Family businesses and succession planning - a Middle East perspective
Source: Clyde & Co , Author: Niall O'Toole, Prarthna Chaddha and Faisal Buali
Posted: Tue July 3, 2012 11:46 am

UAE. The family business is one of the most dominant and enduring forms of business organisations in the world. In fact, according to some estimates, over 90% of all commercial activity within the Gulf Cooperation Council (GCC) countries is controlled by family businesses.(1)

However, the family business is also an ageless structure which must overcome succession issues in order to survive. According to the Institute of Family Business in the US, a major obstacle which prevents family businesses from successful transition into the next generation is the absence of a sound succession plan.

Yet in spite of its importance, in a 2010-2011 survey by PricewaterhouseCoopers, almost half of all responding companies which were due to be passed down to the next generation within the next five years had no succession plan in place.

Unique challenges, issues of culture, personality and hierarchical structures makes succession more complicated than in most listed entities.

What is a succession plan?
A succession plan can be anything from a loose unwritten understanding or agreed cultural norms to formal constitutions and family charters. Increasingly (and also for commercial reasons), families are leaning towards transparent written rules and procedures.

The key document may be a Family Charter, Family Protocol or Family Constitution, containing a set of rules and guidelines that have been agreed by members of the family, to run the family business and segregating the family matters from business matters. Some of the matters that a Family Charter should address include:

providing an agreed process for the representative governance of the family business, including but not limited to, detailing the roles and responsibilities of each family member involved in the management of the business. This may also involve the establishment of a board of directors and various committees with specific roles within the business;

establishing a mechanism for avoiding conflict between family members, through, for example, the formation of a "Family Council" to arbitrate on disputes between family members;

specifying an employment policy for the business and establishing guidelines in relation to the employment of family and non-family members;

determining who is a "family member" for the purposes of running the business. In this regard, it is vital to determine whether spouses and in-laws of the family are to be regarded as "family members";
establishing mechanisms to ensure compliance with the rules and guidelines of the Family Charter and to deter violations; and

providing an exit plan for family members who do not wish to remain in the family business, and establishing certain safeguards which prevent or restrict family members from selling their stake in the business to outsiders.

Why is succession planning important?
A succession plan is important for a family business because it oversees the management of the family business and its transition from one generation to another. Without it, the continuity of the family business would be at risk whenever it undergoes a generational change.

It therefore comes as no surprise that succession planning is now considered best practice for family businesses. In cases where a business has a professional non-family management team, the absence of a succession plan will often be a source of great concern to the management team.

The main objectives of a succession plan are to:

develop a long-term vision for the family business;
ensure the continuity of the business after the founder's death or retirement;
promote family harmony and avoid conflict between family members;
enhance the longevity of the family name and reputation; and
identify and retain the value of the family business.

There is no one size fits all approach. Every family is different. Families where the founder of the business (G1) still plays an executive role can be very different from families where the sons/daughters of the founder (G2) or the grandsons/granddaughters of the founder (G3) run or supervise the management of the business.  A G3 family structure will likely, by sheer weight of numbers, be more complicated if the family ethos is to keep the family business together.

What does succession planning involve?
The process to implement a succession plan should be consultative in nature, and should ideally begin from within the family. Opening a dialogue between family members is vital to ensure that the personal feelings and goals of all relevant members are reflected in the succession plan, and to avoid discord which may arise due to family members feeling left out.

The use of specialist advisors is also a growing trend, especially among large family businesses in the MENA Region. In this regard, legal advisors (often working with other specialist advisors), help families to put in place the most appropriate corporate and organisational structures for their businesses.

In particular, some of the advantages that may be achieved by utilising a corporate structure include:

reducing the liability of the owners of the business to third parties by introducing limited liability;
facilitating the disposal of the business, or part of it, in the future;
facilitating the continuity of ownership of the business from one generation to another through the separation of holding and operating companies;
improving the corporate governance of the business particularly as it evolves from a G1 structure to a G2 or G3 structure;
reducing the business' tax liability through tax planning; and
enhancing the financial rating and credit risk of the business.

Act now
The challenges that family businesses face make it increasingly difficult for them to survive. According to MEED Magazine, only 30% of family businesses survive into the second generation, 10% into the third and 3% into the fourth.

Instituting a succession plan early in the life of a family business allows it to navigate through the pitfalls that many such businesses fall victim to, and increases its chances of survival into the future generations.

In particular, for a G1 founder, it is best to put in place structures which allow G2 family members to deal with each other within the business when the G1 founder is there to guide them rather than waiting to see what fills the often substantial vacuum left by the G1 founder.

(1) Source: "The Impact of Private Equity on GCC Family Businesses", a report by Ithmar Capital in partnership with Dow Jones Private Equity.

You can access related articles on the Clyde & Co website at www.clydeco.com.

Disclaimer: The views set out in this article do not constitute legal advice and readers are urged to seek specific legal advice in relation to any particular issues which arise from the subject-matter of the article.

© 2012 Clyde & Co LLP. All rights reserved

 

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