Compensation in Family-Owned Businesses: A Touchy Topic
Updated: Jul 27, 2022
Family businesses cover a wide range of industries and can be very small or among the world’s largest companies. These companies can face challenges in their compensation programs, including a lack of documentation and transparency or the absence of an overall compensation strategy.
Many times, the compensation plans have not been updated to keep up with the business’s growth, which eventually creates issues as the business becomes more complex and hires more employees. Given the broad spectrum of types and sizes of family businesses, it’s difficult to describe a single compensation strategy that is effective for all of them.
This article provides tips that can apply to nearly any family business.
Determining an appropriate level of compensation for your business partner who is also your sibling or child can be challenging. The difficulty arises from the complex interaction of business and family relationships, and the desire to avoid a conflict within the family that has consequences for the rest of the business. Extended families have enough challenges in interacting harmoniously without the added complexity of working together.
In our experience, the inability to effectively address compensation for a family-owned business is mainly due to two factors:
1. The difficulty of objectively addressing the very personal issue of compensation for business partners who are also family members. Discussing individual compensation is never easy, but maybe more difficult for family businesses where the partners’ relationships are shaped by their family history as well as their business roles. Often, these issues come to light when business responsibilities change, such as a new generation joining the business.
2. The belief that family members should not be paid an externally competitive amount based on their role in the business because they are family members and receive dividends from the business based on their ownership stakes.
Top Four Tips for Effectively Addressing Pay at Family-Owned Businesses
1. Involve family stakeholders throughout the engagement – All family members who have a stake in the company should be involved in the process. Family stakeholder participation helps ensure that everyone understands the underlying issues early in the process, develops trust along the way, and has the opportunity to learn about and help develop the company’s approach to compensation. We typically engage with individual family members independently at the beginning of the project and gain their understanding and buy-in before engaging with the family collectively.
2. Use market data to anchor the compensation plan – We strongly recommend that family members working in the business be paid commensurate to the value of their position in the external market. It is common practice for family businesses to either overpay employees who are part of the family or undercompensate them for the work that they provide. Neither scenario is ideal, as both will exacerbate issues with family members and non-family employees alike. Paying all employees based on prevailing market rates will make non-family employees feel like they are treated as equals, because they can trust that everyone is compensated based on their skills and contributions to the business.
3. Introduce pay-for-performance incentives – A well-designed pay-for-performance program aligns pay with the achievement of the business’s operational and financial goals and measures employees objectively. Objective measurement is especially important at family-run businesses, as it is critical that everyone feels like the incentive plan payouts are grounded in fairness and linked to actual performance. Including individual metrics is a good idea, as long as they are based on specific, objective goals. Using a high degree of discretion is not recommended. A proportion of total compensation should be based on the overall results of the business and the achievements of individual family members as employees. This ensures that the pay system recognizes contributions to the company’s success and aligns everyone’s interests around shared goals.
4. Add some formality to the work relationship – Developing plan documents, employment agreements, and pay review processes lessens the perception that pay decisions may not be fair. Job descriptions are also very helpful in determining appropriate pay rates for each role, as it is difficult to effectively benchmark a position without a real understanding of the job responsibilities and required skills, experience, and education.
Achieving collective agreement on a compensation plan for a family business is part compensation consulting and part psychology. Following the tips above can help lead to a positive outcome. At the end of the day, family relationships are important and don’t need to be put at risk by disagreements regarding pay.
- Joe Kager, Managing Consultant at The POE Group. Joe is a Certified Compensation Professional with over twenty-five years of experience in compensation and human resources. Call him at 813-546-8628, or email him directly at email@example.com.