Wealth Matters: Modern Safeguards for a Family-Owned Business

There are a host of tried and true methods to get money out of the company short of selling it. The founders could take cash out or have the company take on debt to pay them out. They could bring in a minority partner to make an investment. But all of these options pose risks to the company and the family.

Samuel P. Phelan and his two brothers considered these options, but they went for a more complex structure that allows them to have a say in the company and give their children control while leaving day-to-day operations in the hands of professional managers.

They had taken over Taconic Farms, a breeder of genetically modified rats and mice for laboratory testing, from their mother, who had run the company since their father died in 1955. The company, based in Hudson, N.Y., has 800 employees in three countries and $125 million in annual sales. The United States government and major pharmaceutical companies are clients. Still, no successor among their seven children had emerged.

Over the last decade, the brothers, who are all in their 60s and 70s, had been thinking about how to keep the company in their family.

“There were members of the family involved in the business, but it became pretty evident that they weren’t going to become the C.E.O. of the company,” said Mr. Phelan, who is the executive board chairman. “The other children were either too young and didn’t know their careers or had started other careers.”

The Phelan brothers faced a situation common to anyone who has built a business with family involvement. If they sell outright, they risk that the proceeds could have unforeseen effects on their children and grandchildren. If they try to keep the company in the family, they run the risk of the company failing, or worse, tearing the family apart.

The brothers reached a conclusion that may not be for every company or family. They decided to create a holding company, Phelan Family Enterprises, to own and manage the three brothers’ shares in the family business and to put their children and the children’s spouses in charge of the holding company. They then brought in professional managers to run Taconic Farms.

There are plenty of financial structures that can be used to protect a family business from estate taxes. But those strategies often fail to take into account the biggest issue: internal family dynamics and how those conflict with the decisions a company needs to make.

“Everyone talks the talk, but few people set up multigenerational structures rather than handing off a company from one generation to the next,” said Frederic Marx, partner at Hemenway Barnes, a Boston law firm and an adviser to the Phelan family. The American model of a family owning a single business “comes at this,” he said, “by looking at the family business and saying, ‘Let’s see what happens when you die.’ ”

Mr. Marx said he considered what the Phelans did more of a European model of creating a group that manages the original company but also invests in other ideas that family members have. With this model, he said, the founder of the company could retain control of the holding company while giving children and grandchildren the capital to start other businesses — or do something completely different.

Getting the structure right took nearly a decade of thinking, Mr. Phelan said. When he and his brothers realized that their children would be overseeing the company instead of running it, they wanted to make sure the children knew what this would entail.

“We wanted to teach governance as much as it could be taught but also to get that sense of the company instilled into the next generation,” Mr. Phelan said. “It wasn’t hard to instill that pride of ownership. We had to come to grips with, ‘Is it worth it?’ ”

Article source: http://www.nytimes.com/2013/02/16/your-money/modern-safeguards-for-a-family-owned-business.html?partner=rss&emc=rss