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Future challenges for German family businesses

Sabine Klein  is researching and teaching in the family business field at Trier University, Germany, and the INSEAD business school, Fontainebleu, France. She is an Associate with the FBCG, The Family Business Consulting Group, Marietta, Georgia, USA, and a founding board member of IFERA – International Family Enterprise Research Academy, Barcelona, Spain.

More than half the largest companies in Germany are family-owned. Economic incentives are essential to prevent these businesses from seeking a more favourable economic climate elsewhere

Family businesses are the backbone of the German economy. From very small to big international companies based in Germany, families or individuals own the majority. A recent INSEAD study found that more than half of the 250 biggest companies on the Frankfurt stock exchange in 1998 were either family businesses or entrepreneurial businesses. In 1995 nearly 60% of all companies with a turnover of more than €1 million were majority owned and/or managed by families and their members. Recent research results suggest that this percentage has increased over the past 5 years; although the data need further cross checks, the figures for 2000 indicate that the number of family businesses has risen to over 70%.

Why have the number of family and entrepreneurial businesses in Germany increased over the past years? We could assume that family businesses are more successful at surviving in difficult markets. On the other hand, it might also be that non-family businesses can, and do, move out of the country much more easily than family businesses in difficult markets. Thus, as the pool of all businesses shrinks, the percentage of family businesses in that group grows. However, the costs of moving must be lower than the benefits, which is generally unlikely in a closely linked world economy. Even when it makes economic sense to leave a country, family businesses are not likely to do so because they are often deeply rooted in their communities. We can also assume that family businesses stay solvent and continue operations and contributing to their communities even when unhealthy. While non-family corporations will be closed down or disinvest and reinvest, families often stick to their business, their market, their products and their customers, even if in the long run there are little hopes of prosperity. Nonetheless, the data do not give any indication as to whether family businesses are more or less successful than their non-family counterparts.

A relevant issue for German family business owners and managers is how to make sure their companies will survive and thrive over the next decade. In order to do so, German family businesses must overcome many challenges: some specific to family businesses, others from being part of the German market, and yet other challenges which are international in scope.

Strengthen the family
Only business-owning families that succeed in strengthening the family and its entrepreneurial spirit will survive as family business families in the long run. In order to insure family and business health several questions have to be addressed. First, family members should be clear about their reasons to stay together as a family and to be in business together. This is a particularly critical issue in Germany where an anti-family bias exists and where multiple partnerships and/or marriages in family business families are increasingly accepted, which puts a lot of stress on both the families and the businesses. So, the first and perhaps most critical questions are: Do we want to stay together? Why and how do we want to stay together? And if we cannot stay together or do not want to stay together, how do we organise our separation with as little negative outcome for the family and the business as possible?

Childhood education
Another challenge arises from the fact that the German education system is no longer in the upper third internationally: If German children are not required to perform but are coddled in their kindergarten-like primary schools (Kuschelecken-Pädagogik) how can they be helped to develop a desire for challenge and an entrepreneurial spirit? History shows that ruling families, whether business families or reigning families, lose their power if they lose their discipline, their dedication and their ability to fight for their dreams and for the benefit of others. If the German educational system is not made more competitive, it will remain with the family business families to find educational institutions, at home and abroad, to ensure an entrepreneurial and competitive spirit.

Ownership skills
Succession as "the final test of greatness" (Aronoff, McClure &Ward, 2003) is generally viewed as a single issue in German family businesses. Taking a closer look we find two related issues: ownership succession and leadership succession. The German legal system provides many rights to owners, but it also places many obligations on owners. As ownership can be inherited, the first challenge for family business owners is to ensure that heirs are well trained to be responsible owners. This topic has not yet been addressed in Germany, but this may be changing. For example, the EQUA foundation in the south of Germany, a not-for-profit organisation sponsoring research and training for owners, has recently been established.

Organise your time
Increasing complexity and growing uncertainty concerning legal and tax issues are also becoming a major challenge for German family business families. One outcome is that family business owners and managers are investing more and more time and resources into optimising their legal structure as well as their tax driven arrangements. This time and other resources invested in tax and legal management are subsequently not available for other aspects of the business; what some may call the 'real business'. Family business owners and managers who find ways to dedicate time and ideas to business development, rather than avoiding increasing taxes, while at the same time making sure someone is adequately dealing with tax and legal concerns, will be able to benefit from this challenge compared with their competitors. Their companies will benefit in comparison to those national competitors who become stuck in tax and legal topics and will still be competitive on the international field.

Financial crisis as risk and opportunity
Basel II (The New Basel Capital Accord) hit a lot of family business out of the dark. Essentially, Basel II aims to improve the safety and soundness of the financial system. It will provide a thorough review process and enhance market discipline, helping to guarantee that banks have a sound risk management strategy. German family businesses of all sizes were used to receiving financial terms from banks comparable to company capital. Over the years the working capital of companies was funded less by shareholders and more by banks, investment companies and other external sources. Recent data indicate an average of less than 20% of the capital of all German SMEs (Mittelstand) is Eigenkapital (capital raised by shareholders). With the stock market crisis, listed companies have similar problems in their balance between internal (from shareholders) and external (raised on the market without ownership rights) capital. Family businesses that are financed to a large extent by internal (family) capital can benefit from this situation as it opens opportunities to buy either market shares or entire companies. Family businesses that depend to a high degree on external capital must face this problem immediately and solve it as quickly as possible to help insure survival.

Professionalise the management team
One of the side effects of Basel II is an incentive for the professionalisation of the management team. A similar effect occurs when family businesses are listed on a stock exchange. The CEO and a shareholder of one of the biggest listed family businesses in Germany, Wendelin von Boch (Villeroy & Boch), once said  that it was this effect that the company derived the most benefit from: the required professionalisation of the company when listed. Regardless of having issues with Basel II or remaining a private company, the customers require a high standard of professionalisation from all businesses nowadays. For example, it is important that a professional management board is in place and is composed of people whose competence and expertise are the primary qualification for board membership (and not relationships or family ties). This is one of the major challenges family businesses in Germany face over the coming decade.

Management education
There is also the issue of the more or less state-based university system in Germany. As this university system is financed almost completely by the government, students are educated for big multinational anonymous companies rather than for family businesses. As we now know, family businesses are different and they require managers who understand the peculiarities of the overlap of family and business systems. In Germany, there is only one institute for family businesses, Universität Witten-Herdecke. Family business owners who want to employ managers that are trained for their business systems need to promote more family business chairs and educational programs in Germany.

Tradition vs innovation
"Should I hang on with old products and old markets or move into new opportunities?" is often a troubling question for companies attached to their traditions. A third generation family business owner manager from the north of Germany once told me, "We have always produced margarine and we will produce margarine as long as we exist." When analysing this company, it becomes obvious that they have been exceptional at producing high quality products at a very good price throughout their history. Staying with the tradition of being an outstanding producer instead of staying with one single product might change the tradition of this family business from a disadvantage into an advantage. It could also expand their opportunities to compete, earn profits and therefore provide resources for business growth, benefitting employees, the community and providing returns for ­family shareholders. There are quite a few German family businesses that need to address the challenge of innovation and change without giving up the positive benefits of their tradition.

Address the German disadvantages
Family businesses are loyal. While a lot of non-family businesses have moved out of Germany, most of the family businesses remain even though they face significant disadvantages. A determined entrepreneur is needed in order to survive the 'German disease' of absurd bureaucracy, high taxes (with quite reasonable average taxes if you know how to play the system), extremely high labour costs and an anti-innovation environment. If a company wants to remain in Germany – and entrepreneurs and family businesses are needed to re-establish the economic strength of Germany – a strategy is needed to deal with the constraints of location. Labour-intensive products that require a low level of knowledge will not survive in the long run if produced in Germany. The decision to change location or migrate to products that require more highly skilled labour and greater capital is one that can be made long before foreign labour markets become overwhelmingly attractive. It may be wise to set threshold levels at which new products will be sought and product lines sold. It is vital that the decision to move is not being made under pressure.

Research and development
For family businesses in industries such as high tech, pharmaceuticals or food, the lack of support for new technologies is another challenge faced in Germany. Legal procedures such as patents, admission of new products, or even research permissions in sensitive areas, are more complicated and take longer than in most of Germany's neighbouring countries, let alone in the US. Large pharmaceutical companies have already moved out, or are leaving Germany. Biotechnology as a driving force for new developments in the food sector is seen as very critical by the German consumers and government. Therefore, for German family businesses the challenge is to stay up-to-date with new developments while organising their PR and marketing in ways that build trust with their customers. If staying current and developing a better environment for new technology cannot be achieved, companies will face the decision as to whether or not they should move R&D activities to a country with better conditions.

Face globalisation challenges
Nearly all German family businesses are confronted with globalisation. Even a small family business can now optimise their purchasing via the internet, which means that all businesses face new and increasing competition from international companies trying to get a share of the German market. The brewery sector is a good example of this development. Decades of solid profits and growing markets conditions have changed in the last decade. Some family businesses in this segment were sold (Diebels, König and Becks), others are fighting for their independence by making acquisitions (Holsten), and others want to establish international brands in order to survive (Warsteiner and Bitburger). However the company's market is structured, globalisation has an effect on nearly every market and the challenge for family businesses is to try and take advantage of the associated benefits more than your competitors.

The eternal challenge: organising succession
Like most other Western industrialised countries, common values have changed a lot in Germany in the past decades. Up until the 70s it was widely accepted that the business would be passed on to the eldest son and little or nothing given to the other children, but a more democratic ideal is now widespread. The challenge family business owners' face is not how to organise the succession whilst minimising taxes (especially in Germany where this has become near science), but to make sure that through fair process, an acceptable outcome is developed. Any solution that leads to family divisiveness is not going to be good for either the business or the family.

Looking at the structure of the German economy there are no perfect solutions for the survival of family businesses. If only 10% of all family businesses fail, over 6% of all workers will lose their jobs, the German GSP will decline by more than 5%, and the financing of communities and cities will face serious threats with the loss of tax income from those companies. While the family business leaders themselves should address the challenges cited above, politicians have to acknowledge the relevance of family businesses on the German economy. If only 10% of all family businesses decide they can only survive the next decade by moving out of Germany this will have a significant, detrimental effect on the German economy. The family business that moves out may prosper but the impact on German economy will be the same as if this family business had faced bankruptcy. And, because overall economic conditions will worsen as more and more companies leave the country, there will be greater pressure on those remaining to leave. This vicious cycle can only end when incentives are put in place to insure that more companies remain and move to Germany than those that leave, or when labour rates drop making industry competitive. Since it would take a revolution to change the structure of labour in Germany, a far more politically expedient solution is to support the businesses already in Germany as well as encouraging new business investment. It is high time to address this macroeconomic challenge on the political stage. It is in the interest of both Germany and the European Union, which depends on the stable economies of member states, for German family business owners to encourage these political changes as quickly as possible.

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