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Purpose And Procedure For Drafting A Family Constitution

Dr Vinod Surana
13 March 2021 10:03 AM GMT
Purpose And Procedure For Drafting A Family Constitution
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A family constitution essentially is a charter that documents the values and principles of a family business. The contents of the family constitution essentially underline the values and principles of the business while also providing reference for strategic objectives or decision-making procedures concerning ownership or management. Since each family does not have the same...

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A family constitution essentially is a charter that documents the values and principles of a family business. The contents of the family constitution essentially underline the values and principles of the business while also providing reference for strategic objectives or decision-making procedures concerning ownership or management. Since each family does not have the same composition or structure, a family constitution will vastly differ. Even in terms of conflict resolution, a family constitution will address the tribulations that that particular business can possibly take as per their past history.

It goes without saying that merely having the said constitution in place, does not mean that there will be an answer to every single issue in the company. The economic bonds of the family are easier to navigate than the emotional bonds and the circumvention of conflict is difficult. What the constitution does is essentially create a bridge between business and family affairs in order to provide a bankable governance mechanism between the family members and the managers of the company. It also provides a blueprint for succession and turnover so that the issues of navigating egos and hurt feelings will not be as precarious. Providing a firm basis to understand the ongoing changes of succession means that the structure of the family is not eroded every time some key individual backs out, allowing the business to thrive independent of the family itself as well as providing a guide for ownership changes.

Features of A Family Constitution

A family constitution foremost needs to articulate the shared vision and goals that characterize the business. The unique features that both the family and the business espoused need to be put in, akin to a corporate mission statement. Similar to said mission statement, a constitution would necessarily define the organization and its reason for existence as well as identifying the primary demographic and the accompanying products that it caters to.

Certain matters will have to be covered in family constitutions. These matters include:

  • The family values that the entire organization subscribes to need to be put down in order for posterity and to ensure that the nucleus of the idea that created the business is preserved. This allows the business to expand without losing its founding values.
  • To further protect this idea, there needs to be a set of rules for nominating and training successors. This would mean detailed procedures for assessment and appointment in a twofold capacity: a set of rules for management as well as a set of rules and processes to nominate future individuals to the family council or the Board of Directors in the business.
  • Since it is important to have an overseeing Board of Directors, the composition of said board needs to be airtight. There needs to be a detailed conduct policy within to prevent wrongdoing, but the weightage of the vote for each family member (and their potential successor) within this council must be understood and clearly delineated. What this would mean is that the rights and obligations of all shareholders must be clear-cut to prevent overlap and the voting system should be put forth.
  • Consideration must also be provided for external and non-family ownership in this regard. Would a person unaffiliated to the family be able to secure a vote at some point? Would succession to the family vote be based off direct lineage? Each of these questions must be answered to prevent confusion. Some constitutions take it a step further by putting forth a mandatory retirement age for family directors.
  • Usually, a family constitution is used to further transparency. Communication and disclosure policies therefore are key to conflict management herein, especially when considering the process for resolving interfamilial disputes. This would mean putting down processes for buying out family shareholders or remuneration to family members hired in the business. The level of transparency each business demands is highly specific to each business and cannot be included in a template.

Good governance processes consequently need to be laid down to prevent members from tampering with the structure of the business itself. This might be done by indemnifying or exculpating fiduciaries, controlling the dissemination or information, actively requiring the seeking of approval for fiduciary acts and transactions. This prevents money-grab tendencies within the business and protects the core tenets through which it is set up.

Principles Underlying a Family Constitution

Since a template governance document like a shareholder agreement or company bylaws cannot work for a family constitution, it is difficult to draft. Consequently, there are a set of principles that define the constitution rather than a set of boilerplate clauses. The ethos of said constitution will be the family philosophy and values. This is why the guideline principle to draft a family constitution will be enumerating the values within the document. Articulating these values would enable future reference as well as distinctive value. Furthermore, this ensures understanding of family history and enduring traits. Depending on the type of company, adding family history and values provides a feeling of close-knit kinship within the company rather than a rigid bureaucratic hierarchy. This could also help the key stakeholders from feeling disengaged insofar as they are involved in the process of discovering and documenting the common values.

This idea is a double-edged sword. Family feuds may be dredged up if the family constitution revolves around past history. Efforts must be made to smooth any conflicts and dwell on past disputes. Despite the family constitution being a largely emotive and living document, it can also touch exposed nerves and dredge up unpleasant feuds that might not be resolved.

Secondly, it is imperative to pen down a framework for making decisions and changes. Some families might prefer a skeletal guideline system, allowing for members to roughly still be autonomous in their decision-making. Others might set down a list of rules that the members need to follow.

An ideal family constitution needs to be evolving. This means that a decision-making framework-when laid down-needs to put forth a mechanism for further developing policies and making decisions. This would mean that future snags are dealt with in the most optimum manner without compromising on the core tenets of the constitution itself. The framework thus created is adjustable and augmented, with multiple methodologies to make decisions and resolve difficulties. The issue of obsolescence of the family constitution consequently becomes slim.

Preliminary Steps for Creating a Family Constitution

It is important to lay the groundwork before proceeding to draft a family constitution. This allows an educated opinion for all individuals involved and essentially acts as a risk assessment programme for projected success rates for any enterprise. It also dispels any misgivings that family members might have towards the idea. There is a two-fold mechanism for preparing foundation that needs to be performed before drafting a lasting family constitution.

Consultation and Appraisal

Before moving ahead and creating the document, it is necessary to get advice as to whether creating a constitution is even viable. To create the family business, a potential review of the family and its ground values must be done. It is better to enter into the business venture knowing about one's prospects, and a process consultant can help understand the risks of the venture. Essentially, the job of a process consultant is to structure the decisions taken to set up the constitution and the family hierarchy. Consequently, the process consultant needs to work in tandem to the natural gravitation of the family power dynamic.

The process consultant must do an assessment of the family to understand what roles best suit the individuals. They also aim to educate the family as to the potential risks and profits that setting up said business venture would require. The general procedure for said assessment would mean one-on-one interviews with the key family members so that the consultant understands what their individual and joint goals are and how they work together. However, the consultant needs to juxtapose professional advice with overstep and cannot prevent the family from making any decisions. It will be necessary for the consultant to look at both basic corporate functioning and family information. For corporate functioning, the current structure of the company like share ownership arrangements and compositional board rule needs to be understood. Assessment and fact-finding consequently form the basis for a family constitution.

Forming the Family Governance Board

The predecessors to the Family Board come together now. It is a hands-on requirement to understand how to proceed and make decisions. The shared goals and values of the family must be underlined and compiled through communal understanding.

The basis of the corporate governance systems must also be formed here. The family line representatives should come together and mutually agree upon the terms of the constitution and regulation of the business. Before the drafting process, coming to an understanding as to the regime within the company must be done. There should also be a provision at this instance for an annual reviewing process amongst the family in order to update the constitution. Reviews at all points need to follow from assessments to ensure accountability and professionalism.

What is the Drafting Procedure of a Family Constitution?

Moving past the history and the guideline framework, key clauses must be created for a family constitution. It is recommended that the place of origin after the preamble be the governance of the business itself.

Why start at governance? Usually, employment qualifications should take precedence before governance practice. It must be kept in mind, however, that a family business at least starts out as a nebulous company. Hiring and firing is limited to the family, but governance can be tricky to maneuver in the family. Consequently, there needs to be provisions for the makeup and qualifications of board members and the regularity of family meetings. Furthermore, provisions for membership and communication between the board, family and management needs to be provided herein, preferably accompanied by a successor selection process.

Within governance, it is also important to appoint trusted neutral parties who are not involved in the family. Appointment of professional advisors and the criteria they need to fulfil in order to provide said advice is thus paramount. They deliver a foil to the family functioning, especially if it gets heated, and can assist in business valuation methodology. It is also important at this juncture to discuss ownership and voting rights amongst the individual, so that the dispute resolution process can be smoothened out. Since the business is based out of the family, estate plan communications, coordination and agreements would be important to deal with as well. Furthermore, unlike other businesses, a marriage contract arrangement may also have to be addressed.

It is then important to delineate employment in the family business. Since the governance is thus agreed upon, qualifications and conditions for employment can be better regulated. This includes a regular performance review and consistent compensation, inclusive of severance and retirement. Furthermore, a hierarchy and reporting relationship can be set up under the heads of the business to ensure smoother functioning.

There should also be a procedure for renewal, amendment and revision of the constitution. It is impossible to create a single document that will stand the test of time and it is highly likely that the family constitution in its original form will become obsolete. For a truly lasting constitution, the family needs to anticipate future changes and provide a transparent amendment process. A review mechanism can also ensure that the constitution in its amended form still retains the ethos of the original constitution and can rectify any brewing discontent that had since come to light.

Conclusion

The issues that an absence of a formal management succession plan can spawn can have lasting effects that would take generations to fix. Eroding the trust that the family business has set up in the current generation could cause permanent damage to the business. Finding a good succession plan and making a well-structured future business model taking into account all the opinions of the key stakeholders can be done by early planning. Flexibility and guidelines laid by the constitution could ensure the longevity of a family business over its competitors while also maintaining harmony within the dynasty.

Dr. Vinod Surana is the Managing Partner & CEO of Surana & Surana International Attorneys. Views are Personal.


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