1. Why is Corporate Governance Important for Family-Owned Businesses?
Corporate governance is defined as building the relationship between the company and its shareholders, employees, business or solution partners, within the frame of transparency, fairness, responsibility and accountability principles; also preserving and maintaining such a relationship. Therefore, corporate governance brings a framework to the company by helping it to operate independently. Such framework will reach the road of sustainability. The main problem of the family-owned businesses, both in Turkey and worldwide, are the incapability of maintaining sustainability and defining the boundaries of the family and business relationships between the shareholder family members. Therefore, with every step taken for the corporate governance, the critical issues of the family-owned businesses will be able to resolved in a successful manner.
Companies including family-owned businesses adopt and apply corporate governance principal on their business and management, such company will be able to transform independent from specific people. Therefore, the succession mechanism will dissolve and this automatically will lead to a boost at the profitability, efficiency, the employee performances and the customer satisfaction of the company. In this context, if summarised briefly, likewise other company types, also for family-owned business companies, corporate governance ensures companies to be competent and to reach their utmost potentials.
2. What Are the Main Steps to be Taken for the Family-Owned Businesses During Institutionalisation?
We believe that “Knowing Your Company” and “Mindfulness” are the seeds for corporate governance. In other words, the corporate governance will start to produce leaves and take root as Shareholders of family-owned businesses drop their egos and accept to be a part of a body of certain rules of a system.
When considered the definition of the institutionalisation means “the establishment of a framework for the operations and management of a company”, different steps should be taken regarding a company’s industrial specifications and its organisational structure. However, it carries a crucial importance for institutionalisation to define the system’s component duties and functions, determine and uniform the internal regulations in accordance with the mission of the company based on the principal of inditement, and define the authorisations and the responsibilities for each position in the company objectively and accurately.
When we evaluate the above-mentioned steps specific to the family-owned businesses, the main subjects to be considered may be indicated as follows: Drafting a family constitution, drafting a shareholders agreement, determining and applying the conditions and standards of the family member shareholders’ participation in the management and executive boards of the company, appointing a professional member independent from the family to the board of directors, determining the activity plans of the company for short, medium and long-terms, and ensuring an independent internal audit in the company. While defining a roadmap regarding these steps, an unbiased and a professional manner which focuses on common commercial interest should be followed.
3. How Should an Optimal Board of Directors Structure and the Family Member’s Participation to the Management be?
The most important factor to improve the family-owned business’s competitive power is an excellent management. Therefore, well-designation of the board of directors’ structure has major importance for the family businesses. Pursuant to the new Turkish Commercial Code entered into force in 2012, the importance of board of directors has been emphasised, non-transferrable duties and obligations have been assigned to board of directors and additionally, board of directors has been conferred with the liability of duty of care. Accordingly, a board member, who acts as a foresighted executive within the scope of the aforementioned duty, shall be held responsible if s/he fails to follow all the economic developments, forecast the market fluctuations and analyse risks arisen from the uncertainties and take necessary actions.1 It carries vital importance for the sustainability of the company that board of directors is not overwhelmed by the emotional bonds of family members. When analysed the family businesses in Turkey, we generally observe that all board members are also family members. However, it is crucial to state that, having an independent professional at the board, specialised in its profession and gathering a board of directors independent from the family for continuity and improvement of the company, will ease for the family-owned businesses to adopt innovative approaches and set a balance between the family members by giving an objective point of view on the strategical matters. Having a management approach does not mean leaving the company and transferring management of the company to the third parties for the family members, quite the reverse, it should be considered as building a shared soul between the family members and the employees to carry the company to a healthy future.
4. What is the Importance and the Role of a Shareholders’ Agreement Drafted in Light of the Family Constitution during the Institutionalisation Process?
The family constitution is a guide that regulates values, principles, assets, relationship and rules of the family. The family constitution is actually an incarnated version of “family mindfulness” notion as we mentioned in the preamble of our opinion. The family constitution reflects the family’s approach on company issues as it is drafted in the light of the mission, vision and philosophy of the family and it indirectly enlightens the interaction between the family and the operations of the company.
The Shareholders’ Agreement of the family-owned businesses -if exists- regulates the relationship between the shareholders of the company within the framework of purposive details and principles by reflecting the family constitution’s soul. The Shareholders’ Agreement is a body of rules that regulates the management and organisation, partnership structure, professional relationships of the family members, management and transfers of the shares and assets of the company, and the business processes for the purpose of determining the main principles for the operation of the company. The provisions of the Shareholders’ Agreement are binding for the shareholders who are party to the Shareholders’ Agreement, and as a prerequisite it is required for the third-parties to sign the Shareholders’ Agreement - although the Shareholders’ Agreement will be amended regarding the new shareholding structure after the partnership transactions are completed-. The subjects such as the protection of the shares and the shareholding existence, entity of the shareholding structure, management rights, share transfer limitations and the rights of the other shareholders in the event of the transfer of shares, limits and liberties, options, competition provisions are regulated under the Shareholders’ Agreement.
Pursuant to a Shareholders’ Agreement drafted in light of the family constitution, the family relationships are being institutionalised before the company, and the main vision and objective of the company are being set. Hereby, the main vision and the objective of the company are protected and the principles for the protection and the regulation of the rights of every family member is set both during the institutionalisation process and before a possible partnership that might happen in the future. In other words, awareness of the shareholders and company before a potential partnership with the third parties may have a resemblance with a guest who feels secure by attending to a ball he/she is invited with a tailor-made gown or tuxedo.
5. What Kind of Approach Should be Set for the Minority Rights in the Family-Owned Business?
In the family businesses, a loud and clear approach should be set regarding the structure and needs of each family by avoiding the suspicions and satisfying the expectations of the family members. It is necessary to build a corporate governance structure eligible to protect the rights of the minority shareholders and the minority rights shall be explicitly protected on the articles of association, regulations and the management code of the family-owned business company. This situation also has a major importance for the establishment of the transparency in family businesses. Establishing transparency on the minority rights in family businesses plays a main role in the openness to the public opinion and may be considered as a confidence building factor for the family business in the market which the company operates.
Aforementioned minority rights shall not be considered as commercial or social concessions, contrariwise it should be considered as operational and strategical foreseeing plans within the scope of commercial future and the sustainability of the company. It is important to consider protection of the shareholders that have low ratio of shares as preventative regulations to keep the company from the administrative deadlock conditions, instead of considering it as the regulations to protect the minority shareholders. In short, a successful system should balance the ability of motion of the company with the shareholders expectations while solving smoothly any conflicts to be raised on the road to sustainability.
6. What Are the Benefits of the Partnership with the Third Parties for the Family Businesses?
It is possible to say that the third-party shareholders join the family businesses where a family member or members hold the majority of the shares – companies which have their %30 or more shares held by shareholders that are members of the same family are considered as family businesses in practice – particularly to accomplish expansion, professionalisation and branding for the company in the family-owned businesses. Even though the accession of the third-party shareholders to the company might give an impression of separation within the family, it should not be ignored that such developments provide an objective point of view to the company within the scope of its mission and vision, where necessary measures are taken.
Expansion of the scope of the work and establishment of the transparency by adopting innovative approaches shall be succeeded faster with the objective third-party shareholders dominating the market and have specialised in the fields of activity of the company. In such case, the significant point is to set the issues which have been prohibited or limited by the legislation in the articles of association of the relevant company in written form by assigning a shareholders agreement which regulates the basic relationship between shareholders of the company and their rights. Herewith, the frame of the relationship between the third-party shareholders and the family members will be formed and equilibrated.
7. Are the Institutionalisation or Merger/Acquisition Projects Necessary for the Family Businesses to Maintain their Existence and Development?
As we stated above, it is very important to establish company’s institutionalization on a well-designed corporate structure to ensure the sustainability of the company to be independent from individual people. Institutionalised companies can adapt easier to the market changes than the other companies both in the transition between generations and high competition circumstances.
On the way to sustainability, the companies’ partnership needs may arise from various reasons in the course of time. Some of the reasons may be stated as follows:
- Expansion and access to the new markets,
- The intent for the transition to the corporate governance as a result of the internal awareness stated hereinabove or direct necessity arisen from the inefficiency of the mentioned awareness,
- The resignation of the founder and succession,
- Financial needs.
The partnerships with the strategical and/or financial partners who are the third parties specialised in the industries and have a solid structure and resources to improve the activity on the market and the position of the family businesses besides the institutionalisation is one of the common methods for the development for the companies by profitability. Some of the situations that the family businesses face frequently are having overprotective approaches and avoiding from taking risks.2 Therefore, the positive outcomes of the well-managed partnership processes cannot be negated. When observed the successful family businesses in a sustainable manner, we see that the most of them have institutionalised and incorporated new business lines and sectors into their structures by partnership projects to improve themselves continuously and adapt to the market.
8. How Could the Continuity of Company’s Control Be Maintained During the Expansion Process by Partnership?
If the shareholder family members still have shares of the company following the completion of the expansion process by the partnership, the joint control will come to the force on a family-owned business. In family-owned businesses which have a traditional structure, managing the company with the joint control without detracting the third party joined to the company as a shareholder from the main vision and mission of the company becomes more of an issue. Under such circumstances the Shareholders’ Agreement has a critical importance in protection and arrangement of the balance between the family and new shareholder.
The provisions on the transfer of shares, management rights and limits drafted by regarding the balance of partnership and rights, and clear and solid instruments avoiding rise to uncertainties on strategical matters to be set forth on the Shareholders’ Agreements shall enable the company to move forward free from the shareholding relationships and potential difficulties.
9. What Are the Potential Risks in the event of Early Partnership Prior to Structuring Corporate Governance?
Entering into a partnership process before the institutionalisation awareness and its effects within the company reach to a certain point, accommodates some unborn risks for both the family member shareholders and the potential partners.
The newcomer investor may face risks such as a long-lasting due diligence process before family business, a lower level of investment as the process overruns, financial or legal complications arisen from the weakness of transparency, intensive pressure and complexity of managing the partnership issues and negotiations between the family members and third party shareholder groups, disagreements of the family member shareholders in compliance with the exit strategies of the financial partners, especially in the financial investments.
On the other hand, weaknesses of institutionalisation and systematisation also contain some risks for the company subject to the acquisition and so does for the family who is shareholder of the relevant company.
As it is known, due diligence periods are the ones during which the financial and legal situation of the relevant companies are examined in a detailed manner. During due diligence periods, there are some risks for the companies who have not been totally institutionalized yet and who are negotiating with a potential shareholder who is very professional. Possible risks are; (i) efforts to be made on collecting and classifying the company documents which will noticeably be higher compared to institutionalized companies, (ii) employees who may move away from some roles carrying vital importance for the companies such as client relations some operational responsibilities due to the lack of certainty on the job definitions, (iii) the management of the public disclosure regarding the partnership negotiations, (iv) complying interim period restrictions, and (v) completing conditions precedent Aforementioned risks have extreme importance and they can affect the share value and sale price which are the most important elements of the partnership negatively.
10. New Partnership Investment Models:
Investment models may vary depending on company’s needs and parties’ agreement. You will find some alternative models excluding IPO’s which is out of the scope of this articles.
Share Purchase & Transfer: It is realised by a potential partner who takes over all or some of the shares of the company for the financial or strategical purposes on the conditions set forth between the parties.
Pending Capital Increase Contribution: This model of partnership is mainly applied for responding the financial needs as well as the expansion of the company rather than share transfers and income expectation of shareholders as frequently seen on the financial partnerships experiences. It is realised by a potential partner contributing to the capital increase by means of the restriction of the current shareholders’ preference rights and thus transferring of financial sources to the company.
Convertible Loans: This partnership model is mostly preferred by the international financial institutions. In this type of partnership, relations are built by the transformation of the right to claim which is arisen from the credit and financial instruments provided by the financial institutions to the companies, into shares instead of repayment.
11. Structuring Management and Financial Rights
Managerial and financial rights of the family members may be protected by drafting share purchase and shareholders’ agreements to be signed by and between the parties and adding some certain provisions to these agreements regarding the structure of the relevant company, during the partnership transactions. Different share groups are built between the family members and the investors within the framework of the shareholders’ agreements. Privileged shares may be assigned to the family members by granting priorities and privileges on the management issues, such as important board matters share transfer and sales transactions regarding the structure of the expectant partnership.
12. What Are the Common Traits of the Family Businesses Continued to Their Existence Successfully Following the Partnership Transactions?
It is obvious that the main priority of the family businesses having major importance at Turkish economy must be achieving the sustainable success. The common traits of the sustainable family businesses which take risks and form a partnership may be indicated as keeping up with the corporate governance to expand and stand against the market competition; unifying the new shareholders within the framework of the vision and the mission of the company to carry it one step further, and keeping up with the necessities of time and professionalism with specialised executives..
1. Corporate Management in Turkey Association Publication (“Türkiye’de Kurumsal Yönetim Derneği Yayınları”), Ekonomi Gazeteciliği İçin Kurumsal Yönetim El Kitabı, page. 51, İstanbul-Eylül 2011.
2. Didem Eryar Ünlü, Basis of success at Family Companies: Sustainability (“Aile Şirketlerinde Başarının Temeli Süreklilik”), Dünya Gazetesi, publication dated 23 November 2010.
3. The Keys to Sustainable Success at the Family Companies (“Aile Şirketlerinde Sürdürülebilir Başarının Anahtarları”), Akbank-Deloitte-Sabancı Üniversitesi-EDU-TAİDER, 2016
By Resat Moral, Managing Partner, Duygu Bozkurt, Associate and Asu Motur, Trainee Lawyer, Moral & Partners