All in the family

Dünya Executive - - BUSINESS BY LAW - RESAT MORAL, MANAGING PARTNER, MORAL & PARTNERS [email protected]

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.

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