B U S I N E S S F O R FA M I LY B U S I N E S S : Legal matters
Maximising profits by minimising
costs: the key legal issues
By Patricia Angus
A family business that is A FAMILY BUSINESS can sometimes feel like receive it. By contrast, a corporation or
a cosy escape from the complexities of a société anonymes is usually a separate
mindful of the need for public enterprise. Since family members taxpayer, and its owners are only taxed on
proper planning, monitoring generally control all decisions, interactions benefits received.
tend to be informal. They can focus their The family should weight these
and maintenance of legal attention on building products, offering factors to choose a structure. Once a
issues will ultimately services and finding customers, with structure is chosen, legal rights and
minimal time spent on theoretical responsibilities of each of the relevant
be more profitable (including legal) problems that may not parties must be established. This is
and successful happen for years, if at all. However, family generally covered in the ‘governing
business profits can be greatly reduced if documents’ (eg, partnership agreement,
over the long-term the legal ramifications of company articles of organisation, memorandum of
behaviour are not addressed regularly. association and by-laws). From the start,
Thus, a family business should bear in it is helpful to designate one family
mind certain key legal issues as they member or other key person to oversee
develop and build the business. legal issues, which will involve
developing an ongoing relationship with
Corporate governance issues outside lawyers or hiring an in-house
The term ‘corporate governance’ is a counsel. As soon as possible, the family
popular buzzword in the US and around should learn the parameters in which the
the world today. Essentially, corporate business operates. For example, local law
governance refers to the internal will govern their obligations towards
governing rules of a company and the employees, taxes, benefits, wages and the
ways in which legal obligations must be work environment that they must
upheld by the owners, directors and provide. The business should have
employees during three key phases: start- written policies and keep records of
up, growth and sale of the business (or important decisions to establish a history
going public). for future reference.
Start-up/initial phase Growth phase
Proper governing rules should be As a family business grows, there will be
established from the start, beginning with new entrants, both internally and
choosing the proper busines structure. externally. Non-family members may
The choice of structure will depend on become more active in the management
the type of business and the jurisdiction and ownership of the company. There will
in which it is established and operates. be increasing numbers of relationships
The family must determine its priorities with customers and vendors. Although it is
from a set of factors, including liability, common for these arrangements to be
taxation and administration. In certain informal, the company should establish
forms of business like sole proprietorships the proper terms from the outset. The
or general partnerships, the owner(s) are business should have a clear
personally liable for all debts of the understanding of its customers and their
business. In most other business forms ability to pay. Terms of payment should be
(limited partnerships, limited liability written so that the company does not
companies, corporations and société unintentionally provide credit.
anonymes) each owner is only liable for Agreements with vendors should include
their own contribution. In some business terms for cancellation that provide
forms like sole proprietorships or general flexibility for changing needs.
partnerships in the US, each owner is In a family business, a system should be
taxed on the owner’s proportionate share created for succession issues, including
of income earned by the business, contingency planning for the death of the
regardless of whether they actually founder or key person, methods of
44 June/July 2003 · Families in Business
B U S I N E S S F O R FA M I LY B U S I N E S S : Legal matters
decision making among owners, planning Summary of the key legal issues to consider
for business growth and inclusion of non-
family members. Succession planning Start-up phase
should be integrated into the governing s What is the appropriate legal structure for the business, considering tax,
documents or a separate agreement. If a liability and administration issues?
family member can transfer their shares, s What is the nature of the owner's interests?
the agreement should state whether s What are the key terms of the governing documents?
family members have a ‘right of first s Are there written policies?
refusal’ to purchase shares from a s Who will oversee legal issues?
withdrawing member using an s Have initial members received training on relevant legal issues?
appropriate valuation method. s What system will be used to ensure that proper corporate records are maintained?
Going public/sale of business Growth phase
If the family considers selling the business s What is the company’s succession plan and is it documented?
or seeking outside investment, each s Can new owners be admitted and, if so, how? What rights will they have?
family member should carefully review s What arrangements should be made for new employees (eg, employment
their objectives prior to initiating the contracts, non-competition and non-solicitation agreements)?
transaction. In most cases, these objectives s How will the company’s confidential and proprietary information be protected?
will go beyond financial goals and include s For a sale, transfer or share assignment, how will the business be valued?
ongoing legal rights and, possibly, control. s What are the terms of arrangements with customers and vendors?
The governing documents should reflect
whether the family (or certain members) When going public/selling your business
wish to remain involved or in control. s What legal rights and responsibilities will apply to owners/
Securities law requirements and insider directors/employees after the transaction?
trading rules will apply to family s What protection do family members have after the transaction for the value of
members still involved in a public their shares and their involvement (if any) in the business?
company. The family may need to adjust s Have all regulatory filings been made?
to these limitations while at the same s Is the company in compliance with applicable law prior to the transaction?
time being subjected to increased
disclosure of personal information. Regulatory issues
s Is the business subject to special regulations due to its products/services?
Local/regulatory requirements s Are owners, directors and employees aware of their rights and responsibilities?
Regardless of the legal form in which it s Are there any labour law restrictions or regulations?
operates, a family business will likely be s How will the company ensure that all regulatory requirements are met over
subject to a variety of local and regulatory time?
requirements specific to the size, type or
location of its business. The range of Risk management issues
requirements vary and include individual s Are all parties properly informed about potential liability?
and corporate taxes, employment laws s Is there an audit committee? Who is responsible for compliance?
(eg, insurance, benefits, discrimination), s Have funds been set aside for potential liability?
pension laws, labour laws and s Have steps been taken to remedy circumstances that may give rise to a claim?
environmental laws. There may be s If a claim involves the business and one or more of its
industry-specific regulations, including owners/directors/employees, does each party have independent counsel?
licensing, inspection and reporting
requirements. Also, family businesses
should consider industry practice (eg,
compensation issues, union involvement). committee and supervision of compliance Businesses around the world operate in
functions. In a more general sense, risk increasingly regulated and litigious
Risk management issues management includes avoiding litigation environments, so it is more important
Even if the family business has proper by following proper procedures and than ever to maintain an awareness of
corporate governance and complies with efficiently addressing legal issues as they legal parameters, hot spots, potential
all local and regulatory requirements, arise. If a lawsuit is filed, or it becomes traps, pitfalls and opportunities. It will be
there is always a risk of unforeseen clear that a suit is possible, the company far more costly and disruptive to respond
liability. The risk might come from the should seek to minimise the costs and to and handle the consequences of
inside (an owner, manager or employee delay in operations that it will entail. improper structuring and management
might commit a transgression or file suit than it will be to address the issues on an
against the company) or from outside Maintaining awareness ongoing basis. s
(an injured customer or unrelated third A family business that is mindful of the
party files a claim against the company). need for proper planning, monitoring and
Risk management takes many forms. maintenance of legal issues will ultimately Patricia Angus is a lawyer and consultant to high
At the highest level, it requires proper be more profitable and be able to devote net worth families on governance and
oversight of business affairs by the its energies more efficiently to ensuring philanthropic planning. She is President of Angus
directors, including through an audit the success of the business over time. Advisory Group LLC in New York,USA.
June/July 2003 · Families in Business 45