Can a family successfully preserve its wealth for more than one hundred years or for at least four generations?

Allow me to summarize how I came to the discoveries and insights I am sharing with you. In 1967, I started my legal career in the trusts and estates department of Coudert Brothers. My father had then already been at Coudert Brothers for thirty-two years, specializing in corporate law. He continued to practice law at Coudert for another eighteen years. I had the good fortune to practice law with him during all those years and, most importantly, to be his student. His great interest was the succession issues of private and public businesses. He taught me that when businesses fail, it is most often due to poor long-term succession planning.

One of his favorite lessons came from his experience as a member of several boards of directors. When a new chief executive officer had been elected, my father said, "I would go up and shake the new CEO's hand and offer congratulations. He or she was naturally excited and feeling hugely successful since, in most cases, election as CEO represented the most significant event of the CEO's life and the culmination of years of very hard work. I would then immediately ask, 'Who is your successor?' There would be a look of surprise, and then, in the cases of the great CEOs, deflation, humility, and comprehension took the place of elation on their faces. After all, the most important role in the management of an enterprise is arranging for orderly succession."

My father's teaching has stayed with me. In every business with which I have been associated, whether public, private, philanthropic, or trust, the issue of succession has been critical to the long-term viability of that business.

My experience with families is exactly the same. A family's ability to remain in business over a long period of time always comes down to excellent long-term succession planning, regardless of how successful the family is financially.

Families attempting long-term wealth preservation often don't understand that they are businesses and that the techniques of Long-Term Wealth Preservation 5 long-term succession planning practiced by all other businesses are available to them as well. A family that starts its long-term wealth preservation planning by adopting the metaphor that it is a business will begin with a wonderful psychological tool. If a family thinks it is in business to enhance the lives of its individual family members, it discovers the most powerful form of preservation thinking it can do. The business metaphor further brings into a family's planning efforts all of the tools businesses use to be successful. As with all metaphors, one set of ideas created for a specific purpose cannot be perfectly suited to another purpose. The ideas can, however, offer a starting point for learning and for adaptation to the new set of issues being addressed.

Throughout this book, I will use the following terms.

The history of long-term wealth preservation in families is a catalog of failures epitomized by the proverb "Shirtsleeves to shirtsleeves in three generations."

In 1974, I was asked by the sons of an enormously successful businessman in Singapore to come see their father. I was naturally curious about why I, a still very wet-behind-the-ears private-client attorney, was being invited to travel halfway round the world at substantial cost to the family when there must be excellent legal counsel available in Singapore. I suggested that I refer the businessman to someone local, but he was insistent, and so I accepted.

When the day of the meeting came, I still had no idea why I had been invited. After entering his enormous office and solving, over tea, all of the macroeconomic problems of the world, I was still wondering. Finally this worldly wise, enormously successful man said, "Mr. Hughes, you are probably wondering why I invited you here. We Chinese have a proverb, 'Rice paddy to rice paddy in three generations.' I don't want that to happen to my family. Can you help us using the techniques of families in America to solve this problem?" I was happy to discover that I could help him.

Through the years since 1974, as I have traveled to meet with families around the world, I have heard the same idea is expressed in varying ways. The shirtsleeves proverb turns out to be culturally universal, capturing a great truth about wealth and human behavior. Unfortunately, it describes only failure.

The shirtsleeves proverb describes a three-stage process: creation, stasis, and dissipation. Interestingly, this parallels the behavior of energy. As described by the laws of physics, energy comes together to form a new creation, undergoes a period of stasis or balance, and then moves by way of entropy or decay toward disorder. The energy, however, never disappears; it ultimately becomes part of a new creation, and the process begins again. Apparently all forms of life, which can be seen as organized forms of energy, must go through this cycle. The issue for families is whether they can extend the period of creativity through many generations, and thus postpone the periods of stasis and chaos for as long as possible.

A way I love to teach this lesson is to remind every generation of a family that it is the first generation. It has the same power of creativity as whichever generation was biologically the first. It is only when a family fails to perceive itself as the first generation that it begins to risk resembling the status quo of a second generation or the decay of a third.

What are some of the reasons this universal cultural proverb remains as true today as in the past?

First: In all cultures wealth preservation has meant, and continues to mean today, the accumulation of wealth measured as financial capital. Very few families have understood that their wealth consists of three forms of capital: human, intellectual, and financial. Even fewer families have understood that without active stewardship of their human and intellectual capital they cannot preserve their financial capital. In my opinion, the issue most critical to the failure of a family to preserve its wealth is concentration on the family's financial capital to the exclusion of its human and intellectual capital. A family's failure to understand what its wealth is and to manage that wealth successfully dooms that family to fulfill the shirtsleeves proverb. In fact, this concentration on financial capital may even cause it to go out of business in just one generation.

Second: Families fail to understand that wealth preservation is a dynamic, not a static, process and that each generation of the family must be a first generation—a wealth-creating generation.

Many family members who have inherited financial wealth have no concept of how difficult it is to create, and often their experience of the wealth creator was negative. These later-generation family members are rarely motivated by the same emotions that fueled the productivity of the originator of the initial family wealth. A family that imagines or, worse, assumes that every member of the family will be a wealth creator, or even that in every generation someone will have the creative instinct to be a great financial wealth creator, is fooling itself. Such a family is in entropy and will swiftly go out of business.

For a family to preserve wealth, it has to increase its wealth. How can it do this?

It can give greater thought to the preservation of the family's human and intellectual capital. It can understand its principal role as a dynamic one of creating new human and intellectual capital, while exercising excellence in its stewardship of the financial capital brought into being by the financial wealth creator. It is through such an understanding of each generation's principal role that every generation can, in practice, function as a new first generation of wealth creators.

Third: Families often fail to apply the appropriate time frames for successful wealth preservation. The result is that planning for the use of the family's human and intellectual capital is far too short-term and individual, and family goals for achievement are set far too low. Time should be measured by the generation. Otherwise, how can a family address whether it will still be in business in the fourth generation? Short-term for a family is twenty years, intermediate term is fifty years, and long-term is one hundred years. With increasing life expectancy, I'm tempted to lengthen these periods, but for now they offer reasonable measuring sticks.

Almost every family I encounter is trying desperately to ensure that every year brings an increase to the bottom line of the financial balance sheet. I applaud this as an exercise in good financial stewardship. Unfortunately, though, if looked at over the twenty years of a short-term financial plan, these annual results simply become footnotes. In a fifty-year plan, they do not reach footnote status; they just appear on a bar graph. In a one-hundred-year plan, they are interesting only to the family historians.

An emphasis on short-term results is usually found cloaked in the mantra, "We are long-term investors." This unrealistic self-assessment frequently masks the fact that the risks necessary to achieve these annual goals—goals that even in a twenty-year cycle are extraordinarily short-term—are far too high in terms of the family's one-hundred-year financial wealth preservation plan.^[1] When the twenty-, fifty-, and one-hundred-year terms of measurement are imposed on the family's investment strategy, the discipline of patience, which highlights the success of great investors like Philip Carret and Warren Buffett, shines forth. Patience is a virtue in everything a family does. For families setting their long-term strategies for preserving financial wealth, time is a friend in a way it is not for most investors. Equally, failure to take advantage of time is a waste of a valuable family asset.

When we move beyond the financial sphere and the family is measuring the preservation of its human and intellectual capital, its failure to understand the proper time frame for measuring success is even more profound. Some years ago, I was discussing the purchase of personal life insurance. I took the opportunity to ask my insurance agent about my life expectancy. I was delighted to hear him confirm that most of us are living longer than our grandparents or parents.

He told me that, barring a first heart attack or cancer before the age of fifty-five and assuming we do not smoke, the actuarial expectation for the large majority of us is that we will live well into our eighties and our children will live into their nineties.

For families in the wealth preservation business, this demographic information is fabulous news. Instead of losing individual family assets in their sixties, the family will get an extra twenty-five years' benefit out of the human and intellectual capital of the majority of its members. Any business that could extend the useful lives of its assets by twenty-five years would be in line for substantially increased profits. Every business knows that the cost of purchase of new assets is high, and keeping existing assets in excellent repair is critical to financial success.

In families, exactly the same business metaphor applies. When a family measures the useful lives of its members and plans for the maximum use of each member's human and intellectual capital over that member's lifetime, it defies the onset of the energy depleting stages of status quo and entropy that are the greatest liabilities on its balance sheet. Failure to include the expected contribution and participation of each family member in the twenty-, fifty-, and one-hundred-year plan of a family is to have no plan for the management of the critical human and intellectual components of the family's wealth. Failing to measure properly fails to bring the newest members of the family into the family plan early enough to maximize their lifetime contributions. A business would never squander thirty years of the useful life of an asset. Failure to educate younger family members to a level at which they can participate and contribute to the family balance sheet is as much a waste of family assets as misjudging the useful lives of the oldest members of the family. The shirtsleeves proverb applies when families don't appreciate the power of twenty-, fifty-, and one-hundred-year time frames as a measurement of success in wealth preservation.

Fourth: Families fail to comprehend and manage the external and internal liabilities on their family balance sheets. Remember that the ultimate liability of a family business trying to preserve its wealth is finding itself in a blissful state of status quo, one in which nothing seems to be happening, supporting an assumption that there is nothing to worry about. In fact, what is developing is a state of decay, because liabilities were not managed properly in the earlier stages of the family's life. Chapter 4 discusses this subject in depth.

Fifth: Families fail to understand that the fundamental issues of wealth preservation are qualitative, not quantitative. Most families center their planning on quantitative goals. These families measure success based on the heft of their individual and collective financial balance sheets. Annually they add up their financial assets, subtract their financial liabilities, and determine their family's net worth. Individual members, and the family as a whole, also prepare detailed income statements showing the year's revenue minus expenses, and use that to determine that year's increase or decrease in the family's fortunes. This careful stewarding of balance sheets and income statements is critical to the management and preservation of the family's financial wealth. Unfortunately, this exercise doesn't take into account the family's qualitative balance sheets. The quantitative balance sheets have no place in their rows and columns to describe and evaluate human and intellectual capital and the annual increase and decrease thereof. Without a qualitative assessment of these two primary forms of capital, the family and individual balance sheets are incomplete and will not measure the extent to which a family is meeting its wealth preservation mission and goals.^[2]

Four qualitative questions are critical to measuring whether a family is actively preserving its wealth:

In later sections of this chapter, I discuss these four qualitative questions and why they represent the fundamental issues in successful family wealth preservation. Failure to measure the qualitative aspects of a family's preservation plan is failure to measure a family's most critical assets, its human and intellectual capital. Failure to understand and manage this reality leads immediately to entropy.

Sixth: Families fail to tell the family's stories. These stories are the glue that binds together the individual members of the family. Family stories give members a sense of the unique history and values they share, their "differentness." A family that does not inoculate its young against childhood diseases would be risking its most precious assets. Failure to inoculate the family's young against entropy with the vaccine of its history and the values that are contained in its stories is similarly risky.

Seventh: Families fail to understand that the preservation of family wealth over a long period of time is unbelievably hard work, work with a tremendous risk of failure balanced by a magnificent but distant reward.

Most of us know that a process, often a difficult one, is essential to the achievement of any endeavor. Most of us also know that abandoning the process too soon, because it seems too hard, is the most common reason that endeavors fail. Families who choose to enter the process of long-term wealth preservation face the daunting fact that their process will never end if they are successful. They have to decide to continue the process literally for all the generations to come. When I work with families who want to preserve their wealth, I explain this reality to them. To help them, and now you, decide whether to begin this process, I offer my favorite metaphor for family wealth preservation: the copper beech tree. If you don't know what a copper beech tree looks like and you want to see one, go to Rhode Island and look in the front yards of many Newport mansions. When fully mature, a copper beech tree is the largest tree in the northeastern forest. It is a huge gray tree with a beautiful crown of copper-colored leaves that needs five or six adults, or ten children, holding hands to ring its trunk. Once mature, a copper beech tree will live for centuries.

Why is this beautiful tree my favorite metaphor for successful long-term wealth preservation by a family? First, think of the courage it takes to plant a tree that takes 150 years to mature. No one who plants the tree will ever see it full grown. Second, someone must invest love and patience to nurture it. Think of the hurricanes, ice and snow, pests, and fire that may consume the tree while it is too young to withstand those hazards. It needs help to survive these threats. Third, as it matures it has to contend with humans who want to cut it down for its wood, and with governments that want to put a road or a new housing development where it stands. The issues the growing tree faces parallel those in the unfolding life of a family. To complete this metaphor, here is a true story about the copper beech tree.

In the early nineteenth century, Marshal Lyautey, one of Napoleon's greatest generals, who was later buried alongside his former commander, was reported to have the most beautiful garden in France. Standing with his head gardener, looking out over his estate, he observed the wonderful specimens of the world's great trees planted there. Lyautey then turned to the gardener and said, "I see no copper beech tree." His gardener replied, "But, mon général, such a tree takes one hundred and fifty years to grow." Lyautey, without a second's hesitation, said, "Then we must plant today—we have no time to waste."

To embark on long-term wealth preservation is an act of extraordinary courage for a family, like the planting of a cooper beech tree, since the family members who initiate the process will never know whether they were ultimately successful. If you are courageous and you want to be a wealth creator in the most profound sense, get started. There is no time to waste.

Because a family is, by definition, two or more individuals, any decision made by a family must involve joint decision making. Joint decision making expresses a system of governance. Recognizing that joint decision making is a form of governance is one of the fundamental first steps in wealth preservation.

When a family recognizes that its decision making process is a form of governance, it also intuitively understands that by organizing itself to make joint decisions instead of individual and ad hoc decisions, it has a better chance at making more good decisions than bad. It has decided, as a joint endeavor, to organize the employment of its human and intellectual capital to make better decisions. In business terms, it is organizing its assets to obtain the maximum balance sheet power that comes from all of its assets working together.

Once a family understands that joint decision making is a form of governance, its next step is to choose the system of governance that will best serve the group of people who will be affected. To put it another way, the family must choose the system of governance that will cause the greatest number of family members affected to accept that decision as fair and to accept the individual consequences that flow from it.

Inevitably, conflicts arise when making family decisions that cannot be resolved within the executive body. A conflict dictates that a higher, impartial body must form the ultimate resolution. Regardless of a family's chosen system of governance, a judicial branch, or "Council of Elders,"^[4] must be included to:

In my family's governance system, we have a family assembly consisting of my parents, my siblings, their spouses and significant others, and the eleven grandchildren and their spouses. We assemble annually to do the work of the legislative branch. On the infrequent occasions when a dispute arises among family members, these matters naturally flow up for decision to my parents, who may choose to include other members of the sibling generation in resolving the matter.

American families are blessed with the knowledge of how to form a representative government. Most of us learn how to make decisions together in the nursery with our siblings, in preschool, or in kindergarten. We are taught that joint decisions lead to better decisions. As children we learn that the United States of America came into being in the eighteenth century through two joint decisions, or social compacts, made by the then-voting population of America. (Unfortunately, this system did not yet include all Americans as voters; happily, it does today.) The agreements were written down by the men we call the Founding Fathers in the first of these social compacts, the Declaration of Independence, and later in the second, the Constitution and its first nine amendments, which we refer to today as the Bill of Rights.

Each of these documents states clearly that it expresses the values of Americans. Some of those values are that government should ensure each American the right to life, liberty, and the pursuit of happiness; that all people are created equal; and that the agreement itself represents a joint decision made by the American people, for the American people. We learn that a system of government is not just a set of rules; it is a set of rules that reflect deeply shared values. We learn that under the American system of governance, the people of America choose representatives to decide how the nation will make decisions to insure its long-term future.

In The Politics, Aristotle described the different kinds of governance he found in the world. Each system of governance described by Aristotle is still present somewhere in the world today. Remarkably, no new systems of governance have arisen since he wrote his book. Aristotle explains that the family is the first and smallest unit of governance. He further explains that the roles and practices of governance by families are reflected in the roles and practices of all larger systems of governance. In our modern parlance, the system of governance practiced in a family is a microcosm of all other systems of governance.

The systems of governance that Aristotle describes are an aristocracy, an oligarchy, a republic, a democracy (in modern terms an anarchy), and a tyranny (in modern terms a dictatorship). After discussing each form of government, Aristotle concludes that the system of governance called a republic is the best for human beings.

A republic is the form of government we refer to today as representative. This is a form of governance in which the people, whose social compact forms that government, elect from among themselves individuals to represent them. These individuals represent the people for an agreed period of time. At the end of the period of time, the representatives report back to the people on the outcome of their representations. If the people feel that the work the representatives were elected to do is not finished, the people may ask them to continue that work for a further term. If the people feel the work is finished, they may ask the same representatives to do new work. If the people feel the representatives did not perform their assignments well or that someone else is needed for a new responsibility, the voters will elect new individuals to represent them.

America's Founding Fathers, after studying the strengths and weaknesses of each possible system of governance, agreed with Aristotle, and so chose a republic as the system of governance for the United States of America.^[5]

Every family I know, after it makes its own independent study of this subject, decides that a republic is the best system of family governance as well. These families discover that a republic best reflects the two principles of human behavior that a system of family governance must address in order to succeed.

The first principle is that human beings do not willingly give up some freedom unless they perceive that the reward for doing so is greater freedom. For example, a group where every individual carries a gun and feels free to use it represents anarchy, and no individual in that group is without fear. They are not free. Individuals in this example will willingly hand over their guns to a system of governance that will provide them individual security—real freedom. While all systems of governance are designed to provide order, only a republic provides a way for all of its members to participate in the selection of the representatives who will maintain that order. In this way they give up some freedom for what they correctly believe is greater freedom.

The second principle is that human beings do not willingly enter a group unless they believe they are free to change it or leave it. If human beings are unwillingly forced into a group, they will spend every moment of their lives seeking to leave it. A republic offers all family members the right to participate in the choice of family representatives. It also offers them the right to vote on changes in the system, and it offers them the freedom to leave without restraint if they no longer wish to participate. Aristocracies, oligarchies, and dictatorships prove this point by limiting participation in the process of choosing representatives either to a king or to themselves, and by limiting the ability of individuals to leave the system.

Families who study governance want to know why certain systems fail. Necessarily, they are particularly concerned about the future of the system of governance they have chosen. Polybius, a historian of the second century B.C. who wrote The Rise of the Roman Empire, describes how each of the systems of governance Aristotle describes decays into the next form of governance in a never-ending ordered process. He explains that the process begins with an aristocracy or kingship/queenship, which decays to an oligarchy, which in turn decays to a republic, which in turn decays to a democracy or anarchy, which in turn decays to a tyranny or dictatorship. Ultimately, the tyrant or dictator, anxious to form a dynasty to protect his or her family from events similar to those that brought him or her to power, moves from despotism to kingship or queenship and the cycle begins again.

A similar process occurs when a republic, where the voters elect their representatives and thus give up some individual freedom of choice on the outcome of a particular decision, decays to a democracy or modern anarchy, where each individual makes his own personal decision on the outcome of every decision. It is not the purpose of this book to discuss how each form of governance decays into another; Polybius has done that. I strongly recommend to families that they study this process of decay. If a family knows how and why a particular system of governance decays—that is, goes into entropy—it will have a historically proven method to measure how its chosen system of family governance is currently performing against its particular nemesis. Families who study and use Aristotle and Polybius are drawing on the same historical sources as the Founding Fathers. They are choosing the governance system that best represents their now educated views on how to organize themselves to best reflect their values and to increase the probability that their joint decisions will be good ones. They have understood that the critical first step for a family beginning long-term wealth preservation is to found an excellent system for decision making, a system of governance.

The second step is adoption of a formal process for each successive generation to reaffirm its acceptance of the family's system of governance. Just choosing a good system of governance does not mean a family will successfully preserve its wealth over a long period of time. For a system of governance to provide a means for excellent joint decision-making over the long term, family members must develop a belief in the inviolability of the chosen system, transcending the choices of process of governance that any particular generation might otherwise make. The system of governance must become the expression of the family's value system, its differentness, rather than the expression of the views of its founders alone.

As an example, when the Constitution of the United States was adopted, many people in America were opposed to it and the republican system of governance it represented. Some Americans wanted a monarchy or an aristocracy. Some wanted an oligarchy, and some wanted a pure democracy, or anarchy. No American wanted a tyranny or dictatorship. When Americans were choosing their system of governance, any one of these systems might have been adopted. Ultimately, after a countrywide debate, the written Constitution reflected the choice of the majority of voters that a republic was the correct form of governance for the United States of America. Today very few Americans think about whether we should change our system of governance to an aristocracy, oligarchy, or anarchy. Americans are united in their belief in the Constitution and the system of governance it represents.

Americans have gone to war to protect the values the Constitution represents. Their belief in the Constitution, as representation of them as Americans, has transcended what otherwise might be their individual views on the best system of governance. Americans now think of themselves as "American" by identifying with the values expressed by the Constitution.

For any system of governance to provide a means for excellent decision making over a long period of time, it must be inculcated into the belief systems of every member of the family in every generation. The system must come to be seen as the foundation for each individual member's success and for the family's overall success. A part of this process of transcendence is the constant reaffirmation by family members of the values expressed by the governance system. Without reaffirmation, the system will gradually lose its vitality and at best become a cherished relic of family history. To be useful, a system of governance must be a dynamic, vital system for current decision making. Each successive family generation, by its affirmative decision to be governed by the chosen system, revitalizes the system. In our American system, this process of revitalization occurs every two years with elections. The framers of the Constitution knew that the social compact represented in the document could not be sustained unless this compact was renewed frequently through elections. This same principle of renewal is just as critical to the success of a family system of governance.

The third step in achieving a successful system of family governance is the adoption of a process to amend its practices as the family evolves. A governance system necessarily reflects the particular issues that caused the people who created it to bring it into being. No matter how well designed, such a system can never foresee all the issues that the people who live under it will need to manage in the future. New individual and family issues will quickly arise. A system of governance must have the flexibility to provide excellent solutions to the problems posed by such new issues. Flexibility, however, also poses dangers. If the system can be changed too easily, it will quickly break down as each new issue leads to a debate on the utility of the system itself.

As an example, the Constitution contains a process for its own amendment. The framers recognized that the system needed to be flexible enough to address future issues they could not foresee. They also recognized the danger of a system that could easily be changed. The framers, therefore, decided to make it very difficult, but not impossible, to change the fundamental rules that voters originally adopted. This wise decision is, in my opinion, the single most important reason why the American Constitution has worked so well for more than 200 years. The individuals who live under the Constitution revere its basic principles. They revere these principles not because they are perfect, but because they have proven their excellence through their successful applications to ever-changing issues. Only on the rare occasions when an issue could not be resolved by these principles were the founding principles modified.

In many other countries that have adopted the republic form of government, the constitutional experience has been less successful. I believe the primary reason for this lack of success is the ease with which these countries' constitutions can be amended. How can people believe in the transcendence of a system of governance if it can be changed by a simple majority of representatives every time a new issue arises? Gradually the changes will be so numerous that they will overwhelm the original founding principles. Instead of shared fundamental values, the constitution will reflect individual answers to specific historical issues. This represents decay of the constitution and the system of governance it was created to represent. Ultimately this constitution will fail and will have to be replaced, attended by all of the changes to the society this represents. The French and the Italian experiences with constitutions are sad examples of this reality.

New issues in families, as in all other groups, will trigger a reconsideration of values and the system of family governance, and this is as it should be. To be effective, a family system of governance must include the possibility of amendment to meet issues posed by the family's evolution. To be effective over a long period of time, however, the system also must recognize that amendment, as in the American system, should occur only if there is a compelling need to change a fundamental value. Amendments must not be seen as an appropriate way to deal with issues of today that may disappear tomorrow.

The final step in achieving excellent family governance is the adoption of a formal set of checks and balances to ensure that family members control the process of governance. In later chapters of this book, I discuss how representatives are held accountable to a standard of excellence. In those chapters I explain that successful long-term wealth preservation occurs when each family member actively carries out her or his function of being a person to whom each family representative is accountable.

If a family selects the republic as its model, it must build into its governance system checks and balances similar to those placed on the American executive, legislative, and judicial branches. In a family republic, the individual family members are the voters. In a diagram of the system of governance, the names of all the family's members should be placed at the top, not at the bottom. A family system of governance fails if each member does not understand that the individuals and corporations selected to carry out tasks for the family directly represent him or her as a voter. A family system of governance succeeds through the willingness of each member to participate fully in the selection of excellent representatives and in holding those representatives accountable for the excellence of their representation. If representatives believe that the people they represent really care about excellence, they will strive to be excellent. Apathy or outright indifference by family members to the excellence of the representatives selected and to participation in their selection leads to stagnation and ultimately to failure of governance. Successful family governance requires all family members to dynamically exercise their roles as voters, as the persons being represented, and as the persons to whom the family representatives are accountable.

G) The mission of family governance must be the enhancement of the pursuit of happiness of each individual member. This will enhance the family as a whole and further the long-term preservation of the family's wealth: its human, intellectual, and financial capital.^[6]

Many years ago at the Far Brook School in New Jersey, it was my privilege to have been taught American history by an extraordinary teacher, Ara Dodds. Mrs. Dodds explained to my class that the American Declaration of Independence said that every American was entitled to a system of governance that worked to ensure his right to life, liberty, and the pursuit of happiness. As a boy I could understand life and liberty, but the pursuit of happiness sounded very strange. I knew it didn't mean being happy in a silly way, since I knew Thomas Jefferson was serious about the meaning of every word in the Declaration. I couldn't imagine that people would go to war risking their lives and property over a frivolous idea. A few years ago I read Aristotle's Nichomachean Ethics for the first time. In the book, Aristotle explains that all lives of virtue are lived in the pursuit of an individual's happiness. I discovered, as so many others have, that Jefferson lifted his famous phrase from Aristotle.

Thus did Aristotle's view of a virtuous life and its process, the pursuit of happiness, find new expression in the foundation of American governance. Aristotle, being a grizzled veteran of the Greek political wars, knew that to lead a virtuous life was very difficult. He defined virtuousness, and I paraphrase, as being just, brave, temperate, and moderate in all things. These are hard things to achieve. He also said, and again I paraphrase, that you did not know whether you had led a virtuous life and thus pursued happiness until the day after you died—another very tough test of an individual's constancy.

Other philosophers since Aristotle have offered their views on the same subject, usually varying the ingredients of virtue but never changing the fundamental idea that life is a journey in pursuit of the happiness for which each of us searches. A modern philosopher, the mythographer Joseph Campbell, expressed his view of the journey in pursuit of happiness as "follow your bliss." I believe that Aristotle in the fourth century B.C. and Thomas Jefferson in the eighteenth century were correct in considering the primary mission of governance at any level to be the enhancement of the pursuit of happiness of the governed.

Once a system of family governance accepts as its mission the enhancement of the pursuits of happiness of its individual members, it discovers a second level to its mission: the enhancement of the whole that evolves naturally out of the enhancement of its parts. A family is an ever-changing mosaic of individuals. When each individual is successfully pursuing her or his happiness, the colors of the whole mosaic are vibrant, and there are no blank spaces that spoil the picture. A dull mosaic, or one with blank spaces, is a reflection of deterioration and entropy. A successful family system of governance enhances the family as a whole by enhancing the pursuit of happiness of each members.

The third level of the mission of a family governance system is to promote the long-term growth of the family's wealth: its human, intellectual, and financial capital. In this dimension of its mission, the governance system oversees the "family business." Family members set the mission of the enterprise, develop policies for the growth of the family's capital, and choose the family's executive body, the equivalent of its board of directors, to manage those policies. The executive body in turn chooses family executives—family office management and trustees; advisers, mentors, and protectors; and peer reviewers—to carry out those policies.

A successful family governance system produces a three-dimensional structure—members, directors, and executives—within which all three levels of mission can be managed at the same time.

A family can successfully preserve wealth for more than one hundred years if the system of representative governance it creates and practices is founded on a set of shared values that express that family's differentness.

My theory is that families can successfully overcome the "Shirtsleeves to shirtsleeves in three generations" proverb. As proof, I offer the following examples of families that have prospered over several generations. None of these families are clients of mine, nor have I asked them for permission to discuss their histories. I also have no idea whether they would agree with the observations I am making about them. Everything I relate about them is based on public information I discovered by reading and by attending open professional meetings.

My first example is the Rothschilds. In the mid-eighteenth century, Mayer Amschel Rothschild founded the House of Rothschild. This creator of the Rothschild fortune had five sons, each of whom he set up in the banking business in one of the era's five principal European financial capitals: Frankfurt, Vienna, London, Paris, and Naples. He lent them the money to get started with the proviso that they pay him back so that the "family bank" could make further loans to family members. He directed that each son could keep the profits of his individual bank once the original loan had been repaid. He charged interest on the loans at a lower than normal rate. He also charged interest in the form of intellectual currency. He requested each of his sons relay to him every bit of financial information he gained in his city. He agreed to share this intellectual interest with his other sons. In modern terms, he created an effective information network.

Mayer Amschel Rothschild also used a powerful investment technique to manage the risk to his family's human capital. By sending each son to a different city, he diversified his human assets into five separate investments, thereby increasing the probability that at least one of the branches would survive political and economic risks. History shows how farsighted his geographic diversification strategy was. The branches of the family business in Frankfurt, Vienna, and Naples failed because of historical events. The London and Paris branches survived and continue to prosper. Had Mayer Amschel Rothschild kept all of his sons in Frankfurt, where he started his business, and not diversified the risks to his human capital, it is unlikely any part of his business would have survived the Holocaust. Diversity also increased the family's intellectual capital by giving each son his own opportunity to prosper or, in my terms, to pursue his happiness. Today, some 250 years later, the name Rothschild is synonymous with wealth.

What are the lessons we can learn from this remarkable family's ability to overcome the shirtsleeve proverb? First, Mayer Amschel Rothschild understood that one form of a family's wealth is its human capital. With five sons and their progeny, he was able to foun d a dynasty. Additionally, he saw to it that they were all well educated and that they worked. Second, Mayer Amschel Rothschild understood that a family has intellectual capital. His brilliant use of that capital, including his idea for the payment and circulation of "intellectual interest" in the form of information gleaned by his sons as they carried on their respective banking businesses, was crucial to the Rothschild success. It quickly made them leaders in their profession and earned them great wealth. Information then and now is the most valuable contributor to wealth creation and preservation. A family without intellectual capital can receive the most timely financial information but be unable to do anything with it.

Third, Mayer Amschel Rothschild understood the use of financial capital in long-term wealth preservation, as he demonstrated by lending, rather than giving, money to his sons. By lending the money and being repaid he could re-circulate his capital to the best business opportunities throughout Europe. He was also able to teach his sons what life was like for their business competitors who were not lucky enough to have a wealthy father. His lending practices led to growth in the family's financial capital and, more importantly, to growth of the family's intellectual capital.

Before finishing the Rothschild story I must note the family's extraordinary philanthropic generosity. The Rothschild family is legendary in Europe for its good citizenship and its concern for others. In Chapter 12, "Family Philanthropy," I discuss the human and intellectual capital growth a family achieves through philanthropy. Families learn more about long-term wealth preservation through giving than they do through spending or accumulating. Values discussions grow easily out of giving to others, and positive and successful mission statements grow out of values discussions.

Finally and most importantly, Mayer Amschel Rothschild created a system of family governance that succeeded in preserving the family's wealth. Many external liabilities beset the Rothschilds, such as the horrors of the European wars (especially the Holocaust), death, divorce, taxation, Malthus's Law, and inflation. The Rothschild family, albeit affected by these liabilities, is still progressing and still governing itself well. To be a Rothschild 250 years after the founding of the House of Rothschild is to be a member of a very successful family, one that continues to preserve its human, intellectual, and financial capital.

My second example is the Rockefellers. In the mid-nineteenth century, John Davison Rockefeller, Sr., founded the Rockefeller family fortune. Thanks to his business acumen, diligence, and long life, Rockefeller had amassed America's largest fortune by the time of his death, at age ninety-eight. He was also a great philanthropist, and as with the Rothschilds, philanthropy continues to play a significant part in the successful long-term wealth preservation planning of the Rockefeller family.

John Davison Rockefeller, Sr., had one son, John D. Rockefeller, Jr. His son decided at an early age that he was not interested in a business career and, with the agreement of his father, devoted the rest of his life to family governance and philanthropy. John D. Rockefeller, Jr., was as superb a creator of family as his father was of business, and he was an even more successful philanthropist. John D. Rockefeller, Jr., had six children—one daughter and five sons. To this third generation, he bequeathed a system of family governance that continues today to grow the long-term wealth of the Rockefeller family's fourth, fifth, and sixth generations.

John D. Rockefeller, Jr., set up a family office to serve the wealth management needs of each family member who chose to use its services. While the office prides itself on excellent investment performance, its greatest value to the family is its wealth of educational services in finance and philanthropy. The family office's principal mission is to grow the human and intellectual capital of the family. John D. Rockefeller, Jr., instituted the concept of annual family meetings. Today, all Rockefeller family members are invited to meet once a year at the family seat. The agenda includes individual concerns, generational concerns, and familywide concerns. The Rockefeller vision—that each generation has issues unique to it and that it must deal with—is brilliant. In every system of family governance a critical part of the system's long-term viability is the reaffirmation of its vitality by each generation, as it comes of age, through its willingness to actively participate. The regular discussion of generational issues is a critical part of the success of the Rockefeller system of governance. John D. Rockefeller, Jr., also developed many excellent practices with respect to the role of family members as employees of the family, the role of outside board members and advisers, and the practices of philanthropy. These have become "best practices" in many other family governance structures.

An unrecognized part of the Rockefeller's success in long-term wealth preservation is the extraordinary act by John Davison Rockefeller, Sr., of not compelling his son to remain in the family business once he had determined that his calling lay in family governance and philanthropy. Here is America's wealthiest man, with only one son, agreeing that the son was not obliged to follow the father's dreams. I believe the father's willingness to free his son to follow his individual pursuit of happiness is one of the best long-term wealth preservation decisions in history. It is interesting that John Davison Rockefeller, Sr., continued for the rest of his life to do what he loved, thereby adding immeasurably to the family's intellectual and financial capital. It is also interesting that John D. Rockefeller, Jr., urged each of his children to find work that led to their individual pursuits of happiness. The resulting contributions of the third-generation Rockefellers to philanthropy, government, international banking, and investment in new industries are remarkable. Today, more than 120 years since the founding of the fortune, the Rockefeller family clearly understands that its wealth lies in its human and intellectual capital, and that its financial capital is a tool to enhance the pursuits of happiness of its individual members.

Other well-known families who have overcome the shirtsleeves proverb are the Mitsubishis in Japan, the Soongs in China, the Tatas and Birlas in India, the Windsors and Westminsters in the United Kingdom, and the Krupps in Germany.

Although proverbs about the fleeting nature of family fortunes are found in every culture on the globe, there are families around the globe who are defeating it. The failure of a family to preserve its wealth for more than three generations is not predestined. The exercise by a family of its free will to successfully combat and overcome the dictum of the shirtsleeves proverb is an ever-present possibility.

Families should employ multiple quantitative and, more importantly, qualitative techniques to enable them, over a long period of time, to make slightly more positive than negative decisions regarding the employment of their human, intellectual, and financial capital.

Wealth preservation is a dynamic process. Any family whose wealth of human, intellectual, and financial capital is simply maintaining value rather than growing is either in or in danger of entering a state of decay or entropy. A family, like every investor, must maximize its return on capital if it is to achieve the growth necessary for preservation over a long period of time. What are some of the things a family can do to maximize the return on its human, intellectual, and financial capital?

With respect to its human capital, a family should implement the following ideas:

With respect to its intellectual capital, a family should implement the following ideas:

With respect to its financial capital, a family must remember above all to measure its growth over twenty-, fifty-, and one-hundred-year periods, and to take risks commensurate with such long-term planning periods.

While the practice of these and other techniques in the book will not guarantee that a family will preserve its wealth for a long period of time, they will provide a family with helpful tools for making slightly more good decisions than bad. Any novice investor learns about the power of compounding. A family whose wealth preservation system leads it to make slightly more wealth-preserving decisions than nonpreserving decisions will tap into that same power of compounding.

One theory about the life of the universe is that the universe is growing just slightly more than is needed to overcome stasis and its more assertive companion, entropy. That theory suggests that the life of the universe could be perpetual. The universe, like all other dynamic systems, must manage the risks that are inherent in the conditions of its existence, and all of us know that to overcome risk you have to take risk. Excellent investors know how to take just enough risk, and no more, to achieve their investment goals. They are never rash, they exercise patience, and they seek the solid gains that come from compounding the rewards of their patient risk taking. If the universe can achieve long-term preservation by growing slightly more than is needed to overcome stasis, why shouldn't a family follow the same logic to preserve its wealth?

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