Family Entrepreneurship and Succession
In mainland China, the family, as the basic social unit, has recently regained its importance in economic activity. Starting from the particular case of a family business located in Zhejiang province, this article reviews the practices that prevail in the succession of the management of companies. Following this case study, a questionnaire was drawn up and submitted to 17 family businesses. The criteria applied by the entrepreneur in the choice of his/her successor, the order of preference among the candidates, and the methods of controlling the risks involved are revealed and analysed.
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1In The Visible Hand, Alfred D. Chandler reviews the evolution of the organisation and management of production and distribution in the United States since the industrial revolution1. He maintains that the modern company, as a complex organisation, has taken the place of market mechanisms in the co-ordinating of economic activity and allocating resources. To Chandler, the theoretician of management capitalism, the visible hand of the managers has replaced the invisible hand of market forces, and the modern company is characterised by the establishment of a hierarchy of salaried cadres who are responsible for supervising and co-ordinating the work of the units that are under their command. Many have reached the conclusion that the company based on family capital and managed by its director-owners is an outdated form. Yet, over the last twenty years, this supposition has been widely called into question by other writers, who recognise the key role played by family businesses in the developed economies. Much research2 shows the adaptability of this form of organisation. In mainland China, interest in family businesses was first aroused by the success of the big Chinese family companies which are characteristic of the countries of Southeast Asia3, and then by the growth of the Chinese private sector, the majority of whose companies are of the family type4.
2Family business is not characterised by either legal forms or specific size. Some writers choose either the criterion of ownership5, or that of management control6, in order to describe a business as being a family one or not; other definitions are based on both ownership and control7. Recently a dynamic approach8 has defined the family business, whether it be a simple family workshop or a big publicly quoted company, in terms of the real control exercised by the founding family. This does not necessarily imply majority control of the capital or the lack of recourse to managers from outside the family. Its distinctive trait is that no other group of shareholders carries greater weight than the family shareholders, and that the appointment of the head of the company depends exclusively on the dominant shareholders.
3Beyond the question of definition, it is generally agreed that a family business is characterised by the superimposition of a system of enterprise and of a family system in one and the same entity which is both economic and social. The tangling of family and entrepreneurial dynamics calls into question the hypothesis of a homo economicus whose sole objective is the maximisation of his own individual interest. The double identity of the entrepreneur binds his economic activities tightly to the family interests. In matters of succession, a decision is never taken as the result of purely economic calculation, nor is it simply a problem of the passing on of the family inheritance. In order to better grasp the balance of power in a family business, analysis must be based on research in the field, with the objective of interpreting as faithfully as possible the reality as it is perceived by the individuals themselves. In the context of a China in transition where the power of the state mingles with individual motivations, this method makes it possible both to avoid mistakes that would lead to oversimplifying complexities and to shed light on the rich variety of the real lives of individuals and organisations9.
4The aim of this article is to contribute to the understanding of the present situation of Chinese family businesses, through a focus on the question of succession. In the first part, we introduce a business that has experienced two consecutive succession processes over the last few years. From this we teased out questions which are examined in the second part, in the light of information gathered from 17 family businesses in the province of Zhejiang.
5 The story of the Zhengyuan company is closely tied to that of its founder, You Xiaohui, formerly the director of a state enterprise (the electronic ceramics factory in Jiaxin) and secretary of the enterprise's Party Committee. In April 1993, at the age of 61, he retired and began a second career in Shenzhen. He borrowed 80,000 yuan and became a sales representative for a locality and enterprise at Wuxi. In 1994, he set up his own company, Zhengyuan, with an initial investment of 100,000 yuan, which produced a component for mobile telephones. The company was registered at the Chamber of Commerce and Industry as a collective enterprise10. From the outset, despite this official status, Zhengyuan was de facto a private company owned and managed by the You family. All the management jobs were held by members of the family or by close friends. In 1996, Zhengyuan relinquished its status as a collective enterprise and became a public limited company (youxian zeren gongsi) with private capital. In 1999, in accordance with company law11, Zhengyuan was restructured and established a board of directors and a supervisory board. In 2000, it became a shareholding company (gufen youxian gongsi). In 2001, Zhengyuan opened its capital to four institutional shareholders, to the tune of 19.5 million yuan, and then prepared its application for a listing on the stock market. In 2002, the company had total capital of 120 million yuan, an annual turnover of 78 million and profits of 11 million. It employs close to a thousand employees.
6You Xiaohui set up his company at the age of 61 and gave up direct management of it four years later. When asked about his ambitions for Zhengyuan, his first wish was that the company maintain its technological lead over its competitors, develop itself sustainably and contribute to local development. These ambitions are evidence that, apart from the creation of personal and family wealth, self-realisation12 is a major factor in his entrepreneurial motivation. You Xiaohui is one of those private entrepreneurs who previously had been cadres in state enterprises. He belongs to the professional elites who made a good living before, and who set up private companies in the same sector as that in which they were employed by the state. They are differentiated from entrepreneurs driven by poverty13, because of their relatively high incomes14. Their professional experience sets them apart from the administrative elites who went into business in order to capitalise on their power at the time of the transition from the planned system to the market system15. You Xiaohui thus belongs to the group of private entrepreneurs who most closely resemble the Schumpeterian entrepreneur16. They often have a long-term strategy which gives priority to the growth of the company.
7You Xiaohui has three children: You Yuan (43), his elder son, You Qi (41), his younger son, and his daughter, You Qian (34). You Yuan, who graduated from university in 1982, initially looked after the maintenance of the equipment in a state enterprise, the electric controls factory in Jiaxin. In 1993, he left the company to go into his own electronic equipment business. In 1994, he joined Zhengyuan and became responsible for product design. The same year, You Qi came into the family business with the job of supervising the establishment of the factory. You Qian, who previously worked in a public bank, recently resigned in order to join Zhengyuan. At the time of our research, You Xiaohui was president of the supervisory board, You Yuan and You Qi were respectively president and vice-president of the board of directors, and You Qian was preparing the enterprise's listing on the stock market.
8Over the course of the last ten years, Zhengyuan has experienced two consecutive succession processes. The first chief executive officer of Zhengyuan was You Xiaohui. The job of president of the board at that time was held by his wife. From 1998 onwards, You Xiaohui began the transfer of power to the second generation, appointing his elder son, You Yuan, chief executive officer, and taking over the job of president of the board from his wife. The succession process was completed in 1999 when You Xiaohui resigned the presidency of the board, which he entrusted to You Yuan. This initial succession was carried out by the founder You Xiaohui, who decided to give up the direct management because of his age and the inadequacy of his knowledge in the face of rapid technological developments.
9The second succession was made necessary by the company's expansion strategy. In 2001, after the modification of the company's legal status, when it became a shareholding company, its development led it to take on “risk capital” to the tune of 19.5 million yuan, and to prepare a request for a listing on the stock market. In order to comply with the criteria of the Chinese Securities Regulation Commission (Zhongguo zhengquan jiandu guanli weiyuanhui)17, the company decided to separate the positions held by You Yuan. In order to do this it recruited an outside professional manager, Mr. Cai, who became chief executive officer.
10The first transfer of power was a result of the retirement of the head of the company because of his age. If we consider that the main task of a family running a family business is to produce managers with the necessary competencies (knowledge and experience), the interval between two transfers of power within the family will be at least twenty-five years in the case of a nuclear family. This interval can be shorter in the case of an extended family, which has the possibility of absorbing sons-in-law or cousins into the company. Thus the structure of the family (the number of children, the availability and motivation of potential successors, etc) influences the frequency of successions.
11Factors external to the company also come into the calculation. The technological environment demands the renewal of competencies in order to adapt to sectoral evolution. The evolution of the capital structure can expose the company to new shareholders. These factors can contribute to the renewal of the leadership of the company, even if they do not contribute directly to the appointment of the successor.
12Even after the arrival of a chief executive officer who was not part of the family circle, the You family, at the time of our interview with You Xiaohui, still held 53% of the shares, while four financial institutions held 34%, and the other directors 13%. The management team is currently made up of 11 people, of whom three are members of the You family (You Xiaohui and his two sons). Three are former company cadres who now oversee general business, finance and technology. As well as the chief executive officer, three deputy directors have been recruited from outside the company, and an advisory post has been entrusted to a former state employee, who was previously the head of the provincial commission for foreign economic and commercial relations (see Graph 1). Although this evolution has led to a decrease in the control of the founding family, the You family still holds a majority of the capital.
1. Present Organisation of the ZHengyuan Company
13A natural succession linked to the age of individuals is at variance with a succession brought about by the development of the company. The choice of the founder's eldest son differs from the recruitment of a professional from outside the family. Is such a development evidence of a radical change in the criteria used by You Xiaohui in the choice of his successor18 ? During our interview You Xiaohui described the desired career profile in the following terms: a competent person with professional experience and a wide network of social contacts. When we asked him to assess the advantages and disadvantages of different modes of selecting a successor (see Table 2), he expressed the opinion that the introduction into the company of a professional manager favoured the strengthening of management and innovation potential; the disadvantage was a lack of knowledge of the moral virtues and the real competence of the person concerned. However if the favoured successor was already a company cadre, You Xiaohui would be more certain, thanks to direct knowledge of the competence and moral qualities of the person; the danger was of provoking conflict and slowing innovation. To him, choosing a relation was a guarantee of loyalty and easy communication.
14The essential problem of a succession is the assessment of the credibility of the successor, who is asked to provide management competence, but also certain moral values and action taken in accordance with the family interest. The way in which these qualities is assessed is therefore important. In the case of Zhengyuan, You Xiaohui, the founder, first chose his eldest son, You Yuan. A university graduate, initially responsible for product development, he participated in the foundation of the company. His competence is recognised by his family and by the employees. As You Xiaohui sees it, You Yuan is the answer to his expectations: he has the ability to commit himself, loyalty to the family's interests and mastery of the necessary technical and management knowledge. The family connection is not the ultimate reason for You Xiaohui's choice, but it allowed him to observe him closely, to assess him and even to train him. In this sense, the presence of an ideal successor within the family is the reason rather than the result of You Xiaohui's decision to turn over power only four years after the establishment of the company.
15While the first succession was a strategic move undertaken by the founder, the second succession was prompted by outside forces. In the wake of its change of status in 2000, Zhengyuan took on board new investors from outside. The decision to seek a listing on the stock market led You Yuan to separate the two posts he held, even though this separation was not mandatory. This unexpected development did not allow You Xiaohui easily to observe, assess or train a new successor within the family. The need to designate a successor once again arose at a time when there was no potentially competent person available within the family. You Xiaohui thus found himself in a dilemma19: the designation of an incompetent relative threatens the survival of the company, while the recruitment of a manager outside the family increases the risk of disappropriation, especially in the absence of a legal system capable of settling potential conflicts. In the end, You Xiaohui chose Cai, who had worked for several years in Hong Kong and was previously the director of a state enterprise in Shenzhen. The two men had met in 2000, in the course of business negotiations, and became friends. In 2002, Cai resigned from his company for personal reasons. You Xiaohui then invited him to work at Zhengyuan. Despite other offers from big companies, Cai accepted You's invitation because of their friendly relationship. Cai's professional experience in the sector testified to his competence, which was also confirmed by You Xiaohui's direct observation in their formal and informal relationship. However, just as descendance did not guarantee that You Yuan would automatically become the successor, Cai's professional competence was not enough to convince You Xiaohui to place administrative power in outside hands. Mutual trust, the result of a close personal relationship, played an important role in controlling the risk of disappropriation and allowed You to resolve the dilemma of his succession. The second succession, although carried through outside the family, is still intuitu personae.
16Thus professional competence and personal qualities are complementary. While confidence in a person's ability to correctly manage the family patrimony can be established on the basis of indirect information such as reputation, qualifications and professional experience, information on personal qualities is more difficult to obtain. Moreover, the uncertainty produced by the imbalance in the available information is increased when the legal system is unable to punish opportunistic behaviour effectively. In this sense, the trust born of personal relationships largely determines the choice of a successor. But the importance given to personal relationships does not mean that an entrepreneur will have blind faith in his children and an absolute distrust of strangers. Trust is a subjective judgement, but it is not immune to reason. The criteria used by You Xiaohui first to choose You Yuan and then Cai are of three kinds: competence, moral qualities and a promise to act according to the family interest. Yuo Yuan's only advantage in comparison with Cai is that he had an intimate relationship with his father since birth, while Cai had to build a relationship with You Xiaohui in order to establish mutual trust. Trust, based on a long relationship, is also a sign of the dynamic nature of a family enterprise which can bring in people from outside the family.
2. You Xiaohui’s Perspective on the Choice of a Successor
17In China, the development of the private sector goes back less than twenty years, most businesses are family ones and are always run by their founders. The two successions observed in the case of the Zhengyuan company prompted us to formulate the following questions:
18Is the recruitment of talent from outside the family merely an illusion in the case of China ?
19Will the growth of companies lead to the opening up of their capital and what effect will this have on the succession process ?
20Is the taking into consideration by a family entrepreneur of the loyalty, the spirit of commitment and the professional competence of his successor a widespread phenomenon ?
21Is it absolutely necessary for a manager recruited from outside the family to establish personal relationships with the executives of the company which recruits him ?
22In order to find answers to these questions, and in collaboration with the Centre for Research into Family Enterprise at the University of Zhejiang20, we conducted a survey of a sample of 17 family businesses, between June and September 2005. These businesses share the following characteristics: their capital is private; they are large companies21 determined to professionalise their executive team; the head of the company is around fifty or sixty years old, so that succession is not far off; they are manufacturing companies.
23During the survey, we made two unexpected discoveries. We had initially believed that a number of private companies, after over twenty years of growth, were in the process of transferring power from one generation to another or had already experienced a transfer of power. In reality, for a majority of private companies, succession is not an essential preoccupation because of the youth of both the entrepreneur and the company22. Among the seventeen companies, only two had had a change of principal manager, nine had not been confronted with the question of succession, and six did not give any answers. Thus our survey, which had anticipated the observation of practices, reveals only opinions on the question of succession. Secondly, we initially sought to meet with twenty large private companies in the same sector in Wenzhou, but the preponderance of small and medium-size private companies only made it possible for us to identify 13 companies in the area, to which we later added four companies situated in the environs of Hangzhou (two in Jiaxin, two in Tonglu).
24These 17 companies are family businesses in the strict sense because of the dominant presence of the founding family in their capital: 44.18% of the shares belong to the chief executive officers and 41.94% of the shares are held by other members of the founding family (see Table 3). The chief executive officer is the majority shareholder in nine cases, while the other members of the founding family hold the majority of the capital in the other eight companies. As the chief executive officer is, most often, also the head of the family, the founding families control these companies.
25From the management point of view, executive functions are carried out by the founders (in 40.5% of cases) and their children (13.8%), for a total of 54.3% of positions (see Table 4). Family control at executive level is evident, even if it does not preclude the arrival of outside talent (25% of executives are professional managers recruited from outside). The data collected on the capital, the turnover and the number of employees shows that these are large companies (see Table 5).
5. Size of Companies in our Survey
26At the time of our survey, the majority of family businesses were still under the control of their founder. 88.2% of the founders were aged between 40 and 50. The transfer of power between generations is therefore not yet a major preoccupation. However, 82.4% of the founders (14 out of 17) admitted that they have already begun to look for their successors. When asked for their reasons, only nine companies expressed an answer (see Table 6).
6. The reasons for succession
27The main reason is linked to the founder himself. The physical decline due to age (28.9%) is the major reason, while a recognition of the limitations of his competence in the face of technical evolution ranks second (28.3%)23. Some also refer to the external environment in a situation where growth no longer allows the founder, despite his competence, to control his company alone. A lack of management capability within the company obliges him to consider a transfer of power (5.9%). Lastly, outside investors may demand a change of leadership, but the influence they exert remains limited (5.9%). The reason may lie in the closed nature of the capital: the family businesses in this survey mainly rely on self-financing (90%) or on bank loans (69.4%) for finance24. Whatever the reasons for this25, the closed nature of the capital of these companies and the very limited impact of outside investors on the choice of chief executive, lead us to believe that the Zhengyuan company is a very particular case. Its decision to seek a stock market listing must be seen as an evolution in the personal preferences of certain members of the family. In other words, the choice of certain family businesses to become bigger and more “modern”, with the help of the financial markets, is more the result of particular personal decisions than a law of the development of family businesses26.
28Thus, the physical decline of the founder and the evolution in the technical environment are the two main factors that lead to succession taking place, while the direct pressure exerted by outside investors is marginal. The role played by the second generation at this stage of the succession must also be noted. To the question “Do your children wish to work and progress in your company?”, 76.5% of the founders give a positive reply, but none of them envisage giving up their power only because of their children's desire to participate more in the business.
29Although the children's desire to share power with their parents does not automatically allow them to succeed to the job of chief executive, 88.2% of founders want their children to be able to work in the company. This apparent contradiction demonstrates the complexity of the criteria that apply in the choice of a successor. In order to identify them, three categories of qualities were listed in the questionnaire. We asked the founders to list them in declining order of importance, and then calculated their respective levels of importance (see Table 7)27.
30Loyalty (50.4%), leadership ability (50%) and the spirit of commitment (43.8%) are the most appreciated qualities. Experience (26.1%) and university training ((19.5%) are also deemed important. Also mentioned is the network of professional contacts (15.8%). If one compares the level of importance of the three categories, “character traits” come first (28.8%), “abilities” follow (at 17.5%), while “other qualities” come last (2.6%). In the choice of a successor, moral qualities and technical competence are the two main criteria taken into account by the founders. However, morality seems more important than competence in the eyes of the majority of founders28.
31The importance given to loyalty and competence is differentiated according to the kind of responsibility taken on. Where the post of chief executive, the most important in day-to-day management, is concerned, opportunistic behaviour is the most harmful to the interests of the family. Where the manager's loyalty and spirit of commitment are the most important criteria, the selection of a successor always remains subjective, despite the objective aspect of the selection procedure which is partly based on an assessment of competence through university training and acquired experience. Similar assessments are made in other parts of the world. Both in developed countries, such as Canada, and developing countries, such as India, loyalty and the spirit of commitment are deemed to be the most important qualities by company heads29.
7. Qualities demanded of a successor
32Thus the challenge facing a chief executive is to assess credibility and to measure the moral risks ex poste. In contemporary China, institutional trust30 is deemed to be insufficient because of the low power of constraint of the institutional framework. Trust intuitu personae and relationship trust31 are the two main forms of trust which the Chinese establish in economic and social life. When formal structures do not make it possible to produce “calculable trust” resulting from a rational calculation, which consists of accurately predicting the behaviour of others through the constraints of the situation, trust “only begins, can only be measured and is only consistent in lasting social relationships”32. “The social connection network is the organising principle in Chinese companies”33.
33Trust is a continuous process that evolves along with the behaviour of the players, the stakes, their power and the emergence of new rationalities34. The complexity of the information obtained by an employer is thus a function of personal relationships. Resorting to members of the family during the development phase of a company is thus the result of a “stronger trust between family members than between commercial partners”35. The founder of an enterprise has at his disposal more information about the members of his family than about the employees he has already recruited, and, even more so, than about someone from outside.
34Table 8 examines the advantages and disadvantages of choosing a successor by taking into account the degree of “proximity”. Family entrepreneurs share a common vision of the various means of recruitment. They believe that the main advantage of recruiting a professional manager is that it favours innovation, while the main disadvantage lies in the uncertainty about the person’s loyalty and honesty. Internal promotion and recruiting a family member for succession favour the continuity of the company culture, making it possible for the founder to reduce the risk of recruiting a person with weaker moral values than hoped for. However, internal recruitment may slow innovation and the reforms necessary in order to adapt to technical evolution. The loyalty of relations is recognised by most founders as being the highest (61.3%).
8.Advantages and Disadvantages of the Ways of Selecting a Successor
35Consequently, the ideal successor in the eyes of a founder is a relation who is both motivated and competent. This is borne out by our observation, since the majority of those questioned during our survey explicitly stated that the best solution is to pass power on to the descendants who have already proved their professional competence and their spirit of commitment. Problems arise when the ideal candidate is unavailable and when professional competence is the key to the success of the company. The means on which the founders rely in order to check the moral aspect of candidates, if the designated successor is not a relation, are not clear. Nevertheless, our hypothesis according to which personal relationships constitute an informal way of checking the reliability of a successor, is partially justified by the results of the surveys carried out by other researchers. Li Guoqing has shown that 45% of chief executives are either relations (42%) or friends (3%) of the chief executive, 25% are cadres recruited internally, while only 16% are directly recruited on the job market36.
36Beyond the case of the Zhengyuan company, the survey carried out reveals that in Chinese family businesses, the reasons for succession, the criteria of selection of the successor and the order of preference among the various candidates all conform with practices in other parts of the world. In the course of the development of their enterprise, the founders do not hesitate to entrust functional jobs to competent third parties who are not members of the family circle. However, it is to be expected that the succession to the job of chief executive officer will usually be the result of the natural retirement of the head of the company. Anxious to preserve his patrimony, an entrepreneur in China, as elsewhere, while taking into account technical competence and management abilities, assesses above all the honesty and loyalty of his potential successor. Trust, in the widest sense of the word, is a decisive factor. Consequently, the entrepreneur prefers to designate a competent member of his family.
37It is when such a successor is not available at the time of succession that the particularity of China's case becomes more marked; this is not linked to cultural specificities, but to the institutional context37. The underdeveloped state of institutions and the destruction of traditional social organisation38 limit the role of institutional trust in economic co-operation. In contemporary China, trust is usually produced by personal relationships. Social networks are brought into action in order to control the risks in the face of uncertainty39. The case of the Zhengyuan company and the opinions we have gathered show the entrepreneur resorting to his network of relationships when his successor is being chosen. Depending on the degree of intimacy of the relationship, he first seeks a candidate among “the members of his family” then among “those close to him”, and may finally resort to “strangers”. The wide-ranging definition of zijiren, which includes all those deemed reliable and sharing common values, makes it possible for a family business to escape the dilemma of succession and to develop even if there is a lack of available professional managers. The survey did not make it possible to answer all the questions arising from the case of the Zhengyuan company. Our sample was limited, and could not determine how representative it is of the majority of private companies, which in reality are small in size. Moreover, the question of succession remains open. Further surveys will provide wider knowledge and understanding of this area of business in China.
38Translated from the French original by Michael Black
Yue Lin, « Family Entrepreneurship and Succession », China Perspectives [Online], 66 | July- August 2006, Online since 01 August 2009, connection on 30 April 2017. URL : http://chinaperspectives.revues.org/1035Top of page
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