Lessons from the pirates: Compensation and corporate benefits

by carly_midgley | April 17, 2018 10:20 am

By Danielle Walsh

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Captain John Phillips’ pirate code of conduct includes the following mandates:

“1. Every man shall obey civil command; the captain shall have one full share and a half in all prizes; the master, carpenter, boatswain and gunner shall have one share and quarter.

2. Ye officers will receive each a single share, and if ye distinguishes yourself, the crew will determine how much reward to be given to ye.

3. If ye lose an eye, or hand or leg in ye said service, ye shall receive up to … six hundred crowns.”

When you look at the pirates’ rules[2] relating to compensation, it becomes apparent they left very little room for questions or conflict. The compensation was clearly stated for all positions onboard, and it was crystal clear the captain receives 1.5 times as much as the crew. Further, when the pirates got onboard the ship, they knew exactly what to expect if they worked hard and performed well—as well as what to expect if they were hurt ‘on the job.’

Compensation in family businesses

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In my experience working with family businesses, this clarity is frequently lacking. I have often seen family members get paid equal wages despite having differing roles and responsibilities. One can only imagine the resentment that grows amongst siblings or cousins when they are all paid the same despite some of them playing senior management and leadership roles while others play junior or administrative roles.

I have also seen some family businesses pay their active family members based on need. For example, the sibling who had four kids but lesser responsibilities was paid more than the sibling with one kid who was CEO. These situations create a difficult dynamic and potential issues amongst siblings and cousins, which will only continue to grow over time if not managed. This makes it increasingly difficult for siblings and/or cousins to work, manage, lead, and own together.

With the pirates, crew members were compensated according to their positions onboard. It makes sense the captain is paid more than the crew, as are the gunner, boatswain, and others in positions of importance. Family businesses would greatly benefit by doing the same. However, it’s never easy to tell your son, daughter, niece, or nephew who just came out of university and wants a job in the family business they are not worth the $80,000 they were hoping for.

When there are no policies in place for compensation of family members, the individuals receiving less than they are worth will often assume it’s due to personal issues (i.e. mom, dad, aunt, or uncle never liked me much or preferred another), while those receiving more than they are worth will assume it’s due to their self-assessed skill set or simply based on entitlement.

Family business rule: Compensation

If all family members were made aware there are family business rules, one of which deals with compensation, related conflict would be minimized or, better yet, eliminated. The compensation decision would no longer be a personal one, but an objective one based on predetermined rules. Further, there would no longer be any surprises with respect to what family members can expect, given it is already outlined.

The rule for compensation could include the following clauses:

• family members will be paid based on fair market value (FMV), meaning the same rate of pay that would be paid to a nonfamily member to do the same job;
• as with other employees, pay increases will be based on performance (other than the annual inflationary increase);
• a compensation review will be carried out every three to five years to re-evaluate FMV; and
• for executives, the compensation package will include a base salary and pay for a performance component based on a predetermined formula (e.g. percentage of net income or divisional income) as well as corporate benefits, with the distribution of corporate profits also clearly outlined based on participation by executives.

What constitutes reasonable business expenses should be outlined in a policy especially for active family members. If this is not outlined in writing, the abuse of corporate assets can be a major detriment to family relations in the business. Pay arrangements for active family members’ leaves of absence and sabbaticals should also be outlined in writing so it is clear to all how these situations are to be handled, rather than dealing with them on an ad hoc basis.

This means when a family member joins the business, he or she will have a clear understanding of the salary or compensation package that can be expected. It also means those with more responsibilities and pressure will receive compensation commensurate to that position. However, compensation is not the only issue. Corporate benefits tend to create as much conflict amongst families in business as compensation does, if not more.

Corporate benefits in family businesses

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Corporate benefits can create a lot of issues amongst family members (both active and non-active). Many benefits offered by family businesses to family members are taken for granted, whether it be a company car, paid lunch every day, or personal use of company resources. When these benefits are not properly managed, it creates the perfect opening for conflict and jealousy to arise.

This jealousy or resentment can also start to permeate the family members who are not active when the benefits seem to greatly surpass what would typically be provided in a business. Policies or rules relating to corporate benefits for family members must be detailed, as an open-ended benefit or unclear rule can cause as much animosity as no rule.

Family business example

I worked with a family business where two siblings, James and Michelle, both worked in management. The policy in this business was family members in management got a company car. However, the policy was not clear as to what that really meant. Michelle, being economical in all decisions, chose a midsized car, which in her mind met her needs. James, on the other hand, had a taste for sporty cars and chose a high-end sports vehicle he couldn’t wait to show his father.

Once Michelle started to see the costs associated with her brother’s choice (new accessories, winter tire storage fees, weekly car cleaning, and expensive repairs and maintenance), it started to frustrate her, as the cost for her car was a fraction of that. She could use that money to put her kids in private school, travel, or plan for retirement. Just because she didn’t feel the need to waste money on a car, that didn’t mean she didn’t want those funds for something else. This resentment permeated their meetings. Every time James recommended spending money on something, Michelle would get upset. She equated his personal fiscal management to his business fiscal management.

The point here is the benefit was intended to be equal, but due to the lack of clarity, its application was not. One may also wonder if it is fiscally responsible for a business to pay for excessive costs related to the kind of car James chose. James’s choice may have been very different had the policy for the car benefit been for a certain amount every year (say $7000), and anything above that had to be paid personally.

Family business rules: Corporate benefits

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All family members have differing expectations, spending habits, and preferences. Therefore, many family businesses endorse the concept of a benefit block. This is an amount allocated to each family member in management. They can do whatever they want with it, whether that means placing it in their registered retirement savings plan (RRSP) or tax-free savings account (TFSA), using it to put their kids in school or to travel, or putting it toward a car.

This means instead of being mandated to get a car, Michelle would have been able to use her benefits on something important to her. It also means having a more satisfied management team, as they get to choose what they want to spend the benefit on and know the benefit is the same for everyone.

The benefit block amount needs to be predetermined and reviewed every three years or so. For instance, it could be for $10,000 per year, with whatever you don’t use by the end of the year either paid to you in full or carried forward to the next year. Family businesses can consider having a benefit block for family employees, managers, and owners, with the amount getting higher as the family member moves up the ranks.

The important lesson we get from the pirates is clarity. All pirates onboard knew what they would be compensated (one share for the majority of them), what they would receive for good performance, and what would be done if they were hurt on the job. Typically, all family members joining the family business have very different expectations with respect to all of these items. We need to get the whole family onboard with family business rules to remove conflict and be able to focus on the business—just like the pirates!

Anchors aweigh

Up next is Part 3: Exit strategies[6]! I am not saying you’re going to maroon your family members on an island (although sometimes that’s an appealing thought), but that predetermining the terms and conditions of an exit from the business is key to success and informed decision-making.

Danielle Walsh is founder of Walsh Family Business Advisory Services, a consulting company specializing in helping family-owned and operated businesses navigate the rough waters of management and ownership succession. She is a certified public accountant (CPA), chartered accountant (CA), and holds certificates in family business advising and family wealth advising from the Family Firm Institute (FFI). Walsh is also president of the Ottawa chapter of the Family Enterprise Exchange. She developed her philosophy and desire to help family businesses from her father, Grant Walsh, who has worked as a family business practitioner for the last 25 years. Walsh also currently teaches the first family business course offered at the undergraduate level at Carleton University in Ottawa. She can be reached via e-mail at danielle@walshfbas.com.

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