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Family Firms

In family firms the elements business and ownership are intertwined with the unpredictable factor ‘family’. But there is more. These three elements, which should be taken into account when devising an effective family-owned governance framework, are not static, but constantly evolve along three independent paths. Given the dynamics of and interrelation between the business cycle and family cycle, it is a daunting task to conceive of general corporate governance mechanisms that are effective and create credible commitments. To see this, family-owned businesses can be viewed as a nexus of oral and written agreements. Whilst such contracts can be costly and difficult to enforce, reciprocal commitments and penalties bundled together often prove effective in incentivizing parties to invest the necessary resources to achieve an optimal contractual relationship. If the relationship should threaten to breakdown, for instance in family businesses after the third generation, the insertion of provisions that create ‘mutual hostage’ situations can encourage parties to work through their differences. The evidence shows that the most successful family-owned businesses employ a variety of contractual and property based mechanisms to tie family members for generations. For instance, family members who wish to exit usually face serious lock-in provisions making it virtually impossible to liquidate, without substantial losses, their interest in the company. Common ‘penalty’ mechanisms include the right of first refusal to family members on tendering shares, below-market valuations in the case of a share buyback, and restrictions on the number of shares that can be sold in a particular period. Conversely, the members will create institutions and privileges that function to foster family interests and minimize conflicts. Empirical evidence reveals that families anchor their members through large charitable organizations that offer employment to members not active currently in the business and include decision-making opportunities for the children of family members. Correspondingly, large real estate holdings make it difficult for members to exit especially when these assets are used to collateralize the highly leveraged borrowing of, for example, a family holding company.

 Lex Research Ltd. researches and analyzes the main governance and finance issues that family firms encounter. We offer advice on strategies for dealing with governance conflicts that arise in family oriented firms. Our advisers work on projects involving the design of different ownership and control structures, coaching non-executive directors, regulatory advice on capital market issues and registration requirements for going public, succession planning, and mergers and acquisitions. Lex Research Ltd. is designed not only to provide advice in this important field, but endeavours to give policymakers and, more importantly, legal and accounting practitioners the tools necessary to structure reforms that suit the diverse range of family firms.