Is nepotism bad for business? Critics and commentators are asking this question after Wal-Mart Stores Inc. (WMT)recently appointed Greg Penner, grandson-in-law of founder Sam Walton, to the post of chairman of theboard of directors. The Arkansas-based company chose Penner even as it was under increasing pressure to appoint an independent board chairman.
Although Penner possesses a Stanford MBA and has already spent 15 years at the company across various positions, the move been criticized by activists and investors who claim that this is a case of nepotism. They contend that the movecould result in a “confidence problem” for investors. Concerns over the effect of nepotism on Wal-Mart’s board have escalated after revelations of lapses in board oversight during the bribery scandal in Mexico roughly two years ago.
CONS OF NEPOTISM
The charges against Wal-Mart are part of broader arguments against nepotism in corporate life. Those arguments can be condensed into three points.
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First, nepotism is unfair because it favors provenance over performance. Thus, it may result in the promotion of favored individuals, who are not necessarily the best fit for a job, over other, more qualified personnel. Further, it goes against the American dream of a merit-based egalitarian society.
Second, nepotism can seriously affect company bottom lines. That concern is a valid one as there are several historical examples of companies whose profits tanked due to strategic blunders by individuals who were promoted by virtue of their relation to founders instead of their performance. In turn, this can negatively affect company bottom lines or even lead a firm to ruin. For example, the Great Atlantic & Pacific Tea Company’s decline was hastened due to a series of bad moves by a clueless management consisting mostly of the founder’s heirs. The company recently filed for its second bankruptcy in five years. (For more, see The Fall From Glory: Delisting Brands.)
Finally, nepotism also adversely affects corporate culture and society at large. This is because promotion of inexperienced relatives over veterans in an organization sends a signal that the company is not serious about retaining talent. The company could then lose its competitive edge in an economy where talent and creativity are highly-prized. In an age when inequality has become a hot-button issue, nepotism can also breed resentment against the rich.
A DIVIDED HOUSE
Literature and research are divided about the effect of nepotism on organizations. For starters, Wal-Mart is not unique in being a family-owned business. According to the U.S. Census bureau, 90% of American businesses arefamily-owned or controlled. Fifteen percent of Fortune 500 companies in America are family-owned while the corresponding number for Europe is 40 percent. According to research, family-owned companies outperformed the S&P 500 by “as much as 18 percent.”
Adam Bellow, son of famous writer Saul Bellow, wrote an entire book arguing about the advantages of nepotism. For example, he discussed the benefits of increased communication and trust that results from working with a relative. In Wal-Mart’s case, this communication can be critical given the company’s complex operations, which span multiple areas of business.
Wal-Mart is no stranger to the nepotism charge. It faced similar accusations when it promoted Samuel Robson Walton to Board Chairman in 1992. As in the case of Penner, qualification was not a problem: Walton possessed degrees in business administration and law and had spent nine years as a lawyer before joining the Wal-Mart board. Over the years, though, the company has capitulated to investor demands. For example, the company has reconfigured its company board to include 10 outsiders, or people not affiliated with the organization. But, even those directors are not completely outside Wal-Mart’s influence. (For more, see: How Wal-Mart Makes its Money.)
THE BOTTOM LINE
The constitution of Wal-Mart’s board and nepotism would not be a critical issue if it were a private company. However, Wal-Mart’s case is complicated by the fact that it is a publicly-listed company and is answerable to shareholders. Investors’ concerns about the company’s direction and operations have been amplified in recent times, given the changing retail environment, including the emergence of Amazon.com Inc. (AMZN) and other competitors, and the company’s floundering foreign operations. So far, Wal-Mart has dodged the bullet on the strength of its legacy profits. To prove his mettle as chairman, Greg Penner will need to provide solid direction to the company. Only then will the charges of nepotism die.
Date: July 24, 2015