ECONOMIC VIEW: Why do we sell out when they keep it in the family?

Are families good for business? One of the clear distinctions between the UK system of company organisation and that of continental countries is the preservation of family control on the continent, by contrast to the sell-out mentality of Britain's owners. It is a distinction as marked as the noted distinction between bank finance and stockmarket finance but one which has attracted much less attention.

There is, on the surface, an obvious link between the two. The availability of stockmarket finance would seem to make it easier for UK entrepreneurs to sell their businesses. But as a new study* sponsored by 3i suggests, the differences between the UK and the continent have more to do with cultural attitudes, and different continental countries themselves show very different results.

The issue is important, for two reasons. First, 85 per cent of small and medium-sized businesses in Europe are family firms. Second, small and medium-sized businesses are increasingly going to become the principal private sector employers as their bigger siblings downsize. So ensuring that the succession passes in an efficient way - one which enhances rather than diminishes the business - is enormously important for our future prosperity.

Some results of this study are summarised in the three graphs. British owner-managers are the least inclined to establish family dynasties; as the graph on the left shows, only 23 per cent have inherited the business. Germany is at the other extreme, with 57 per cent of owners inheriting. Along with the French, British owner-managers are the least likely to transfer their business within the family (centre graph). If and when they do sell, the British cite most often the desire to realise a capital gain and the need to get new management into the company. The French and Germans, by contrast, stress the more negative reason of "not able to pass on within family". The oft-made point that British companies need to sell to raise finance is not supported by this survey. They seem less likely to need to sell for this reason than companies in France, Germany or Italy.

What should we conclude from all this? The fact that there is, in the UK, a particularly active capital market, does not seem to loom large. Differences seem to be culture-driven, not institution-driven. This raises more questions than it answers. Why are the cultures different, and does this have implications for economic performance? It would be fascinating to know to what extent taxation plays a role in the desire of the British to extract their cash. Not just the extent to which British owner-managers who have sold out transfer their money offshore to avoid UK taxation, but also the extent to which the German tax system makes it possible to pass on businesses to children whereas the British does not.

Go back a couple of generations and the British established and carried on family firms, but post-war taxation made this at best an inefficient and at worst an impossible way of passing on wealth. By contrast German taxation made passing ownership of a business more tax-efficient than passing on securities.What we call cultural behaviour may not really be culture at all, but a rational response to financial stimuli.

Much has been made of the strength of the middle-sized German and Italian companies, most of which are family-owned, and which are often credited with the strength of the German and Italian recovery since the second world war. There is surely something in this: the stimulus to the economy from the trauma of defeat, and the fact that conventional careers in large companies were not open to a generation of would-be managers.

The experience of Britain in the 1980s may mirror that of Germany and France after the war. Britain's economic failure in the 1970s and the upheavals of the 1980s were of course utterly different to the struggles of post-war Germany and Italy, but we do know that there was a surge in new business creation in Britain in the 1980s: at one stage we were creating more new businesses than the rest of Europe put together.

Some work by Jane Black of University College of Wales, Aberystwyth, and David de Meza of Exeter University (published in a recent issue of the Economic Journal) suggests that business start-ups in the UK are stimulated by two things: unemployment and rising house prices.

For every 10 per cent increase in unemployment there was a 4 per cent rise in VAT registrations, and for every 10 per cent rise in housing equity there was a 5 per cent rise in VAT registrations. It seems that rising unemployment encourages new business start-ups, while rising house prices enables people to finance them.

My guess is that these businesses will, in time, contribute as much to the UK economy as the family-owned businesses have contributed to the German and the Italian. (The French structure seems something of a half- way house between the UK and the German/Italian, to judge by the responses to the survey.)

But what might this mean for Germany and Italy, where people who created the raft of post-war start-ups are now reaching retirement age? There is a problem of inter-generational transfer on a much larger scale than in the UK. Not only are the creators retiring, but whereas in the UK the chances are that they have sold out and have therefore passed the business on to some other form of corporate ownership, on the continent they are more likely to have passed it on in the family.

There is no obvious answer. On the one hand family businesses probably have a stability and maybe a long-term attitude which shareholder-owned businesses do not. On the other hand heredity is an uneven method of selecting top management, and if institutional shareholders have control of a company they are likely to act with swift ferocity if nepotism is thought to have failed and an exit route appears. Think of Forte.

I suspect that the most important transition the German and the northern Italian economies face is not reworking their social welfare systems, but rather managing the succession of the family-owned companies which have generated most of their wealth. As for Britain, with its unsentimental attitude to family businesses, this is not at the moment a major problem. Maybe in another 30 years, when the present crop of new businesses are due to be passed on, it will become a concern. But that is a bridge to be crossed when we reach it and not before.

* Family Ties, by Paul Evans and Owen Whitehouse, 3i European Enterprise Centre.