Law No. (9) of 2020 Regulating Family Business Ownership in the Emirate of Dubai was enacted on 13 August 2020 (the Family Business Law).
In this article we look at the background and purpose of the Family Business Law, the key provisions of the law and how the law might interact with alternative structures for regulating family business ownership such as DIFC trusts and foundations.
Why is the Family Business Law needed?
It is well known that many of the major businesses in the GCC are family-owned. Such companies are huge regional employers and play a central role in the economic success or failure of the countries in which they operate.
Family businesses will normally have a large number of family shareholders often with competing interests and objectives. This presents the obvious risk of a family dispute spilling over into the business. Family businesses often try to fix problems at the wrong time, when their priorities are elsewhere, including trying to raise equity or debt finance or facing an internal or external dispute.
Previously, the law did not allow for robust mechanisms to address such issues. Some families have attempted to manage risk through family constitutions and/or shareholders agreements. Whilst such documents will almost certainly assist in managing expectations, they lack the legal enforceability to appropriately address family business risk. Other families rely on the family tradition for running their business and whilst this might work across one or two generations, such businesses are more likely to see disputes arise in future as assets transition across generations.
In introducing the Family Business Law, Dubai seeks to provide a legal framework for family businesses to tackle the unique issues they face head on. The stated objectives of the Family Business Law are:
1. Developing a comprehensive and clear legal framework to regulate family ownership in the Emirate, and facilitate its smooth and easy transmission among successive generations.
2. Maintaining the continuity of family ownership and enhancing the role it plays in achieving economic and social growth in the Emirate.
3. Maintaining social cohesion and avoiding anything that might provoke disputes among members of the same family.
4. Reuniting family members in strong and solid partnerships that can compete in all economic activities and motivating them to serve society, particularly in the fields of education, health and culture.
5. Fulfilling the needs of development and growth, by developing the capacity of young leaders from succeeding generations to administer family property, and enabling them to benefit from the experience of parents and grandparents.
Although it remains to be seen how successful the Family Business Law will be, the fact that it puts family governance in the spotlight is welcomed. We are already analysing the potential use of the Family Business Law with a number of clients and it comes at a time when many families are embracing other local structuring options including DIFC trusts and foundations to complement their international wealth holding structures.
What are the key provisions of the Family Business Law?
• The Family Business Law allows families to enter a Family Ownership Contract (the contract must be ratified by the notary public).
• The contract is enforceable by a special judicial committee established by the ruler of Dubai.
• Such contract can cover immoveable or moveable property including stocks, shares (except those in public joint stock companies) and assets of a sole proprietorship.
• The parties to the contract must be members of the family (related by blood or marriage up to the fourth degree).
• The share of each partner is determined by the contract.
• The contract may last for a maximum of 15 years but can be renewed on a rolling basis subject to the agreement of the family members.
• The family (by two thirds majority) must appoint (and can remove) a manager to administer the property subject to the contract. The manager may be a group of individuals or another legal person. If additional governance is desired, the family may specify additional rules on how the family property is to be managed.
• The manager must adhere to certain obligations (not dissimilar to some of the fiduciary obligations seen in trust law). These include that the manager must exercise due diligence, not compete with the business subject to the contract without consent, report to the other family members on the financial performance of the family property, not borrow for himself against family assets and satisfy any other obligations stipulated in the contract. Inserting balanced mechanisms to hold the manager to account will therefore be a key element in the drafting of the contract.
• The family may also appoint a supervisory board to ensure the family property is managed in accordance with the contract. In this area, the Family Business Law appears to allow for flexibility in tailoring the provisions to the needs and wishes of each family. This is a very important provision as it provides scope for checks and balances to be included in the contract enshrining principles of good governance. We anticipate that this is where much of the time and skill in drafting the contract will be focused and expect that elements of existing foundation, trust and corporate governance can be utilised in the contract.
• The family may specify a date on which the contract becomes valid and may agree that it only becomes valid on the death of a particular family member. This is an interesting provision as it provides for a default mechanism that may facilitate smooth succession or agreed exit. The relevant heir may choose to remain in the contract or to sell his share. In the case of a sale, there are rights of pre-emption in favour of the other parties to the contract (see below). If an heir receives and accepts a share subject to the contract then he will be deemed to accept the contract.
• Exit is permitted but is limited to assignments to spouses or relatives of the first degree. Sales/transfers to third parties are not permitted unless the share is first offered to the other parties to the contract and there is at least a 51% majority consent to the proposed transfer. If there is no agreement, the judicial committee may exceptionally sanction the sale if it finds a "strong justification" for such action. One would expect this to be used sparingly in practice.
• The contract may only be amended if there is at least a 75% majority (by share) voting to do so. The contract may stipulate a higher threshold.
• The contract can only be terminated if its stated term expires (and is not renewed), a termination event stipulated in the contract occurs, it is terminated by those with at least 51% (or such higher threshold as stated in the contract) ownership of the family property or by court order. We would expect a higher threshold for termination to be included in most contracts to reduce the risk of a slim majority utilising this provision to their advantage.
Is the Family Business Law the missing piece in the jigsaw?
Although it is too early to say if the Family Business Law will be successful, it is clearly a step in the right direction. Family businesses which hope to thrive in future need to address the issues of governance and succession. The very existence of this law is recognition of the importance these issues play in the future success of family businesses and of Dubai.
In our view much will depend on the implementation of the new law including the confidence or otherwise that families place in the judicial committee as well as the recognition of the manager's position and their authority to effectively deal with assets subject to the family contract at the various authorities in the Emirate (whether it is the land department or economic department).
At the very least, we see this as a way to initiate family dialogue or formalising an existing family constitution. For some family members it can be hard to openly question the status quo in their family business and the new law may give families an opportunity to put succession and governance issues on the agenda. Any families entering such discussions should be advised to consider all of their options and these should extend beyond the Family Business Law to the possible adoption of a family constitution as well as DIFC trusts and foundations which might be used in conjunction with or as an alternative to the Family Business Law.