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Weare looking at howprofitable the businesses are and howmuch they are reinvesting for the future as opposed to paying back shareholders through dividends


OBEEJIKEMECARMIGNAC


This refers to thenon-financial aspects thatmeet the family’s needs. “It is about identity, reputation, legacy. The families have somuch invested in these companies, it is about them andwho they are. They have skin in the game.” With somuchwealth tiedupin


their businesses,howfamily-owned businesses act andhowthey invest tends to be very different fromnon- familyownedbusinesses,andthey operateonvery different time horizons. “Family businesses tendto put a


large proportionof their profits back into the company, either through reinvesting or deleveraging the balance sheet, than non-family ownedbusinesses,” saysMrJohnson. “Andwhen theydo invest, they tend to do itmuchmore strategically and with better outcomes.Andyet theydo this withlower leverage. They are muchmore cautious.” There are pitfalls though, he says,


especially surrounding governance, whichexplainswhymany of these firms often score poorly inESG ratings. There are risks that can come with the presence of adominant shareholder,whomight ignore the wishes of thosewhohold less equity. There is also the risk of individuals or a family confusing personalwealth with operational assets, putting family interests in front of corporate ones. “Nepotism is a fear that investors


often think of,” saysMrJohnson, explaining that to identify andavoid the risks in this sector youneedto take an active, qualitative approach.


CONSERVATIVEMINDSET Family-owned companies do indeed tendtohave a longer-termview, agreesEugène Klerk, head of global thematic researchandequity research productmanager,Europe at


CreditSuisse. “This is partly drivenby the fact that family-ownedcompanies tendto bemore conservatively financed andin addition their cash flow returns tendto bemore stable.” Furthermore, the bank’s research


suggests these companies,when going through a recession, do not tendto diversify but rather focuson their core business. “They stick to what theyknowbest,” he says. The fact that familyowned


companies tendtohave higher quality ormore defensive characteristicswas a key reasonfor their outperformance last year, says MrKlerk,andthere has been growing interest frominvestors as a result. “Against the backgroundof


volatilemarket conditions,family- ownedcompanies providemore robust returns,” he explains, adding that the fact the founder or the family’swealth is tiedupalso provides investors with comfort that noradical decisions are likely to be made. YetMrKlerk cautions that as


Covid-19 becomesless of a factor, some of this outperformancemight reduce, giventhat investors could focusona reboundin equitieswhich underperformedduring the pandemic. Assetmanager Liontrust, as part


of its EconomicAdvantage process, likes to invest in companieswhere managementholds a stake in the businesses they are running, as this gives a clear alignment of interest between investors andmanagement. The firm looks for at least 3 per cent ownership, thoughthe average tends to be closer to 20 per cent. These owner-manager companies


tendto avoid debt, says AlexWedge, a co-manager of the LiontrustUK SmallerCompaniesandUKMicro Cap funds, as theydo notwant to destroy theirown, or their families,wealth in


one cycle by being over geared. They also tendnot todostrategic or very large acquisitions for thesame reason, he says, asbuyingsomething very large oftenmeanstakingon debt,whichbrings a lot of risk. “The funds tendto performwell in


steepmarket declines,” saysMr Wedge.“One reasonbeing those strong balance sheets.Wehave quite a big bias towards quality. That tends todowellwhen people are fearful.” They also tendto dowell in


normal times, he reports,when that quality biasmeans they are meeting or beating expectations.“When they don’t dowell is steep cyclical rallies, aswesawafter the positive newson the vaccines. Sowehada year of two halves.”


LOOKINGLONGTERM Many companies,andinvestors, place great importance in quarterly reportedearningsnumbers, saysObe Ejikeme, co-manager of the Carmignac Portfolio FamilyGoverned fund,whichlaunched in 2019. “Nowweare obviously happy


when thenumbers are good, but even the corporates will tell youthere is a frustration aroundwhat is a ritual, something that is essentially designed by regulators to stopthings fromgoingwrong.” This focus can blur the line


betweenwhat is in a company’s best interest over the longterm, he claims. “Sometimes it is better to divestsome of your business, tomake big long- terminvestmentswhichare really negative to earnings for one quarter or half a year, in the interests of being a better business.” Family-ownedbusinesses are


muchmore likely tomake those decisions, ploughing cash back into theirowncompany through, for example, increased spendingon researchanddevelopment.


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