The Three Circle Model

In the 1970’s at Harvard University, two professors (John Davis and Renato Tagiuri) developed a model which illustrates in a powerful way how the dynamics of a family engaged in business differs from a traditional (non-family) business. The model – subsequently known as “The 3 Circle Model” – has become a standard within our understanding of family business, across the globe.  This is not surprising, since the model accurately and yet simply depicts some of the key and profound ways families in business interact.

The key difference from a non-family business is of course, the addition of the family dynamic, which can interact with the business, but also the ownership group. Conversely, the business and ownership also can affect the family. I have met many owners and business leaders who try very hard to insulate their families from any adverse effects of the business (“not taking the business home with me”), which is an understandable and well-intentioned goal. Many succeed to a large extent, sometimes to the end, and then often the spouse of the now-deceased owner needs to deal with ownership and possibly leadership of a business they know nothing about.

The truth is, there are almost always impacts of the business on the family, and impacts of the family on the business. Take for example a business with a husband and wife leading the firm, who decide to divorce. Even if only one works inside the business, the impacts of the relational change can be felt inside the company (though staff and peers tend to not mention it, fearing they will only add to the trouble). Similarly, if a business is failing or working through a hard  period (even of growth), the impact on the leader often ripples into their home life and family. The family may not know the source of the stress they feel, but it is there regardless.

The key with understanding the 3 circles within the system is to take the time to think about them, understand what they are, and how they are operative. Doing this on a proactive basis can be especially helpful, when changes in the system are foreseen. This can allow the leadership (whether of family, the business or the shares) to consider the likely impacts, and set in place a plan to manage and mitigate them in a way that is best for all three spheres.

One of our favorite sayings at PFI is “try to treat the family like a family, the business like a business – and try not to get the two confused too much.” It can be hard for owners and leaders who live in the “eye of the hurricane” – the centre of the three-circle model – as members of the family, leaders of the company, and owners. The truth is, such leaders simultaneously wear all 3 hats, and engage with the issues from all three sub-systems. While this is not avoidable, what can be extremely helpful is taking time to think separately about each of the sub-systems, the role played in that sphere, and how to best lead with all three in mind. It can also be helpful for the rest of the company, shareholders (if there is more than one) and family to be aware of the differing challenges the leader needs to address, and how dealing with a topic in one circle in a way that is appropriate to that sub-system need not undermine the validity of the leader’s role or status in another sub-system.

For example, a father who is setting up compensation plans for children who are working inside the business may design these plans based on market realities and benchmarks. While he may be aware – as a father – of specific needs of one of the children which might (from a purely parental perspective) call for a significant amount of funds to flow to the child with greater needs, it would be inappropriate for the father, as a leader of the company, to use the business to fund that family need through the compensation system. Doing so can potentially set up imbalances across the children’s compensation, as well as across the other employee compensation plans. What might be seen as “fair” in one circle (family) might end up not being at all “fair” in another (Business). Dealing with compensation issues solely based on the business sphere (where the compensation is driven out of, based on work performed) is appropriate, just as providing money to a needy child within the family (but outside the company) might also be appropriate.

It is also important to recognize that none of the sub-systems in the 3 circle model are static, and therefore, the model as a whole is also dynamic. Over time, families change and grow (and sometimes shrink through things like death and divorce), just as businesses and ownership can change. Each time one of the sub-systems changes in a given family business, the reality is that the whole system is affected. At times, it is not a major or obvious change, but at other times, the changes can be sudden and dramatic. The death of a business owner or leader can quickly call for change in the firm, with rapid impacts across the family circle. Sometimes, a change in ownership has large implications for the family (loss of control or dividends).

When businesses grow and morph, it is quite normal for the needs of the company to create change for the other circles. A fantastic growth story in the company may force the ownership group to consider opening up ownership to others in a quest for greater capitalization. Or a leader moving towards retirement may need to tap someone inside (or outside) the company who is a non-family member, if there is no one from the family available or capable of leading the business going forward. Making this decision needs to be made in the context of the values and interests of the family, just as much as the business. Failing to do so can create downstream (or immediate) issues which can derail the business, or the family, over time.

There is a clear process which creates the highest likelihood of a positive outcome for all three circles. It begins with thinking through the interests and values of each sub-system can assist in designing a plan which optimizes across the 3 circles. Next having clear goals for each of the circles is a way to help ensure the greatest likelihood of achieving the best outcomes for all. Finally, throughout the process, using a transparent and open communications process to engage the stakeholders across all 3 circles helps ensure that the interests of all three spheres are served and balanced as well as possible creates the best future for all affected.