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The Partnership charter

The Partnership Charter by David Gage Millions of people co-own closely held companies, family businesses, and business partnerships, but establishing them and keeping them together is never easy. Here, finally, is the guide they have been waiting for.... Read More
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Partners, Fairness and Compensation

Compensation Handbook

by David Gage
The Family Business Compensation Handbook
October 1, 2001
 
Many years after he went to work for his father-in-law, my father told me he had never had a conversation with my grandfather about what he would earn. “There was no need to,” he explained. “I knew Grandpa would be fair.”

At its heart, the matter of compensation is a question of fairness. In my family’s business, as in many others, a parent defined fairness. When there’s no parent around, or when the parent leaves the business, it becomes a challenge for the successor generation to determine what’s fair.

Three things frequently make it difficult to set compensation in a way that everyone considers fair. First, compensation is about money, and money is a complex and mystifying subject. Second, setting compensation is an expression of what the partners think about their relationship, in a way that most other decisions about the business are not. Third, fairness isn’t an easy concept for business partners to talk about and negotiate.

Money: More than meets the eye

Money discussions can be highly charged even when they sound on the surface like staid, rational debates. Family therapist Cloe Madanes wrote, “In our families, we use money as a secret weapon in manipulating a myriad of underlying, unresolved conflicts about sex, love and power.”

Money moves the wheels of businesses and commerce. It also moves individuals. It permeates almost every aspect of people’s lives and creates immense amounts of stress both within and between them. Therapists have noted that married couples have more conflicts over money than they do over sex. Money is at the core of who people are. Many are convinced that money will make them happy.

In his book The Power of Gold, financial expert Peter Bernstein relates a story told a century ago by the philosopher John Ruskin. A wealthy passenger on an ocean liner is carrying a big bag of gold coins. When the ship meets with disaster, everyone is ordered to abandon ship. The man straps the gold around his waist, leaps over the side and plunges into the water. He sinks swiftly and perishes on the sea floor. So, Ruskin asked, did he have the gold, or did the gold have him?

People are often warned that too much money reaps havoc and ruin. Nonetheless, they insist on acquiring their own bag of gold so they can find out for themselves.

Relationships among partners of the same generation

If business relationships are to succeed, they must move beyond what they were earlier within the family. Adult children need to move beyond the dependency, deference or defiance of childhood and adolescence to achieve peerlike relationships with parents and collaborative relationships with one another.

Many people find it easier to shift the tone or quality of their relationships with their parents than with their siblings. Sibling relationships are often characterized by competition, but siblings in business families must struggle through their competitive feelings and forge more mature, collaborative relationships. Two factors make it much more difficult for them than for siblings who aren’t in family businesses to accomplish this.

First, when siblings aren’t in business together, their worlds are separate, and they can build their own identities without sibling pressure or interference. Second, siblings not in business together are free to develop more mature relationships with one another without the negative, sometimes destructive influence of money.

When siblings in business together are stuck in the competitive mode of childhood, they remain focused on wanting and getting, and they have trouble with giving and sharing. Competition creeps into many corners of the relationship, and it rears its head as jealousy. Siblings in this predicament are incapable of feeling genuinely happy for a brother or sister who achieves something wonderful. Power struggles become commonplace, and out-and-out wars aren’t unheard of.

Even when siblings are trapped in competition, they want and need much from each other that has nothing to do with money. I often remind siblings of that. Not one has ever tried to refute it. I also remind them that their relationships with one another are among the most important relationships they will ever experience.

If siblings are caught in the cycle of competition and are struggling with one another over resources, it’s nearly impossible for them to be happy working together, no matter how much money they’re making. If a parent is still running the store, even nominally, the siblings will probably manage to work together, at least in parallel (not really as a team), but only as long as that parent is still in charge. The longer-term problem is far from resolved.

Four cousins from two families in a $100 million, third-generation company all received equal compensation of about $300,000 a year, a figure set by their fathers, who were brothers in the company’s second generation. Everyone recognized from the beginning that one of the four cousins would have a lower level of authority and accountability because he contributed the least in terms of expertise, time and willingness to assume responsibility.

That arrangement worked reasonably well for a few years, but as the second generation moved farther and farther out of the business, all members of the third generation—save one—grew discontented. A compensation scheme that had first appeared fair because it treated all of them equally began to seem unfair for the same reason, Even the one who was contributing the least recognized the inequity of the inherited system. But since there was no mechanism in place for reviewing it, he rejected any discussion about it.

His stonewalling, which perpetuated a sense of unfairness in the other three, helped precipitate two major upheavals. First, one of the other three partners was bought out. Then, just a few years later, the business was sold.

In another case, three step-siblings came to us a few years ago because they weren’t happy with their compensation arrangement (see Family Business Magazine, Spring 1999). Their company, Spacesaver Systems Inc. in Kensington, Md., was a second-generation business. The three step-siblings had entered the business over a period of many years and played very different roles in the company. Because they entered at different times, they were receiving different pay, but all were acutely aware of their parents’ wish that before long they would all be paid equally. Changing to equal pay pleased the one who entered last, of course, but didn’t feel so good to the two who’d been working there much longer.

In situations like these, the best approach is to put the task of collaborating, negotiating and reaching consensus on a compensation strategy squarely on the shoulders of the co-owners or co-owners-to-be. The strategy that’s ultimately chosen should feel fair to all of them. Parents should explicitly agree to let siblings decide this issue if they are the ones who will own the business together.

What’s fair?

Fairness is really a feeling about a situation. Because it’s a feeling, no one can tell someone else what’s fair. It’s a sense that people have, or don’t have, based on their own perceptions of the facts and the interpretation they put on those facts.

But how is the sense of fairness to be translated out of the world of feelings and into the world of business? Understanding fairness as interpersonal equity helps greatly.

Partners are perpetually—and usually unconsciously—weighing all the things that they put into the business and all the things they take out of it. They silently compare the two. The things partners put in include factors such as how hard they work, the expertise they contribute, the time they have to spend on the road, the stress they endure and perhaps the time they must spend picking up the pieces for others who aren’t doing their jobs.

On the other side are the things that people take out, which include money, of course, but much more as well. Do they set their own hours? Does working provide access to social activities that would otherwise be inaccessible? Does the company or their position give them prominence that they wouldn’t otherwise enjoy? Do they possess some say over whom they work with day in and day out? What are the perks? Is there travel to great destinations? Are they able to spend their time creatively generating ideas that other people must follow through on?

At the same time that partners are tallying their personal balance sheets, they’re also busy comparing them with what they think their partners are putting in and taking out.

Inevitably, partners make very different contributions and extract rewards that are specifically important to them. What’s a pain for one—putting out fires all day, for example—is a pleasure for another. This is the magic of partnerships. The simultaneous comparisons lead to the conclusion that a situation is or isn’t fair. Partners offer different talents, and they value rewards differently. The question is, can they truly recognize and appreciate their unique mix?

In an interview about their brotherly- not quite family -partnership, Ben Cohen and Jerry Greenfield of Ben and Jerry’s ice cream company provided a perfect illustration of how interpersonal equity operates. Late one night, Jerry was hand-mixing one of the first batches of Oreo Cookie ice cream—a concoction that Ben had dreamed up—and it wasn’t going well. Jerry was exhausted, and his arm was almost frozen. He started feeling disheartened and unappreciated and thought, “This isn’t fair!” He was focusing solely on his contribution.

Moments later, as dawn was beginning to break over the green hillsides of Vermont, Jerry remembered that Ben would soon be driving their company’s “death-trap” delivery truck up and down those steep hills to deliver their fresh batches of Oreo Cookie ice cream. His feelings that their relationship was inequitable suddenly vanished.

“We were both really in it together, and however hard I was working, he was working harder,” he concluded. Ben chimed in to say that he felt exactly the same way about how hard Jerry was working.

It isn’t always easy to see the entire interpersonal equity equation as clearly as Ben and Jerry did—but that’s what’s necessary. It’s part of what made them such a good and motivated duo.

While it’s tempting to look at compensation in narrow, dollar-value terms, it’s far more enlightening and productive to first examine the bigger picture, which includes the relationships among the partners and the matter of fairness. The step-siblings at Spacesaver Systems found this to be true. Only by having a full discussion did they learn that the step-sister who entered last was underperforming in large part because of her resentment about the inequity. She also had very strong feelings about the opportunities that were withheld from her when she entered the company. As a result of this discovery, the two who had been working much longer readily agreed to a new plan for her in the business. She in turn agreed that as long as she would get the same opportunities afforded them, she would be happy to tie compensation to roles and performance.

In one New England family business, a sister had been recruited by her parents to run a specialty manufacturing operation in a small town while her brother ran the family’s boutique hotel in the city. The parents had largely determined compensation. The country manufacturing plant had lost money for years, but the sister managed to turn it around. Still, the hotel was the business’s cash cow. After the parents left the business, the brother used this fact to rationalize his salary, which was about double what his sister was paid. The sister argued that their respective positions were the result of a multitude of circumstances over the years and that she “should not be punished” because of it. The brother argued that “market forces and industry standards” strongly supported the disparity in his favor.

A series of meetings to review their compensation delved into the future as well as the past. They examined money, their relationship and the matter of fairness. To get quickly to the heart of the issue, each of them separately developed four lists. The lists detailed what they believed they contributed to the business and what they got out of the business, and what they thought the other contributed and got out. Both were surprised by what they heard when they met to share their lists. Eventually, the brother came to understand that if he stuck to his position, he might win the war but he’d probably lose his sister in the process—both as a business partner and as a sister with whom he got along. They talked at length about what each of them contributed and looked closely at what benefits they each derived from their respective roles. They worked out an arrangement that was different for each of them in many respects but felt fair to both of them. They agreed to review it periodically.

As challenging as it is for partners of the same generation to let go of external arguments for determining compensation and move into open discussions that explore these issues, the result is usually a much stronger, more motivated team.
 
David Gage, Ph.D., is founder of BMC Associates, a multidisciplinary team of conflict prevention and resolution specialists in Washington, D.C.