Legal risks of STARTING A FAMILY BUSINESS IN ALBERTA

Running a business with your family can have several advantages. For some people, opening a business with the family carries the benefits of trust, security, and reliability on business partners. In established family-run businesses, later generations can inherit and benefit from foundational strengths of the business built by the first generation without competing to climb the corporate ladder. However, there are certain inherent legal risks that can arise that are particularly common to a business run by family members. Anyone considering opening or joining a family business should be mindful of these factors and take necessary steps to mitigate these risks.

COMMON CONFLICTS ARISING IN A FAMILY BUSINESS CONTEXT

Human resource management – Much like any other business, there will be employees who will have unequal levels of commitment toward the success of the business. In a conventional business setting, employees can expect to be rewarded for superior performance at work. This can often lead to resentment between employees; but in a family business context, the resulting problems can be more acute when one family member is being rewarded more than another. Also, remuneration may also be based on seniority of the family member as opposed to expertise or qualification of another junior member. This can also lead to further resentment and hostility at the workplace.

Nepotism – As the business grows, it is often necessary to hire employees from outside the family. In a family business, the risks of nepotism are more acute and this can be a significant barrier to hiring external talent. Employees outside the family may apprehend that their career progress within the business organization is limited even if their expertise exceeds that of the other employees within the family. Also, senior family members may take responsibility of resolving internal disputes and conflicts; however, dispute resolution may not be (or perceived to be) fair, and the adjudicator can appear to be biased or unable to be objective.

Valuation of assets – Due to the informal setting of most family run businesses, members often do not properly value the assets of the business. This becomes particularly problematic where the shareholders are spouses/partners and are considering divorce/separation. Without a shareholders agreement stipulating terms and conditions, valuation of the shares of the business can be a matter of conflict and likely to result in litigation.

Succession – The informal setting of family businesses may also mean that the senior family members do not have any succession plan in place. Without a comprehensive plan for the business upon retirement of the founding members, conflict may arise within the second generation from struggles for power or mismanagement, and may result in litigation or dissolution of the business.

Problems at work can become problems at home and vice-versa – Disagreements at work can influence behaviour at home which may adversely affect relationships between family members. Where the members of the family live together, it may be particularly difficult to compartmentalize professional relationships at the workplace from the family relationship. Similarly, disagreements at home can interfere with an employee’s capacity to act professionally with the family member at work, particularly where such employees are spouses/partners. For such reasons, many companies require employees to disclose any relationships with other employees and limit interactions between such employees at the workplace. Courts have generally found such impositions to be valid and reasonable. The family business can benefit from a comprehensive code of conduct that considers such risks and appropriately allocates responsibilities to such members of the family.

HOW TO MITIGATE SUCH RISKS

The members should fully understand that the business is a separate entity (legally so, with corporations), and their overriding duty is to protect the interests and progress of the business over any other consideration. They should further understand that trust and relationship is not a substitute for concrete legal obligations. Despite strong ties between the members of the family, it is always advisable that formal rules, regulations, and contracts be put in place for every aspect of the family business.

Shareholders Agreement – Regardless of how much you trust and depend upon your spouse, partner, or sibling, it is essential to have a shareholders agreement in place that stipulates clear roles, responsibilities, interests, and rights of the shareholders of the business. A robust shareholders agreement will outline, at least, the agreement between the parties on the following issues:

• Nature, purpose, and objective of the business.
• Capital investment into the business.
• Management of the business i.e., procedures of meetings of the Directors or Shareholders, passing of written resolutions.
• Roles and responsibilities of each shareholder.
• Dividend policy.
• Transfer of shares in the event of exit by any member.
• Valuation of shares by way of pre-determination or appointment of a neutral valuer.
• Termination of the agreement and responsibilities after termination i.e., confidentiality, use of intellectual property, etc.

HR Policy – A strong, robust, and comprehensive HR manual will help avoid many of the pitfalls of human resource management in the family business context. All companies should have strict policies on working hours, leave, payment of salaries and other remuneration, hiring process, and disciplinary procedures. In the family business context, it would also be beneficial to have an anti-nepotism policy, at least for the benefit of any outsider who joins the business. Key performance indicators (KPIs), salary increments, and bonuses should be spelled out within the document to avoid any dissatisfaction or resentment amongst employees across the board. Each employee should also have employment contracts which specifies the roles, responsibilities, job description, and remuneration.

Register Intellectual Property – One of the consequences of an unresolved dispute in a family business is exit by one of the members from the business to restart business independently. This immediately raises concerns of breach of confidentiality, misuse of proprietary information, trademarks, and other intellectual properties. The member may wish to continue doing what they know and in the manner that they know. While their experience is their own, the business may suffer if the exiting member continues to use the trademark or patents of the business. An existing member should be informed of the registered intellectual property rights of the business in order to avoid being in a situation where liability for passing off or infringement may arise.

Independent legal and tax advice – Each member of the business should fully understand their legal duties, rights, and interests, particularly due to the family business context in which they operate. Depending on the nature of the business and the industry in which it operates, there could be many other legal issues than what has been discussed above. Seeking legal advice on these issues can help avoid much of these legal challenges prior to them occurring. Employees should also obtain independent tax advice to understand their liabilities in terms of payroll tax and other statutory deductions.

If you are considering OPENING A BUSINESS with your family, please contact OSUJI & SMITH CORPORATE AND BUSINESS LAWYERS for advice on legal issues that may impact you, your family, and your business.

Author: Imtiaz Hafiz