An Overview of Family-Owned Businesses
Family-owned businesses form the backbone of the German economy and are considered a key driver of employment and prosperity. More than 60 percent of all jobs in Germany are provided by family-owned businesses. These businesses prove to be a stabilizing factor in the labor market, particularly during difficult economic times. A defining feature of Germany is the high number of particularly large and internationally active family-owned businesses. Many of them rank among the global leaders in their technological niches (particularly in the fields of mechanical engineering and the automotive industry). A 2019 study by the Family Business Foundation analyzed the economic significance of family businesses in Germany: 90% of all German companies are family-controlled, 52% of revenue in Germany is generated by family businesses, and 32 million employees work in German family businesses.
Investors and Family-Owned Businesses
Financial investors are intermediaries that raise equity capital from high-net-worth individuals, institutional investors, or foundations and invest it in companies. Typical financial investors include banks, insurance companies, pension funds, family offices, hedge funds, venture capital funds, and private equity funds. The main difference between venture capital and private equity is that the former invests primarily in young companies (so-called startups), while the latter invests primarily in mature, established companies. Private equity firms are particularly well-suited as buyers of family-owned businesses, since family-owned businesses are often mature and established companies. Private equity has developed into a distinct industry in Europe since the 1960s. Globally, the industry is led primarily by American and British funds, alongside numerous national private equity firms. The major American private equity firms are represented in Europe almost exclusively through local subsidiaries and local management. The German private equity market is rapidly gaining importance and has experienced strong growth in recent years. According to the Federal Association of German Private Equity Firms, the total volume of funds raised by private equity funds in Germany in 2019 increased by 24% compared to 2018, reaching 5.22 billion euros. There was also double-digit growth in 2019 in investments in German portfolio companies, which rose by 19% to 14.3 billion euros.
Potential reasons for or against the (partial) sale of a family business to an investor
The reasons for the (partial) sale of a family business are varied. In addition to business-related reasons, such as overcoming a corporate crisis or implementing a growth strategy, personal reasons on the part of the shareholders can also be decisive, for example, a conflict among shareholders or the lack of suitable successors. Once the decision to sell company shares has been made, the first question that arises is whether to proceed with a partial sale (minority sale) or a majority sale. It is important to note that in the case of a majority sale, decision-making authority and a large share of the business risk are transferred from the original owner family to the new investor. Many investors prefer a majority stake over a minority stake, as this allows them to exert significant influence over key strategic decisions within the company. Once this decision has also been made, the final step is to determine to which type of investor the company should be sold. In addition to various types of financial investors, strategic investors are also potential candidates. A survey conducted by our institute in collaboration with the law firm POELLATH revealed that the majority of family business owners prefer single-family offices, multi-family offices, or strategic investors as potential buyers. The analysis clearly shows that family business owners tend to sell to investor types that are similar to their own company. Whether it’s a strategic investor or a family office, they often look to see if the investor shares values and views very similar to those of the owner family or families.
An analysis of the potential motivations for selling a family business to a financial investor shows that succession planning and resolving internal family conflicts are the primary drivers. Financial investors play a key role, particularly in the area of succession planning, as finding a suitable successor is becoming more difficult with each passing year. According to the Deutsche Unternehmerbörse, small and medium-sized enterprises have been struggling for years with declining numbers of people who want to take over and continue an existing business (so-called “successor entrepreneurs”). While there were still around 200,000 such “successor founders” about 20 years ago, in 2002, that number had dropped to only about 62,000 by 2015. However, the number of companies seeking a successor is rising. In 2018, approximately 620,000 companies in Germany were looking for a successor, and the trend is upward. The reason for this is the aging of the executive ranks.
Another relevant factor is which characteristics of financial investors are particularly important to family-owned businesses. Our analysis has shown that the financial investor’s investment time horizon (most important factor), job guarantees for employees (second most important factor), and industry-specific focus (third most important factor) represent the three most important elements. The financial investor’s focus on ESG criteria (Environmental, Social, Governance), the presence of other family-owned businesses in the investor’s portfolio, and the investor’s investment approach form the middle of the scoring spectrum. The family business owners we surveyed rated the following elements as the least important when selling to a financial investor: the investor’s financial return, other well-known companies in the investor’s portfolio, the investor’s reputation, and whether the investor belongs to a banking or insurance group. The results clearly show that even when deciding to sell to a financial investor, factors specific to family businesses play an above-average role. In particular, special emphasis is placed on the long-term nature of the investment, and attention is focused on securing jobs for employees. Furthermore, it should be noted that ESG criteria are also increasingly becoming a focus for family businesses. Unsurprisingly, but still worth noting, is that for the family businesses surveyed, factors specific to financial investors play only a minor role. When selecting a financial investor, greater consideration is given to the impact on their own company during the holding period. These insights are particularly relevant when initiating discussions, as the parties involved must recognize which aspects are important for sales negotiations and which will have little impact on negotiations with family business owners.
Conclusion
Private equity investors can be a genuine financing alternative for family-owned businesses, significantly expanding their operational flexibility and offering substantial added value to both sides. It is crucial that both sides focus on their individual strengths and establish a common ground for a trusting partnership. The financial investor must be a good fit for the family business, and the terms and conditions of the (partial) sale must be made transparent. Through financial investors, the family business can acquire important knowledge, enabling it to weather difficult times, finance growth, and, if necessary, arrange for (external) succession.
Our complete study, “Family Businesses and Financial Investors: Friendship or Foe,” including all information on the data collected, can be found on the website of the Institute for Family Businesses and SMEs at WHU – Otto Beisheim School of Management.
