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Does the demise of family controlled businesses prove they have had their day? Or can they still offer hidden value?

by John Marshall

Family-controlled businesses tend to flit in and out of fashion with the City, yet they more often than not prove to be consistent and sustainable profit makers for investors. The landscape has changed and family businesses are now more the exception than the rule. Does this mean that family control and family management are a recipe for disaster or does the growth of young family controlled companies offer an opportunity for investors?

One of the factors which has been responsible for the decline in the number of large family controlled companies is the increased aversion of the City to dual share structures. But is there more to the story?

The history of companies such as Tesco, Sainsbury and Morrison demonstrate the fact that the family which builds up a company can sometimes be responsible for its decline. The least successful period in Tesco’s history was when it was under the control of Jack Cohen’s son-in-laws, who lacked his flair and the intuitive abilities of subsequent chief executives. Similarly Sainsbury’s decline dates from the era when David Sainsbury was in charge. Morrison’s had to be rescued by outside management after Ken Morrison had botched the merger with Safeway.

The family draw

Despite the examples above, family companies do have several attractions for investors. The first is that there is a more stable shareholder base. Family members will take a longer-term view than many other investors. They are much less likely than a hedge fund or institution to sell during a downturn.

Secondly such companies will adopt a much longer-term strategy than other groups. They will often be more willing to reinvest in the business and will usually have only limited borrowings. They will be reluctant to raise money via rights issues, which will almost certainly dilute the family’s control.

Thirdly, family managers will try and retain an ongoing ethos, as happened at Marks & Spencer under the Sieffs. A change in top management does not alter that philosophy. However, there is always the risk that a strategy which suited the company for many years needs changing, as happened with Tate & Lyle. It was non family managers, though, that had to wield the axe as the family was slow to recognise the group’s problems.

The facts don’t lie

Academic studies have confirmed that taken as a group, shares in family companies outperform the market as a whole. One of the outstanding family-controlled businesses is Associated British Foods, one of the few family controlled groups still in the FTSE 100. During the 1980s it accumulated a war chest which it was slow to invest. That enabled it to acquire British Sugar from a distressed seller in one of the deals of the century. Similarly it has increased its commitment to retailing by developing the Primark chain at a time when the immediate outlook for the sector was less than scintillating. Its record has won the group a reputation for caution, consistency and strong management. The shares have outperformed the market during the past year.

However successful a company may have been historically it can still be a victim of changes in the market place. The Rothermeres, for example, have been successful newspaper proprietors with the Daily Mail & General Trust. Its recent performance has, however, been miserable. Sentiment has been affected by the battle between the Evening Standard and free papers in London, and with the volume of advertising likely to be hit by the recent downturn shares have massively underperformed.

Although on balance family controlled businesses should outperform the market, there are four questions an investor should ask before investing in such a company:

• Which generation is running the business? All too often succeeding generations as with Forte and Sainsbury, have lacked the skills of the founder.

• Is there a strong non-executive presence? Although non-executives should not seek to curb the entrepreneurial skills of a Mike Ashley, Sports Direct’s majority owner, it is important someone will ensure that the company plays by plc rules.

• Does the company retain its original ethos? The difficulties of M&S and Sainsbury were caused by their failure to do as such.

• Is the market place changing? Family companies, such as Tate & Lyle, have often been slow to react to changes in their market place.

Know the answer to these questions and the issue of family control may not guarantee success, but will make it more likely.

The writer holds shares in Tesco, M&S, AB Foods and Morrison