allocation and governance are those
where the family or large shareholder instils a long-term
view.
Preparing thoughtful and meritocratic succession plans, treating
capital with care through focusing on cash generation, and
engendering a sense of responsibility to investors and
stakeholders are all key.
In their cult classic book Freakonomics, Steven Levitt
and Stephen Dubner argue that ‘incentives are the cornerstone of
modern life’. The alignment of incentives is a crucial tool for
the long-term investor. If our aim is to participate in the
trajectory of the companies in which we invest for decades to
come, then aligning ourselves with management styles predicated
on generational wealth preservation is surely a good place to
start.
Disclaimer
Please note that the value of securities and the income from them
may go down as well as up and you may not receive back all
the money you invest. Past performance is not a reliable
indicator of future results. Any views expressed are those
of the author.