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From start-ups to publicly traded corporations, Sarah Hannah provides a full range of transactional and strategic support to clients with matters involving mergers and acquisitions, joint ventures, private securities, venture capital, recapitalizations, and other corporate matters. In addition to Sarah’s corporate practice, she supports clients with their supply chain needs, including franchise and distribution matters. View articles by Sarah

Laying the Foundation for Success: Structuring the Board of Directors in a Family-Owned BusinessMy husband and I are about two weeks shy of completing construction on our new home, so outside of work, construction is our life. In construction, the concept of compounding defects means a defect in the foundation compounds as you build up, impacting everything from the framing to the drywall. This concept applies to family-owned businesses as well. Failure to build a corporate governance structure makes a family-owned business susceptible to conflicts of interest, family infighting, and other inefficiencies, impacting everything from the CEO to the future growth of the company.

The board sets the overall strategy and policies of the company, so your corporate governance foundation starts with structuring the board of directors.  As the overall governing body, the board elects the officers of the company and provides oversight of management without getting into the day-to-day management of the business. In a family-owned business, the board may take family politics into consideration, but fiduciary duties dictate that the board must act in the best interest of the company, not any individual shareholder. These concepts give the family the ability to rely on the board to challenge management, set long-term goals, and engage in conflict management when necessary.

Given the role of the board, the family-owned business must determine the best structure for its board.  Requirements for the board are typically set forth in the company’s governing documents (e.g., bylaws or operating agreement). Here are a few questions to consider when structuring your board:

  1. How are directors elected to the board?
    Shareholders or members elect the directors to the board. The company’s governing documents may require that a nominating committee nominate qualified individuals before they may be voted on by shareholders. The governing documents may also set forth certain qualifications for directors.
  2. How many directors should be on the board?
    Applicable law may require a minimum number of directors, but otherwise, the company has the ability to set a range for the required number of directors. Typically, an odd number of directors is preferred to prevent a deadlock.
  3. Should the directors have staggered terms?
    The board may be divided into different classes of directors with staggered terms. Utilizing staggered terms promotes continuity on the board, but makes it more difficult to replace an entire board if the shareholders are dissatisfied with the current corporate strategy.
  4. Should the board include non-family members?
    This can be a difficult decision for family-owned businesses, and the answer may depend on the current stage of the business. For example, a family-owned business in the first generation may prefer a closely held structure of a limited number of family member directors. On the other hand, a family business on the third or fourth generation may be better served by including non-family members who can bring a fresh strategic perspective or a new experience base to the board.

Just like a strong foundation ensures that a building will weather the test of time, putting a strong corporate governance structure in place sets the family-owned business up for success as it grows and experiences generational shifts.

Business MeetingThe prior Family Business Advocates blog post provided an overview of the different legal roles that shareholders, directors, and officers play in the intersection of ownership and management of a company, but how does a family-owned business manage the intersection of all three of those legal roles? Answer: The Board Chair (a/k/a Chairman, Chairwoman, Chairperson).

  1. What is a Board Chair?

Simply put, it’s the leader of the Board of Directors. The Board Chair sets the agenda for, and presides over, meetings of the Board. The Board Chair also acts as a link between the Board and the executive officers of the company. The bylaws of the company often determine the scope of the Board Chair’s duties and obligations.

  1. Is the Board Chair an officer, director, or shareholder?

A director, but maybe all three. As a director, the Board Chair has fiduciary duties to the shareholders of the company, but that does not mean the Board Chair cannot also be a shareholder (and often times in a family-owned business the Board Chair is a shareholder).  The bylaws may provide that the Board Chair is also an executive officer of the company; however, many argue that best corporate governance practices favor appointing a non-executive officer Board Chair in order to reduce potential conflicts of interest (among other reasons). It is also important to note that the role of the Board Chair may change over time. A company may start out with a dual CEO/Board Chair role but later bifurcate the role as the family business matures or for succession planning purposes.

  1. Who appoints the Board Chair?

The company’s bylaws govern the appointment or election of a Board Chair. Typically, the Board Chair is elected by the other directors, but a family-owned business may develop its own unique process for selecting the Board Chair. For example, the position may rotate among different branches of the family tree, allowing a subset of the directors to select the Board Chair for a specified period of time.

  1. Why does a family-owned business need a Board Chair?

Every business with a Board of Directors needs a leader of the Board, but the role of the Board Chair is particularly important in a family-owned business. In a family-owned business, the Board Chair often acts as the voice of the family in interactions with the CEO.

  1. What qualities should a family-owned business look for in a Board Chair?

In addition to knowing the company’s business objectives, the Board Chair for a family-owned business needs to understand the family and its goals, challenges, and maybe most importantly, politics. There is no one-size-fits-all approach to selecting an appropriate Board Chair, but here are a few qualities to consider:

  • Familiarity with the company’s goals and strategies
  • Sound judgement
  • Experience and leadership maturity
  • Interpersonal skills
  • Organizational skills
  • Accountability
  • Reputation in the community
  • Relationships with others
  • Forward-looking vision
  • Time and desire to take on the role

We want to hear what you think. What additional qualities would you add to this list?