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By the numbers: Most multi-generational businesses fail

Jon Holthaus for Progressive Dairyman Published on 04 November 2016

There’s nothing any of us want more in this world than to take care of our family. To give them opportunities we never had. So we work and build something, a business, in which the rewards may not be reaped during our lifetime but can hopefully be an opportunity for the next generations.

If only the ingredients needed for success in farming were passion and good intentions, failure would be hard to find. But we can all agree: Failure is not hard to find, especially when there is a multi-generation transition. Statistics show 70 percent of family-owned businesses either fail or are sold in the second generation.

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For the third generation, just 10 percent remain active. How does this happen, and why does it continue to happen? What is it like for a second- or third-generation farmer to pursue this career path, knowing the odds are stacked against them?

There is no clear-cut answer to any of these. However, there are those who have made it work, and there is usually a transition point. You may notice situations in which a generation passes away and a farm is transitioned to the next generation, and the operation can go in two very different directions.

Some operations are able to expand after the death of a family member, even under unfavorable conditions, while others fail or sell even during the most favorable conditions. Why is that? There’s not a guaranteed or perfect-fit solution for everyone. But there can be common traits that lead to each direction, and we can explore them.

A guaranteed place on the farm

Let’s assume your farm has had some level of success. That success has created freedoms and choices for your kids, just as you always wanted. These opportunities allowed for your children to have opportunities in the farm operation you never had but also the ability to pursue dreams away from the farm.

Let’s assume you have one child who decides to pursue the farm as their sole occupation, but the others pursue dreams somewhere else. What happens when those off-farm dreams result in a failed business or failed pursuit toward music, art, athletics, etc.?

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As loving parents with the vision of the perfect family farm ingrained in the back of your head, you see it as the opportunity to finally include them in the farm and put them as part of the operational leadership.

Great intentions don’t always lead to great results. What you may have is a 40-year-old with low experience, little preparation and even less inspiration for the farming operation. To the second- or third-generation operator who has been in the business since day one, being forced into a business partnership with his or her sibling may be something out of a horror movie.

There is no perfect solution to this, but a good rule of thumb is to treat business as business. Have an open dialogue with the current operator and let them voice their opinions in private. Give the son or daughter that is new to the farm a job, task, hours and pay any new employee would be assigned given their skill level and experience.

Hold them accountable to increase their knowledge and training. Putting someone who is inexperienced in a leadership capacity will significantly increase the possibility of a business failure – both financially and culturally among the operation’s members and employees.

There is another side to this coin in which it could be a benefit of sorts. Consider if the off-farm child would pursue a career or dream in an area that would provide a benefit to the operation. For example, having a career or background as a veterinarian, nutritionist, mechanic, accountant/finance professional could potentially add tremendous value.

In these cases, placing them in a role that uses their strengths but still complements the skills of the other key individuals in the operation may be a good option. Be careful not to step on any toes. For example, let’s assume the current key operator who has been there since the beginning has the role of “cow guy” or herd manager.

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If the newly implemented child’s skills are also herd management, there could be issues. Be sure to establish the hierarchy of leadership before this implementation. As the old saying goes, having too many “chiefs” can decrease the probability of success.

The ‘gray’ area

In many cases, the intention and direction of off-farm family members can change as much as the weather. Because of this, coupled with Mom and Dad’s desire to have a united family farm operation, Mom and Dad’s estate plans or business arrangements oftentimes try to get the best of both worlds. It occurs when the off-farm siblings are not quite in, but not quite out.

I call this the gray area, where the operator is set up to rent from or share the profits with their siblings after Mom and Dad pass away. Sound familiar? If it does, you probably already know the potential pitfalls.

This gray area may not quite work out as planned. Imagine the scenario the current operator would be put into and how this plays out: Negotiating a rent contract with an off-farm sibling who has no current grasp of the market rent or market conditions.

Could you imagine doing that every year? Better yet, what happens if or when that sibling passes away and now you have to negotiate with their spouse or children? It’s hard enough with a neighbor who is not a family member.

Splitting “profits” can also be a potential pitfall. On the surface, it looks like an easy, civil set-up. But farming is a business that requires constant re-investment and upgrades. In addition, it can be an equity-rich, cash-poor business at times. Imagine when the off-farm sibling doesn’t agree with the re-investment or expansion plans of the operator.

One side may have the incentive for growth or productivity of the farm. The other may have the incentive of taking a cash withdrawal to help pay for a child’s schooling, wedding, etc. You can relate to the good intentions on both sides, but you can also see the potential issues that arise.

Consider your situation and the most realistic chances of success. Would the operation be better off being “black and white”? What this means is that, upon Mom and Dad’s passing, the on-farm operator would be the sole or controlling owner of the farm. The non-farm sibling would receive some asset or compensation unrelated to the farm to help make the estate fair to your liking.

Take the time to draw up some feasible financial options with your trusted financial and legal professionals that would allow for the non-farm heirs to be treated fairly without being detrimental to the operation. Some brainstorming options are touched on below.

Funding while you are alive

Mom and Dad, I’m looking at you. If you’re successful, your family probably jokes that you are a certain way. Chances are, you are the way you are because of what you have been through: high interest rates, low commodity markets and drought, just to name a few. You’re hardened, tough and a survivor.

You’ve been through things your children or grandchildren may never have been able to overcome. You know this, and therein lies the core reason you are stalling on your estate or transition business plans. Making the estate plan black and white may be your intent, but how do you decide what is a reasonable amount for the operator to buy/pay the non-farm heirs upon your passing?

The risk arises with the operator having to take on a large financial burden, such as a loan, after you pass away. You are worried about the financial burden that may be magnified by potential tough times, like you had to endure, but you won’t be here to help. Your worry is real – and is often the reason why farms struggle to transition well. What are you to do?

If you, Mom and Dad, are at a comfortable place financially, and if it’s feasible, why not consider setting aside a liquid account of some sort which can be funded by the successor operator while you are alive? This will help to “equalize” the estate. Here’s how it could work. Establish an end goal and a set payment or contribution amount to reach that goal. During the good or profitable years, the successor will be able to make the payment.

For the bad or tough years, you will still be here to make sure that the payment/contribution can be made. Your toughness and survivor experience will make sure it is funded in a worst-case scenario. In this way, it’s a self-fulfilling prophecy: You get to be here and guarantee the funding for a buyout/equalization instead of leaving the outcome to chance after your death.

There are plenty of account options available, such as checking/savings, mutual funds, life insurance, etc. A combination of different options may be a best-fit solution after consulting with your team of professionals.

These situations mentioned may or may not make sense for you. The key here is to empower you with knowledge and examples to take action. Without proper and thorough action, your legacy and family could easily be a part of the 70 percent statistic. There is never a perfect time to start this process; you have to make the perfect time.

Consult or seek out a team of experienced professionals to help navigate through this important time in your life. If it’s done right, your family business can continue for generations to come.  end mark

Jon Holthaus
  • Jon Holthaus

  • Financial Planner
  • Holthaus Financial Group
  • Email Jon Holthaus

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