Corporate LawEnglishMergers and Acquisitions

Redistributing Share Capital

Considerations for family-owned enterprises

According to the World Bank, there are more than 160 million privately-owned small and medium-sized enterprises in the world employing more than 500 million people.

Many of these businesses are family-owned, with tightly held shareholdings. They are very often well-established companies where control has been maintained by a small of group of individuals since inception.

In an increasingly demanding economic environment there are a myriad of new challenges facing family-owned business models, ranging from the threat of advancing technology to succession planning for younger generations with different aspirations than their parents.

Opening up share capital to third parties is often a difficult, but necessary step to free up capital for investment, or to offer incentives to existing employees. It may also be done in order to attract talented individuals as part of a succession plan, or to lock in reliable suppliers or customers. Releasing value for owners, or generational estate and tax planning are other reasons.

According to a 2019 survey of US family businesses, conducted by an international consultancy firm; 47 per cent of firms surveyed are planning to bring in outside expertise to help them run their company, while 39 per cent expect to merge with another company within the next two years. More than a third of firm’s said they were open to bringing in private equity (PE) to help fund their business and the report noted that PE houses are renewing their focus on the family-business sector, carving out specialist teams to do this.

Whatever the reasons for restructuring the share capital, there are different challenges and dangers that need to be assessed thoroughly before any action is taken.

Chief among these is loss of control. Negotiating with a private equity funder is very different to dealing with another family member, and will require much more attention to detail in order to ensure that too much is not given away in exchange for an injection of cash.

On their part, potential investors will attempt to maximise control in exchange for their investment. A highly-negotiated transaction might include mandatory dividend distribution rights, or the essential veto rights on decision-making. It could also have clawbacks or provisions that would entitle them to increase their ownership in the event that certain performance criteria or thresholds are not satisfied.

Examples of ways to mitigate loss of control, include the use of a shareholders’ agreements, or the sale of different classes of shares without voting rights. Clauses that guard against some of the issues above would be recommended. With regard to restructuring for succession planning, vehicles such as trusts can be used to transfer value while mitigating tax.

While it is clear that many privately and family-held enterprises must open their share capital in order to achieve their goals, many owners don’t fully understand the risks inherent in doing this. Without proper advice and guidance, it could lead to major strategic decisions being vetoed by new shareholders, or worse, a total loss of control of the business.

The following feature draws upon the expertise of ten professionals with significant experience of helping privately-owned enterprises to restructure their share capital. These experts share the benefit of their wisdom around the reasons for restructuring, the risk involved and why using an advisor is crucial.

Read the rest of the document by downloading the PDF document: IR Global Virtual Series – Redistributing Share Capital.

Note also Aliant Finland contribution in the publication.