By Prof. Enrique Soriano
“Let us tackle compensation today, without science and guidance from experts, what or how you pay family members in the business creates a multitude of problems. Whatever old family compensation model business leaders are employing must stop immediately. It is both demotivating and very divisive.”
Compensation is a hot and emotional topic for business owners, their children, and their employees. No matter how you balance the bottom line, the thin line between family and business can become more complicated if a compensation policy is not clearly defined. Did you know that compensation ranks within the top 3 most frequent sources of conflict, especially among second- and third-generation members? When compensation and benefits are perceived as unjust or inequitable, you can expect all forms of conflict to follow.
In a pre-pandemic W+B survey related to how founders compensated their children, we discovered that six out of 10 family businesses were compensated below their market salary grade. The remaining 40% were shamefully overpaid way above the children’s experiences and competencies. And out of all the first-generation client businesses surveyed, 80% disclosed that they were paying their children equally bereft of any performance metrics. When we did a parallel survey of the second-generation members, a whopping 75% showed displeasure with how their parents compensated them. Their main reason is that the structure is so disadvantageous to family members performing. They also added that it is not just a forbidden topic but also very divisive. One family member even remarked, “Papa does not know this yet, but the damage this poorly crafted, old Chinese way of compensating us has affected my relationship with my other siblings. It is just sad!”
The survey also demonstrated that founders are often in a bind on how to compensate their children. To play it safe, founders would always equate pay based on the age of the children; the older the adult child is, the more perks said offspring and his or her family get to enjoy, although it may not be necessarily in the form of salary but of benefits. These are dangerous metrics as they breed entitlement and nepotism. But how much should these adult children be paid? Are there rules that business leaders must follow to minimize favoritism?
In one diversified family business we helped in Thailand, siblings in different roles were paid the same amount to keep the peace. The situation came to a head when the youngest sibling, Ed (not his real name), fresh from his MBA stint in Europe, started to complain about the unfair compensation structure that the family has been employing for years. He questioned the pay of some of his underperforming siblings, but Ed ended up ostracized for being ungrateful, so he decided to pack his bags and go back to Europe. When we intervened, his position was clear, “I know what I expressed to my father was considered disrespectful, but what can I do, we were taught corporate best practices in business school so I had to be truthful. I raised the matter so we can correct this injustice.” It took me more than a year to get him back to the fold and another year for the family to finally embrace a proactive, well-defined W+B family compensation policy based on meritocracy. For Ed, it was unacceptable for his father to marry fairness and equality, especially when other siblings excelled and others did not. When left on its own, we can expect this problem to naturally worsen when succeeding generations enter the business.
It is clear that many founders instinctively based their compensation policy on the notion of what is best for the family rather than on what is best for the business. To these leaders, pay is based on the needs of the offspring. When compensating these children, fairness is generally taken to mean equality in salary and benefits regardless of the individual child’s contribution. Even when there is no performance, pay and share in the profits continue because “that’s how we have been doing it.” This is nepotism at its worst when you carelessly create two sets of employees: an employee who happens to be a relative devoid of any accountability and another employee, a non-family, who is expected to perform lest he becomes a liability.