By his own admission, Jeffrey Block is not a chief financial officer. Trained as an accountant, he worked for five years in the tax department of a Big Six firm before joining his family’s company as controller. Although his father, the founder and president, trusted Jeffrey with the books, the son rarely participated in management decisions. Nevertheless, Jeffrey got to sign all the bank loan documents for the firm’s recent plant expansion as the Principal Financial Officer. Quite a responsibility for someone who was not given an opportunity to study the terms of the loan and has never been involved in a negotiation with a bank.

Study the organizational charts of many family firms, even large ones, and you may have to look very hard to locate the chief financial officer—if you find one at all. If someone is identified as the CFO, he or she is often relegated to the periphery of the chart, out of the loop of senior management decision-making. And it is likely that the position labeled “CFO” is filled by a bookkeeper, comptroller, or accountant like Jeffrey Block (a fictional name). Can family firms really afford to be without a savvy, experienced CFO integrated into senior management?

There are two main reasons that the financial affairs of first-generation family businesses are usually put in the hands of a family member, the family accountant, or a bookkeeper not actively involved in management decisions. First, the financial needs of the business, especially at the outset, are often basic; record-keeping, bill payment, and payroll management are the major financial challenges. Second, founders want to keep their financial affairs private. Thus, trust often trumps skills when it comes to handling the finances of the business.

However, as a family firm grows and evolves into the second or third generation, and more family members have a stake in the business, its financial needs also become more complex. Sophisticated financial management is needed, requiring a fully trained and experienced CFO. This kind of CFO needs to develop long-term financial plans for the business; identify the most appropriate sources of growth capital, establish and maintain relationships with banks and other funding sources; invest the company’s excess liquid resources in the most advantageous way; evaluate the various mechanisms for providing shareholder liquidity (dividend policies, stock redemptions, and stock repurchasing plans among others), while carefully safeguarding the financial resources needed to ensure the long-term growth of the business.

A fully qualified CFO will sometimes be needed in a first-generation business when it is growing very rapidly and its founders aspire to even faster growth. Usually, however, the need for a CFO in a family business grows when control passes to the second generation, and certainly by the time it passes to the third.

At this stage of growth, many family firms face this question: Can the existing financial officer—the accountant, the bookkeeper, the comptroller—accomplish all the financial tasks so critical to the development of the business and the interests of the shareholders?

Navigating between factions

In any business, the CFO role is a critical one requiring a broad range of financial management skills. But in the family firm the CFO must have a skill set that goes beyond financial acumen. Particularly in later-generation companies, the CFO must often navigate the treacherous waters between the liquidity objectives of shareholders (both active and inactive) and the growth objectives of the business. For this reason, he or she must be a keen listener and adroit communicator, and be capable of earning the trust of various factions within the family.

Take the example of James R. Egan, chief financial officer of the Donovan Construction Co. As a nonfamily executive in this very successful and profitable family company, Egan had a hard time understanding why so many shareholders were perpetually discontented. The company had been growing by an average of 22 percent a year and over the last three years dividends had doubled. When Egan talked with some of the shareholders not involved in management, he found the problem was not so much dividends as the lack of options for cashing in stock if and when they wished to do so. In addition, they were frustrated by the paucity of information given them by management on the firm’s progress and its financial results.

With the agreement of the family chairman, Egan continued to stay in touch with the shareholders and now provides them with regular financial reports on their investment. Just as important, he has set up a formal program that enables shareholders to sell stock back to the company or to other family members. Egan realized that as a nonfamily outsider, he was in a position to play an impartial role in keeping the peace among family shareholders. That takes a lot of skill and patience.

The CFO must be an honest broker, one not aligned with any faction in the family or with the interests of any particular group of shareholders. Impartiality is key. To be effective, the CFO must understand the often conflicting needs of shareholder groups and must be creative in devising solutions that all can live with. This explains why the CFO should not, except in rare cases, be a family member.

A qualified CFO is also needed when the capital and growth needs of the business exceed the financial wherewithal of family members. It is not unusual to find family firms with $100 million in sales and hundreds of employees relying on short-term bank financing when long-term growth capital would be far more appropriate. Such firms may manage succession well, and may meet commercial challenges, but they often fail to meet financial challenges effectively because of their reluctance to move the CFO from the margins of the organizational chart to the center.

Lastly, a skilled CFO should be hired when earnings can justify and support the cost. At this point the company is likely to be large enough, and complex enough, to require the services of a CFO with sophisticated financial management skills.

Family firms seeking a CFO as part of senior management should look for proven professional competence and prior experience in a family business. The CFO must be knowledgeable about financial planning and labor, pension, and benefits issues. He or she must be experienced in the negotiation of business transactions with banks and other financial institutions, and intimately familiar with the various sources of growth capital and the different vehicles for investment.

The role of the CFO must evolve as the business and the family evolve, and as the needs of the business become more complex. As the business grows, financial management will become a more integral part of the overall business strategy. The CFO will become ever more active in senior management, and the role will be more that of peacekeeper than bookkeeper. The challenge for family firms is to allow, and even encourage, this evolution.

By permission of the publisher from Family Business (Spring, 1998). Family Business Publishing Company, http://www.familybusinessmagazine.com.