Keeping it ‘in the family’ can result in commercial disputes

Divorce and Family Partner Matthew Humphries explores family business disputes and how to resolve them…

Whilst working with one’s siblings or spouse might seem like a cosy arrangement at the outset, as seen with recent disagreements arising within the family behind Russell & Bromley, that’s not always the case.

Keeping it ‘in the family’ can result in commercial disputes becoming much more complicated, emotional and difficult to resolve than might otherwise be the case.

That is particularly so in the case of a divorce, which gives rise to many questions for owners and owner-managers of family businesses: What will happen to the company? Will the legacy end? Will the company have to be liquidated to fund a financial settlement? What happens if both spouses work for the company?

The family courts regularly deal with these sorts of questions. When determining how to allocate wealth on divorce, a court must conduct a two-stage process:

1. Quantify what assets and incomes are available, and
2. Decide how those resources be fairly apportioned between the parties.

Many make the mistaken assumption that, on divorce, the family business will effectively be ‘ring-fenced’ from the other assets – but that is not necessarily the case.

On a divorce, the court will distinguish between ‘non-marital’ and ‘marital’ assets.

Marital assets are those acquired during the marriage other than by gift or inheritance. Non-marital assets are assets brought into the marriage or acquired after the parties separate. The starting point is that marital assets should be shared equally, and non-marital assets will remain with the owner unless it is necessary to use them (or part of them) to meet the other spouse’s needs.

Shares in a private limited company are notoriously difficult to value, and where the parties cannot agree such valuation, the court will appoint a forensic accountant to do so.

The court will then make a redistributive order, which is intended to achieve a fair outcome. That might result in shares in a

company being retained by one party and offset against other assets such as cash or property, or there may be liquidity in the company that can be realised to buy out the other spouse (especially if they are also a shareholder).

Alternatively, both spouses might retain a shareholding in the company. However, although we have seen solutions where ex-spouses continue to work together and co-own a business successfully following their divorce, that is not always a practicable or workable arrangement. Nor is it aligned with the court’s usual aim to achieve a “clean break” by dividing the assets available so that each party has no further financial ties to the other. It can also create other difficulties, such as issues with voting rights.

A divorce amongst shareholders is just one example of where things can go wrong in a family business. Disputes about succession planning is another.

‘How a family business is established cannot be underestimated’

Ultimately, the importance of how a family business is set up at the outset cannot be underestimated.

If disagreements, legal wrangles and succession planning disputes are to be avoided later down the track, families must ensure that appropriate checks and balances are put in place from the start, with a clear delineation as to each family member’s role, shared goals and objectives, and a roadmap for dispute resolution.

This applies to all types of family disputes, but as far as a divorce is concerned, the best way to futureproof a company from the fallout, particularly where a company is set up before a marriage (or before cohabitation that leads seamlessly into a marriage), is for the parties to enter into a pre-nuptial agreement that records how their assets, including company shares, are divided on divorce.

As an additional precaution, parties should seek corporate advice at inception to ensure appropriate shareholders agreements, articles and other corporate documents are all in place, including dealing with what happens in the event of a divorce. When disagreements do arise, it is important to separate emotion from objective business strategy.

Family members must prioritise the best interests of the business rather than personal objectives; gain for one is often gain for both, but a failing business harms everyone. The appointment of an objective third party in the decision-making, potentially a board member or director who has no familial ties, can often be a helpful neutralising force.

As with all family disputes, whether in the context of a breakdown of a marriage or of a business relationship, it is important that legal action is a last resort, with alternative methods of resolving the issues explored first.

Issuing court proceedings is often thought of as the ‘nuclear’ option, particularly when families are involved, and hastily filed applications can exacerbate disagreements that are more than capable of resolution outside of a court process. In the first instance, we would always recommend to our clients that all forms of alternative dispute resolution, such as mediation or arbitration, are explored fully.

This was originally published on Professional Adviser.