How large Indian businesses are trying to fortify themselves

Preemptive measures are crucial to avoid long-winded wrangles where large asset piles are involved. ET explores the challenges inside large business houses.

Wed, 17 Jan 2018 22:15:00 GMT
Lijee Philip

Hollywood lent a whole load of glamour to the ‘prenup’ in 2003 with Intolerable Cruelty. But comic moments aside, ring-fencing business families’ assets is big business in itself today. Pre-nuptial agreements aside, much more needs to be governed by family constitutions and trusts.

As business families’ wealth has grown exponentially with the Indian economy, external and internal risks have multiplied and magnified. Preemptive measures are crucial to avoid long-winded wrangles where large asset piles are involved. ET explores the challenges inside large business houses.

As business families’ wealth has grown exponentially with the Indian economy, external and internal risks have multiplied and magnified.

A fine line differentiates personal assets from business though the latter is the domain of the entire family. “When management and income distribution equilibrium get disturbed, families face the heat,” says Sandeep Nerlekar, chief executive, Terentia, a firm that specialises in family business advisory and estate planning.

“Personal differences, egos and aspirations take lead over the continuity of the business and that leads to disintegration.

In most cases, it has been observed that lack of clarity in terms of devolution could lead to insecurity and, eventually, breakup of the family business. We advise families to create trusts or constitutions to overcome this challenge,” Nerlekar adds.

Recently, the patriarch of a business family decided upon a structure to help build a multi-generational business model, as he wanted to avoid infighting. A survey taken at their family gathering in Jaipur — comprising 22 adults across three generations — showed the trust factor scoring a mere 2 on a scale of 1-10.

This is where the consultant comes in. Nerlekar says, “The brothers (second generation) ill-trusted each other and didn’t have confidence in each other’s abilities. We clearly saw an undercurrent. The patriarch was not surprised; he told us he just wanted to reconfirm the fact from a family business expert.”

“Other than the old couple, no one trusted anyone. We then created a family trust to ring-fence the assets from future feuds and helped build policies that would help preserve the business and wealth in a structured manner,” he adds.

Another instance saw a large Mumbai-based business house inherited by three brothers and a sister (based out of the US), with 25% share each. With the next generation, the sons entered the business while daughters and their husbands had trusts

in their name and no business share. However, the sons were concerned about the quarter share held by their aunt, who had been reaping the benefits for two decades without any contribution to work.

Predictably, this led to litigation within the family. “The absence of any governing family constitution has worsened the situation,” says Rajesh Narain Gupta, managing partner, SNG & Partners.

Multiple trusts can be created to ensure individual security without a share of the business, depending on the family requirements. Once assets are parked in trusts, chances of litigation are reduced significantly, added Gupta.

Timing is also of the essence as it’s not just about doing it, but also about doing it right. A research report by the US-based Family Firm Institute on Asian family businesses concluded that a majority fail due to internal factors such as failure to plan for succession and preempt some fairly predictable family conflicts.

Schisms within relationships lead to discontent and suspicion more often than not. In large business families, the entire structure and all members are dragged in.

The internationally common prenuptial agreement distributes assets, custody and living rights et al. This eliminates litigation between couples and reduces the impact of losing wealth, according to a Terentia report. However, “since prenuptial agreements are not valid in India, high net worth (HNI) families are opting for the private trust route. The outgoing spouse can claim 50% of the other half ’s wealth,” says Nerlekar.

Trusts can serve a whole gamut of purposes. In Mumbai, an HNI couple undergoing separation is creating a trust for their daughter’s education and future needs. Veteran divorce lawyer Mridula Kadamexplains how, in the marriage of two financially unmatched families, the more wealthy side often takes the legal route to creating a trust. This ring-fences their assets against any purported ‘gold-digging.’

Alternatively, as a recent case panned out, a husband can secure a lump sum separation settlement for his wife by putting it into a trust, thus ring-fencing crores being inveigled away from her or spent needlessly.

Kadam says families earlier approached lawyers only at the time of separation or divorce, but are now increasingly seeking legal help when children get married. Assets are protected and don’t fall into the wrong hands, she adds.

Probably the single most infamous collateral damage among family businesses is a split in the family. Differences can arise from need for business control, lack of freedom or clarity in roles, personal aspirations or simply a generational parting of ways. The Dalmias, Singhanias, Modis and many other Indian corporate houses have faced such situations.

“A family needs to have a combination of structures (private family trusts), processes and policies (family arrangements) in place that can help coexist in harmony. This does not mean they need to live in the same house. They can live apart but still coexist in the business,” says Nerlekar.

Burgeoning businesses face larger and larger risks, as with addition of generations. During a downturn in the economy of sector, business risks osmose to personal assets and wealth. Since many business families in India mix their personal and business assets, risks are multiplied.

A wrong business decision by an entrepreneur could lead to financial damage or litigation. Threats such as hostile takeovers, liquidations, pledging of shares and debt can also catapult into an unmanageable situation. “It is difficult to cure at the last stage, but one can take adequate measures before it happens, at least to protect yourself financially,” says Nerlekar.

And what better example, in this era of bankruptcy and stringent RERA provisions, than the many infrastructure and real estate companies for which trusts have been the saving grace, quite literally.