All in the family
The third and last instalment in our three-part series on family businesses builds on the corporate governance structures outlined in the previous two editions. As we discussed last week, it is very important to base the company’s institutionalization on a well-designed corporate structure to ensure the sustainability of the company independent of individual people. Institutionalized companies can adapt more easily to leadership transitions and market changes in highly competitive circumstances. Once a company has institutionalized its practices, it is ready for the next stage on the road to success.
Part 3: T me to grow
The mportance of partnersh ps
Occasions may arise when the sustainability of the company depends on forming partnerships. There are a number of reasons for this, including: expansion and access to new markets, branding, resignation of the founder and the succession process, financial needs and technological shifts
Besides institutionalization, forming partnerships with strategic or financial partners who are specialized in aspects of the industry in which the family business operates, and have a solid structure and resources to improve the market position of the business, is one of the common ways for businesses to improve profitability.
Too often, however, family businesses are overprotective and avoid taking risks. But the most successful family businesses we observe are those that have institutionalized and incorporated new business lines and sectors into their structures through partnerships.
Who controls what?
If the shareholding family members retain shares of the company following the completion of a partnership, a family-owned business will come under joint control. Problems in vision and mission can arise if the family-owned business has a traditional structure that does not clearly outline the roles and responsibilities of shareholders. To avoid these problems and maintain balance between the family and new shareholder, the Shareholders’ Agreement – which we outlined last week - is critical.
The Agreement should set the ground rules for the transfer of shares, management rights and limits on the partnership, and provide clear and solid instruments to avoid uncertainties on strategic matters. A well-crafted Shareholders’ Agreement will ensure partnerships operate smoothly and avoid potential difficulties.
Partnersh ps w thout rules: the r sks
Entering into a partnership before the institutionalization process is complete poses risks both for the family member shareholders and potential partners. For the partners, delays may arise during the due diligence process - during which the financial and legal situation of the company are examined in detail - leading to a lower level of investment as the process overruns. Potential partners can also face financial or legal complications arising from a lack of transparency and complexity in terms of managing the partnership and negotiating between the family members and third party shareholders. This in turn may lead to disagreements in case of, for instance, compliance with the exit strategies of the financial partners, especially with financial investments.
In addition, weaknesses of institutionalization and systematization contain some risks for the company and the shareholding family members. During due diligence periods, for example, collecting and classifying the company’s documents will be more difficult in the absence of detailed institutionalization and employees tasked with client relations and other vital responsibilities will face greater challenges due to the lack of certainty in their job definitions, including how to manage the public disclosure of the partnership negotiations. These problems can give the impression of chaos and affect the share value and sale price which are the most important elements of the partnership.
New partnersh p nvestment models
Investment models may vary depending on the company’s needs and the agreement between the parties. IPOs are one option but will not be discussed in this article.
Share Purchase and Transfer: In this instance, the potential partner takes over all or some of the shares of the company for financial or strategic purposes based on conditions set forth between the parties.
Pending Capital Increase Contribution: This model of partnership is applied to situations addressing financial needs as well as the expansion of the company. It involves the transfer of financial resources to the company to increase its capital and includes some restrictions on the current shareholders’ preference rights.
Convertible Loans: This partnership model is mostly preferred by international financial institutions. In this type of partnership, relations are determined by the transformation of the right to claim, based on credit and financial instruments provided by the financial institutions to the company, into shares instead of debt repayment.
Structur ng management and f nanc al r ghts
Managerial and financial rights of family members may be protected by drafting share purchase and shareholders’ agreements signed by the parties and adding certain provisions to these agreements regarding the structure of the company. Different share groups are built between the family members and the investors within the framework of the shareholders’ agreement. Privileged shares may be assigned to family members granting priorities and privileges on management issues, such as important board matters, share transfers and sales transactions.
Why t all matters
The ultimate goal of partnerships is to ensure the long-term success of family businesses that are key to the Turkish economy. In successful family businesses, those that take risks and form partnerships, are the ability to expand and meet the challenges of a competitive market by unifying new shareholders within the framework of the vision and mission of the company. The corporate governance approach ensures the company is versatile and able to cope with the fast pace of change in the business environment and its executives are professional and competent.