There is a strong correlation between companies with excellent long-term gains with being family-run.

There are many advantages for investors to hold the shares of businesses run by families versus outsider management teams that may just be looking for a quick windfall before moving on to the next shiny thing.

Chris Mayer runs a concentrated fund of about 12 companies, many of them are family-run.

In this excerpt, the co-founder and Portfolio Manager of Woodlock House Family Capital details three reasons why family-run companies consistently outperform the market and many of their peers.

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by Chris Mayer

One kind of ownership I’ve been especially fascinated by is family ownership.

My interest in family businesses led me to work with the Bonner family office in 2016. I’ve known the Bonners since I started publishing my own newsletter back in 2004.

Bill Bonner is a partner in Woodlock House Family Capital. And the Bonner family is a major investor in the fund.

It seems to me that family ownership is naturally fitted to making decisions with the long-term in mind. If anybody can resist the siren song of short-termism it would be a family.

A good body of academic research out there that indicates this is, indeed, the case. And my experience working with the Bonners affirms what I have read. They have been ideal partners and investors.

As for that academic research, I recently came across a piece by the Harvard Business Review (HBR), in which they write the following:

“Rather than being obsessed with hitting quarterly earnings targets, as public companies are, family businesses tend to think in terms of generations, which allows them to take actions that put them in better position to endure the tough times.”

And here is a specific example of a quantifiable action that allows for that survival:

“Debt is a great way to fund growth and goose return on equity, but it also puts the company at risk during the inevitable downturns in the economy.

 

Family businesses last longer because they are able to pay the price that longevity requires.”

Family businesses tend to use less leverage than their peers. I would add, however, that public companies with family ownership often display many of the same traits of privately owned family companies.

When I look at my portfolio, I have several family-owned businesses, such as Brown & Brown (NYSE:BRO) (the Brown family) and Heico (NYSE:HEI) (the Mendelsons).

Certainly, I would say they are great examples of what good family ownership can bring to the table and fit what HBR’s research is saying.

Another, harder to quantify, advantage for family businesses mentioned by HBR:

“In many studies, family companies have been shown to be better employers and community citizens than their non-family–run peers.

 

That’s a distinct competitive advantage, one that represents capitalism at its best.”

There are always exceptions, but again it’s about fishing in a good pond.

I’ve been reading through bits of the HBR’s Family Business Handbook: How to Build and Sustain a Successful, Enduring Enterprise. The second chapter is titled “The Power of Family Ownership.”

The authors note that in a typical public company, the classic corporate pyramid has the CEO on top and then managers and employees below.

“But in family businesses,” they write, “an inverted, hidden pyramid sits on top of the classic one.”

The authors write:

“The idea of owners at the top makes little sense at a widely held public company, given their limited influence beyond selling their shares.

 

In the long-term potential of a public company, the owners aren’t terribly important. The board and the CEO are the voices that matter.”

Sadly, this is all too true in my experience.

Anyway, I like the idea of the inverted pyramid. It’s a way to think about your companies.

Where does the power lie? Is it with the CEO? The board? The owners? Are you okay with the answers to these questions?

Thinking through these issues is essential if you are a long-term investor in businesses.

Having confidence in the people at the helm will make holding through corrections, such as what we’ve experienced of late, that much easier.

Often troubled times present opportunities for the entrepreneurial. And you know what Sosnoff says about entrepreneurial instinct…

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