Early Intervention in Preventing Family and Closely Held Business Litigation

The old adage "from short sleeves to short sleeves in three generations” is commonly used to describe situations where family wealth, which is typically created by a family business, is completely dissipated by the third generation.

This is commonly true among many of Hawaii’s even most successful family owned companies.

There are a variety of reasons why family businesses implode by the third generation. There are both external and internal factors that create this phenomenon.

Many of these external reasons are due to ever changing market conditions for a company’s goods and services. Local family businesses face stiff competition from suppliers with cheaper products. In addition, technology from outside companies continue to provide more efficient, less expensive, and improved services to the public. The Company may become the victim of ever increasing labor and real estate costs which makes competition against out-of-state suppliers of goods and services difficult, if not impossible.

There are, however, many internal factors that may spread and damage an otherwise successful family business. These internal factors center around disputes between various family members over the future control, management, and goals of the business. In Hawaii, formal business succession planning can be sorely lacking, particularly among smaller companies with informal governance structures. In fact, even with competent estate planning attorneys and business advisors assisting the family business, business succession planning is often either completely ignored or poorly addressed.

Often, after the founding member or members have retired or passed away, a power vacuum develops. Growing numbers of family members in the second or third generation can dilute control and impede a positive and unified direction of the family business. This fractionalization often leads to lack of centralized management or diffusion of responsibility.

When an attorney or other advisor deals with family business disputes, they are often presented with particularly unique challenges and issues that are not usually present in larger privately owned or even publicly owned companies. In family businesses, many family members have different goals, desires, and abilities in managing the Company. Often, a family business by the second or third generation of ownership supports an ever increasing number of family owners, many of them, having different interests and responsibilities in the Company. Some family members wish to be highly active, while others may desire to receive passive income. Some members may want to liquidate or sell the Company as a going concern, while others may want to continue on and provide themselves a salary. Because of this, various owners, such as spouses or children from a prior marriage can have vastly different and conflicting needs, goals and desires.

These internal factors coupled with increasing outside external pressures, can inevitably crush a company by the third generation of ownership.

It is extremely important for individuals in a family business to identify disputes that may quickly develop after the death or retirement of a founding member or other key family member. 

Once issues of management and control or other areas of tension and disagreement are identified, it is important to obtain competent legal advice before disputes reach the level of full blown litigation. 

There are several common areas of family disputes. They include:

• Multiple family members who are not involved in operating the business but desire equal profit participation with the other employee-owners.
• Disputes as to a present or future opportunity to sell some or substantially all of the assets of the Company.
• Valuation disputes contained in existing shareholder agreements or buy-out agreements among family members.
• Disputes as to future control and management of the Company.
• Disputes between a Founder’s spouse and adult children from a previous marriage over corporate operations.
• Failure to provide corporate records or information in order to keep shareholders or members fully informed.

Litigation is an expensive, inefficient and time consuming forum in which to resolve family member disputes regarding a family business. It puts the business at risk and may subject the Company to irreparable harm since it is essentially airing, in public, the Company’s private negative history.

Litigation can also lead to the disorderly and unorganized liquidation of a company resulting in a tremendous loss of value in the Company’s going concern value.

If an individual family member or members find themselves embroiled in company litigation, it is even more important to retain competent counsel to preserve, to the greatest extent possible, the maximum value of a company's tangible and intangible assets that exist as a result of the efforts of many family members over the course of several generations.

For more information, please contact:

MacDonald Rudy

1001 Bishop Street, Suite 2800

Honolulu, Hawaii 96813

Telephone: (808) 523-3080

Website: www.macdonaldrudy.com

The old adage "from short sleeves to short sleeves in three generations” is commonly used to describe situations where family wealth, which is typically created by a family business, is completely dissipated by the third generation.

This is commonly true among many of Hawaii’s even most successful family owned companies.

There are a variety of reasons why family businesses implode by the third generation. There are both external and internal factors that create this phenomenon.

Many of these external reasons are due to ever changing market conditions for a company’s goods and services. Local family businesses face stiff competition from suppliers with cheaper products. In addition, technology from outside companies continue to provide more efficient, less expensive, and improved services to the public. The Company may become the victim of ever increasing labor and real estate costs which makes competition against out-of-state suppliers of goods and services difficult, if not impossible.

There are, however, many internal factors that may spread and damage an otherwise successful family business. These internal factors center around disputes between various family members over the future control, management, and goals of the business. In Hawaii, formal business succession planning can be sorely lacking, particularly among smaller companies with informal governance structures. In fact, even with competent estate planning attorneys and business advisors assisting the family business, business succession planning is often either completely ignored or poorly addressed.

Often, after the founding member or members have retired or passed away, a power vacuum develops. Growing numbers of family members in the second or third generation can dilute control and impede a positive and unified direction of the family business. This fractionalization often leads to lack of centralized management or diffusion of responsibility.

When an attorney or other advisor deals with family business disputes, they are often presented with particularly unique challenges and issues that are not usually present in larger privately owned or even publicly owned companies. In family businesses, many family members have different goals, desires, and abilities in managing the Company. Often, a family business by the second or third generation of ownership supports an ever increasing number of family owners, many of them, having different interests and responsibilities in the Company. Some family members wish to be highly active, while others may desire to receive passive income. Some members may want to liquidate or sell the Company as a going concern, while others may want to continue on and provide themselves a salary. Because of this, various owners, such as spouses or children from a prior marriage can have vastly different and conflicting needs, goals and desires.

These internal factors coupled with increasing outside external pressures, can inevitably crush a company by the third generation of ownership.

It is extremely important for individuals in a family business to identify disputes that may quickly develop after the death or retirement of a founding member or other key family member. 

Once issues of management and control or other areas of tension and disagreement are identified, it is important to obtain competent legal advice before disputes reach the level of full blown litigation. 

There are several common areas of family disputes. They include:

• Multiple family members who are not involved in operating the business but desire equal profit participation with the other employee-owners.
• Disputes as to a present or future opportunity to sell some or substantially all of the assets of the Company.
• Valuation disputes contained in existing shareholder agreements or buy-out agreements among family members.
• Disputes as to future control and management of the Company.
• Disputes between a Founder’s spouse and adult children from a previous marriage over corporate operations.
• Failure to provide corporate records or information in order to keep shareholders or members fully informed.

Litigation is an expensive, inefficient and time consuming forum in which to resolve family member disputes regarding a family business. It puts the business at risk and may subject the Company to irreparable harm since it is essentially airing, in public, the Company’s private negative history.

Litigation can also lead to the disorderly and unorganized liquidation of a company resulting in a tremendous loss of value in the Company’s going concern value.

If an individual family member or members find themselves embroiled in company litigation, it is even more important to retain competent counsel to preserve, to the greatest extent possible, the maximum value of a company's tangible and intangible assets that exist as a result of the efforts of many family members over the course of several generations.

For more information, please contact:

MacDonald Rudy

1001 Bishop Street, Suite 2800

Honolulu, Hawaii 96813

Telephone: (808) 523-3080

Website: www.macdonaldrudy.com