Family Shareholders Agreements – Who Controls the Business and for How Long?

There are several different scenarios which a family business shareholders agreement can address when it comes to defining who controls the business, transferring management and ownership and establishing a timetable for succession.

Many family businesses are comprised of active parents and their children.  In these businesses it is reasonable and beneficial to have a timetable in place for the retirement of the parent(s) or senior decision maker so that an orderly transfer to the next generation can be planned. Taking these active steps ahead of time will help protect the business from the adverse affects of a parent remaining in management for too long.  However, the agreement should provide for the continued participation of the parent to allow for the transition with clients, suppliers, employees and other parties that have a long history with the company.  In many cases parents will retain a significant financial interest in the business even after they have turned over management and/or control.  This can be a very delicate situation that needs to be addressed carefully to ensure the parent does not feel they are being pushed out of the business.  Turning over voting control is usually much less important than handing over the day-to-day management/control.  The transfer of the control of the business can be achieved in many different ways within the shareholders agreement.

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When siblings are in control of a business the situation can be complicated.  Because of the tensions and conflict which can arise it is important to include a mediation mechanism within the agreement.  It must contain clauses that deal with what is to occur if the attempts to resolve a dispute through mediation fail.  In these circumstance some form of exit strategy needs to come into force.  These options can include a ‘shot-gun’ provision, buy/sell agreement or mandatory binding arbitration.  Other issues that should be addressed in a shareholders agreement when siblings run the business include deciding how control will be exercised.  Will it be by majority or is unanimity required? There are pros and cons to both.  For example, when business ownership is split 50/50 the business runs the risk of not advancing if decisions require unanimous support.

Many family business must also deal with active and non-active shareholders.  The family members who are not active often won’t be concerned with the day-to-day operation of the business and may treat their shares in the business in the same way they treat other investments. Alternatively they may demand a high level of accountability and benefits.  In these circumstances conflicts can arise for a variety of reasons including non-active shareholders feeling that the active shareholders are treating the business as their own and using it for their own private advantage.  A shareholders agreement can contain provisions that recognize the different view points by establishing an expected rate of return and it can also contain negative covenants that put limitations on the active shareholders.  Family members with non-voting shares can also be given the right to vote on decisions that will fundamentally change the nature of the business.

Lawrence Silber