Private Client Insights
January 25, 2024
Sustainable Success: How Family Constitutions can Shape Corporate Governance, Business Succession and Familial Legacy
Families form one of the most fundamental structures along the lines of which a business is structured. In India, family businesses dominate the market making up more than 79% of the Indian GDP.1 However, given the nature of personal relationships underlying family businesses, they face complex issues which are not faced by other businesses. This is further underlined by the fact that 45% of all family businesses have no formal channels of business communication and only a meagre 11% have conflict resolution mechanisms in place.2 Having a codified structure in the form of a family Constitution provides a broad framework for business and family succession as well as conflict resolution and other key provisions, thereby enabling better corporate governance, and transparency within the family. This in turn reduces the risk of litigation and negative publicity, and promotes a successful legacy. As such, it is no wonder why several Indian family heavyweights like Godrej, GMR Group, and Dalmia Bharat all function under the aegis of a family Constitution.3
A family Constitution essentially outlines a family’s foundational beliefs, principles and objectives along with delineating decision making and succession plans both in relation to personal and business matters. Family Constitutions do not follow a one size fits all approach and should be tailor made to the requirements of specific families given their particular structure, family dynamics, and business commercials. The Constitution effectively builds a bridge between business and family matters in order to offer a sound governance framework between family members and a company’s management (who may or may not consist of members of the family). It serves as a key tool in ensuring the sustainability and stability of a family business over multiple generations Accordingly, it is no surprise that even though the details of a family Constitutions are never made public, the very fact that a promoter family has a Constitution can often bolster investor confidence.
Key Aspects of a Family Constitution
Vision and Mission
The foundational requirement of any solid family Constitution is to ensure the unity of the vision of the business amongst the family members. Here it is important to take stock of the history and tradition of the family, the family ethos and values, all of which will serve as guidance to help the family make decisions in concomitance to, and in furtherance of the vision.
Who gets how much say in the decision making and upkeep of a family business are salient questions which a family Constitution can help resolve by setting out the composition of a Family board, along with the individual role and powers of each member. Much like meetings with the shareholders of a company, a family business needs to ensure that its’ members have access to its decision making procedures and are not left alienated. For business families, there is usually no separation of work and life, and provisions of the Constitution can take such ideology into account. For example, the Constitution can provide that yearly / quarterly family board meetings take place in holiday destinations to ensure that the family members have time to enjoy each other’s company while still actively participating in decision-making. On the other hand, administrative requirements under the Constitution should not interfere or unnecessarily delay business operations and accordingly, provisions may also be added to enable action even without a board meeting under certain exigent circumstances.
The most common form of familial conflict is a power struggle for control over the family business. Charting out a plan that provides a broad framework for management succession as well as conflict resolution can go a long way in ensuring business stability and growth. Provisions are typically added in the Constitution governing the succession of key management positions in the family’s group entities.
Many family businesses choose to give back to the community. Not only does this philanthropy garner for them a better reputation in the industry, but also allows the senior members of the family to set an example for future generations thereby creating a positive legacy. Appropriate provisions in the Constitution can be added to ensure the perpetuity of this tradition.
A family is a dynamic structure in constant flux, where members are added through birth or marriage, or lease through death or divorce. Similarly, the family business also grows, contracts and diversifies. Accordingly, it becomes important to ensure that appropriate provisions are in place to keep the Constitution flexible and adaptable to change. One way to do this is by staying away from narrow fact specific provisions, like an exit provision specific to only one company out of the larger group. Another way is to ensure mandatory review of the Constitution from time to time.
A family Constitution can include an informal and internal dispute resolution procedure. While the Constitution may not entirely prevent disagreements, the guidance, transparency and certainty it provides are intended to reduce the likelihood of disputes occurring amongst family members. Moreover, if a dispute still arises, the Constitution offers a pre-agreed procedure for the best way to address such disagreements. This could mean anything from the patriarch resolving the dispute to a compulsory mediation.
Enforceability of Rights and Obligations
Unlike a commercial contract, a family Constitution is not generally legally binding. Instead, it is typically regarded as a familial agreement carrying moral significance. That being said, it may be possible to draft certain provisions which have commercial substance in a legally binding manner. This would of course depend on the nature of the provisions, the language used, and the manner in which the Constitution is executed. However, certain provisions may never be legally enforceable such as provisions setting out family values, or obligations intended to bind minors or individuals not competent to contract.
Accordingly, while a Constitution is an important document which sets out the fundamental objectives of a family, it is essential that the intention of the family with respect to business management, succession, etc. is also appropriately translated into the governing documents (i.e.. articles of association, shareholders agreements, LLP agreements, trust deeds, etc.) of the family’s various business entities. Certain provisions dealing with property succession may also need to be captured in the wills of relevant family members.
In a country like India, where families generally shy away from formal communication channels and conflict resolution mechanisms, the family Constitution emerges as a powerful tool providing a comprehensive framework that addresses not only the intricacies of business management succession but also the delicate dynamics of family relationships. It helps bridge the gap between family values and corporate governance, while promoting transparency, reducing the risk of family disputes and providing a framework for the creation of a lasting legacy.
You can direct your queries or comments to the authors.
1Ushering India’s Family Businesses into a New Era of Endless Possibilities, The Economic Times, February 2022. Available at- https://economictimes.indiatimes.com/industry/services/education/ushering-indias-family-businesses-into-a-new-era-of-endless-possibilities/articleshow/89500732.cms?from=mdr
2From trust to Impact: 10th Global Family Business Survey India Report, PwC, 2021. Available at- https://www.pwc.in/assets/pdfs/services/entrepreneurial-and-private-business/pwc-family-business-survey-2021.pdf
3Anil Sainani, Economic Times. Available at- https://economictimes.indiatimes.com/familybusinessforum/summit/anil-sainani/articleshow/66315831.cms?from=mdr
The contents of this hotline should not be construed as legal opinion. View detailed disclaimer.