Challenges and problems for Middle Eastern Family business posed by inheritance laws and family divisions

INTERNAL THREATS TO MIDDLE EASTERN FAMILIES IN BUSINESS

Middle Eastern families in business are challenged by generational change, due to the combined effects of inheritance laws, companies laws, large families and rivalry amongst heirs, challenges which are usually recognized when it is too late.

Introduction

  1. Many Middle Eastern family businesses have been remarkably successful and have become true financial and business powerhouses. Paradoxically, even the most successful families often have dangerous fault lines within, and they fail to recognise potential lethal threats from the inside before it is too late.

Fault Lines Within

  1. Dangers from within the family are subtle and these problems are often more difficult for the founder or other family members to perceive or acknowledge, let alone tackle in an effective manner. But even hairline cracks in the family can widen and invite disaster, particularly where the cracks are disagreements between siblings, the family’s bridge to the next generation.
  2. In 1967 fine corrosion cracking triggered a catastrophic collapse of the Silver Suspension Bridge across the Ohio River in West Virginia, under the twin stresses of low temperatures and high bridge loading. A total of 46 people in motor vehicles died when they fell into the river with the bridge. Likewise, in families, the twin stresses of leadership transition and business pressures can open up differences between siblings or cousins and can lead to the disintegration of the fabric of the family and the business.

The Middle Eastern Cultural Context

  1. Most Middle Eastern family businesses were started by one or two founders who retain ownership of the equity. In the wings awaits a fresh generation of owners, and the number of heirs in the wings is often large, because the culture in the Gulf region favours large families. It is one thing to build a successful business, it is quite another task to imbue every stakeholder with a culture promoting the cohesion and continuity of the family in nurturing and growing successful business enterprises over generations.
  2. Regardless of whether or not a particular sibling understands the family business or embraces the culture, the Middle Eastern inheritance laws guarantee that this sibling will receive an inheritance share commensurate with each other sibling of the same gender, and the Middle Eastern companies laws in the Gulf region guarantee that any heir inheriting shares will have one vote for one share inherited. This combined force of inheritance laws and companies laws means that for most families in business there is absolutely no guarantee that equity and the voting power will be vested in those heirs with the knowledge, ability, character and commitment to lead the family enterprise. Those heirs who do have the training and experience are commonly outnumbered and outvoted by other heirs without these qualities.
  3. The control of family business assets is a key which may unlock a vast reservoir of financial power, social prestige and an enviable lifestyle, so it is natural that there should be rivalry amongst heirs to lead the business. Add the element of sibling rivalry as an overlay and it can be seen that there is real potential for family business disagreements to escalate, particularly at the time when the founder ceases to play an active role.
  4. For these reasons, the inevitable transition associated with generational change and the inheritance process carries with it the potential to develop into an existential threat to the continuity of many Middle Eastern business enterprises. Even where the family business does not break apart, the paralysis of decision-making and the need for complete unanimity in the post-founder era may cause a gradual erosion of the business and asset base.

What Can Middle Eastern Families in Business Do?

  1. The first and the most important thing is to realise that in many cases the past history of the family and its enterprises may not be a reliable guide to what will happen in the future, so something must be done to secure the future.
  2. A family which has a desire to sustain and grow a business together must:

(a) develop a vision;

(b) generate a consensus to embrace the vision;

(c) formulate a plan to take the practical steps to ensure the vision continues (including a succession or stewardship plan); and

(d) implement that plan in an effective way with the best advice.

What Can Families’ Legal Advisers Do?

  1. There are clearly limitations as to what legal advisers can achieve in managing close familial relationships. However, good legal advisers can help, particularly where the atmosphere in the family remains positive. For example they can:

(a) suggest that the family needs to work together to develop the right succession plan and framework of arrangements to promote stewardship, continuity and an orderly transition when generational change occurs;

(b) make sure the right questions are asked and addressed even though the questions may be tough (e.g. should present or future in-laws have a role in the business?);

(c) encourage the creation of safety valves, because if a minority of family members becomes locked into a structure which others control they may feel they have no choice but to fight to break up the business, unless the minority is provided with a fair exit option.

Conclusion

  1. Family businesses are vital to the lifeblood of Middle Eastern economies and societies but there is a great need to educate families on the need to put in place the structures and governance platforms necessary for future continuity, harmony and growth in the business enterprise. The hidden economic and social costs of families in business which are dysfunctional are very high, measured in lost business revenues and missed growth opportunities. The family must put in place a leader or a leadership group which can act decisively to move the business forward. Well structured arrangements are needed to head off the ultimately destructive process of open conflict and litigation within families.
  2. The challenge for families is to apply the right guiding principles for good corporate governance to build a cohesive family and business dynamic for the good of future generations. Otherwise, the bridge to the next generation will crack and fail, and the family legacy will be lost.

Note: An extended version of this article was first published in “The Oath”, the Middle East Law Journal for Corporates in May 2014.