The Esufally Constitution

Sri Lankan family companies occupy commanding heights, whether they are public or private corporations. however, few have exhibited the zeal over three generations, as has the Hemas group

Modern capital market and financial theories have an obsessive focus on the public company. This is usually because a section of stakeholders, dominated by those managing large pools of capital, are hungry for insights into businesses they can invest in. However, emphasis on public corporations alone can clearly be misleading for all stakeholders. Outside of the Anglo-Saxon world, particularly in developing markets and in Asia, family- owned businesses control most commercial activity.

Family firms embody the best traits and face the most daunting challenges compared to other public companies. Because families are in it for perpetuity, they have the unique advantage of long-term thinking, and their concentrated ownership helps push through decisions that will make institutional share- holders in public companies squirm.

Their disadvantage, compared to widely held public companies, is the potential for succession challenges, family feuds and squabbles over inheritance, which could all impact business performance. These polar-opposite challenges, compared to public compa- nies, imbue family firms with a unique character.

Given the sheer number of family- controlled firms in any economy and their contribution to jobs, innovation and entrepreneurship, studying the most successful ones can provide important economic and market insights.

Like other emerging Asian economies, a large portion of Sri Lankan businesses are family controlled, even many public firms. They range from a small rural Sri Lankan farm now managed by the farmer’s children to a number of large listed and private firms controlled by a single entrepreneur through a hybrid of cross holdings and a control pyramid structure. In Sri Lanka, family-controlled businesses are everywhere.

Every firm, public or privately held by a family, aspires for sustainable growth and long-term value creation for shareholders. For their leadership, the unique challenges around family control are likely the preservation and transmission of wealth.

eHemas Holdings PLC, a firm listed on the Colombo Stock Exchange, is both majority family owned and a public company. Over the last one and a half decades, its third generation Esufally family shareholders have steered the firm through two transformations. The  first was appointing a single-family member to lead the group in 2001 for the first time since the firm’s ownership passed to the founder’s children. Under Hus- Wein Esufally, the grandson of the founder who took leadership, Hemas Holdings’ revenue grew by almost ten times from Rs3.8 billion in 2001 to Rs32 billion by 2015, and profits also jumped around ten fold from Rs208 million in 2001 to Rs1.9 billion in 2015. The group has businesses in consumer goods, hotels, pharmaceuticals, hospitals and transportation. It recently launched some of its consumer goods brands in Bangladesh. Its market capitalization is around Rs50 billion, which ranks it within the 15 largest listed com- panies in Sri Lanka.

Four of Sheikh Hassanally Esufally’s grandchildren – Abbas, Husein, Imtiaz and Murtaza – realized early the need for harmony and a shared vision to preserve family unity and grow the business. Abbas was the first third-generation Esufally to join the business in 1977. In 1981, his younger brother Husein joined Hemas. The family policy at the time was to train younger members ‘on the go’. In 1984, Imtiaz joined the business and Murtaza followed in 1992. The maxim that ‘family money does not pass to a third generation’ wasn’t something the four cousins needed to be told. Says Abbas, “We didn’t want that to happen, we wanted to be able to sustain the company; and we felt that, once it grows, it will benefit a far wider set of stakeholders than just the immediate family.”

The answer they realised was a family charter or constitution— establishing family protocol
– as far as the governance of the business was concerned.

Many business founders somehow don’t do as well in succession planning and maintaining family unity. “We had seen our parents not getting along and there was a real deep-seated view that we shouldn’t have that,” says Murtaza, the youngest of the four, who led the firm’s diversification into the hospitals sector. “They weren’t communicating, they were writing letters to each other and, in this generation, we felt we shouldn’t have that.”

Many firms lose a great deal of their value in the lead up to and following succession due to family feuds. A University of Hong Kong study of 250 Asian firms in Hong Kong, Taiwan and Singapore found that, on average, companies lost 60% of their value in the couple of years before and immediately after succession.

“When there are conflicts, to have a mecha- nism of resolving them is very important,” explains Husein about the family constitution adopted by the Esufally family in 2013.

When the third generation joined the business, there was no such mechanism available. However, Husein says that the four ‘shared a vision which they had conceptualized together’. Constant communication then helped establish their values. Early on, Sunday evening family meetings at Husein’s home provided an opportunity to discuss issues. They also used to have a trusted Borah priest mediate when issues got out of hand.

Hemas Holdings’ second transition was appointing a Chief Executive in 2014 who, for the first time, was not from the controlling Esufally family. When the leadership team is in place, convincing the patriarch to let go is the second challenge. Even when they have resolved to leave, founders often dawdle on the way out. They find that passing the burden of manage- ment was easier than completely fading away from a firm that they built.

e2All four Esufally family members, despite not having direct executive responsibility for the performance of group businesses, are involved in overlooking the group’s businesses. They are also non-executive members of Hemas Holdings’ board, while Husein was appointed non-executive Chairman of the board since retiring as Chief Executive.

There are a number of challenges to this generational transfer of leadership. Succession is the first. Families may not find a willing or ready family member to hand over the business naturally. Succession is also a process of identifying the key people to fill leadership positions – who may include family members
– and not an event at which the leader hands over the mantel.

Steven Enderby, who has long experience in mergers and acquisitions in the private equity industry in Sri Lanka and overseas, took over as Chief Executive in April 2014. Ahead of Enderby’s appointment, there was a period of introspection among the diversified group’s four controlling shareholders, who are all grandchildren of the founder. For the first time, they shared with Echelon the family’s approach to secession and conventions they have evolved to deal with how the family and the business interact.

Hemas, since its founding in 1948, was always led by Esufally family members. “The point was clearly made that the worst thing to do was to get a chief executive and then not give him the space to operate,” Husein recalls as the challenge around the transition.

Two years ago, the Esufally family introduced a family constitution that established what is now referred to as a ‘Family Council’. It includes the four Esufally family members on Hemas’ board, their spouses and children over 18 years. On their 16th birthday, fourth generation Esufally family members gain observer status. “The key objective of the family council is to ensure that we look after the interests of the family, irrespective of the business,” explains Abbas. Family council members don’t necessarily automatically gain an official role in the business. Fourth generation members’ spouses will also become family council members.

Family interests include education, health and engaging family members to better understand, appreciate and adhere to family values. The constitution, of which the ‘family council’ is a key component, addresses three broad areas—the importance of family, the company (Hemas) and their values.

Values the constitution promotes are integrity and trust, progressiveness, commitment to excellence, humility and compassion, entrepreneurship, and professionalism. At an annual summer retreat where every member of the Es- ufally third and fourth generations and spouses participate, values and camaraderie tend to be the focus. Inspiring and accomplished guest speakers are also included in the agenda.

“Values define the way we engage with our key people, our own family and the outside world,” explains Imtiaz, who points out that every family business doesn’t need a constitution at first; “You need it at a particular point in time.” Imtiaz managed the group’s transport and logistics ventures, and now serves as Chair- man of the group’s Transportation Sector. “It (the constitution) also gives the next generation, who may not fully appreciate the evolution process, a perspective of how things need to be done.”

e3“When we joined the business, compromising on values was not allowed. It was made clear that there were certain things we did and didn’t do, and some we don’t do; and there were certain ways of doing things. We realized that when we lived those values, the team who worked with us also got a sense of those values.”

Not all values survived to apply to the fourth generation. Inheritance only passed to the male offspring in the past. It was the belief that female offspring, once married, adopted the values of their spouse’s family, and they were usually gifted assets at marriage and not a share in the business. However, the nine fourth-generation members of the Esufally family, which includes four girls, won’t be treated differently.

Prof. Kavil Ramachandran, a family enterprise specialist from the Indian School of Business, assisted the Esufallys to craft their family constitution over a three-day long retreat at which they thrashed out its skeletal structure. Over the ensuing years – with the involvement of their spouses and families – the constitution  was fleshed out. The Family Council is also the center of philanthropic efforts; the family runs an education trust and has initiated a history project to document the family’s history. The projects are designed to keep the family engaged around activities that build understanding and harmony.

The Hemas family constitution is a document with a little over a dozen pages and is signed by each family member. Echelon has seen parts of the document on addressing family values. All Esufally family members involved in the Hemas business granted candid interviews to Echelon, discussing the motivations and challenges around introducing a family constitution.

Hemas’ third generation leadership say the constitution addresses family policy towards somewhat predictable and also farfetched chal- lenges, and addresses the issue of inheritance in such circumstances.

It also dedicates an entire chapter to conflict resolution. “Before any of this even surfaced, we discussed potential conflicts and how we would resolve those,” says Abbas. Three years after its introduction, the constitution is due to be reviewed and modified if necessary in 2016.

During the past two decades, when Abbas, Imtiaz, Husein and Murtaza took leader-
ship, the culture of open communication they fostered far before the emergence of a family constitution helped the business through its transformation. “There will always be conflicts between siblings and the generations,” Husein says.

Husein says that, when conflicts arise at Hemas, they either have a facilitator, perhaps an outsider who is a trusted confidant of the family to mediate and help unify, or they use a formal dispute resolution mechanism that the family had agreed to. The family constitution now has formal conflict resolution mechanisms for the family. “Sometimes you can’t tell your brother openly what is in your heart. But if that doesn’t get talked about and resolved, there will be a drift and misunderstandings. From time
to time, melting the ice and getting together is very important,” Husein explains.

“The fear we all have is that our kids would be spoiled brats and that they would feel a sense of entitlement,” confides Murtaza. “The family constitution moderates that sense of entitlement, in that you have to earn your way into privileges.” Hussein adds, “We’re quite clear that they should only join the company if two things are satisfied: one is if they are passionate and committed to the particular role and function, and secondly, and more importantly, whether their competency and skills fit the role that is available in the company”.

The family constitution also estab- lishes what is referred to as a ‘Family Business Board’. The business board has fewer participants than does the family council, but requires of it complex outcomes. Currently, the business board comprises five members: the third generation Esufallys and an indepen- dent member, Chandima Gunawardena.

The family business board has two main objectives. One is governance – how the family deals with Hemas as a company. Of Hemas’ 11-member board, four are third generation Esufally family members who control 64% of the firm’s voting stock, split almost equally between them. When the firm re- cently raised Rs4.1 billion in new equity from existing shareholders, the Esufally family didn’t subscribe to those new shares, allowing other institutional investors to increase the non-family portion of the businesses shares instead. Before the rights issue, the Esufally family controlled 71% of the firm’s voting shares.

e4In the future, family representation at the board may decline, and the role of the business board will be to recommend to the chief executive and the chairman who the family would like to have represent their interest at the main board.

The business board’s leadership realizes their ability to interest the fourth generation—many of whom are still in school or college and none of whom work full time for the group, in finance and board stewardship— will be crucial to ensure that the family can continue to weigh in at board-level discussions on strategy. This is the second major objective of the Family Business Board. Its ultimate objective is to look after the family’s wealth.

Equality is also an important family principle. The four Esufally members at Hemas initially all earned the same salary and received the same benefits, irrespective of how successful their individual business units were or how long they had worked for the company. They drove the same type of company-provided vehicle too. Husein says, “I resisted any attempt to change that equation, because it’s little things like the car one drives and the pay that cause family disunity. Only if the family was united could we traverse this path.”

Equality served the firm by maintaining family trust and making communication easier. Equality was the norm for an extended period of time. The four still use the same type of ve- hicle, but rewards are now performance-based.

Ideas and inspiration for initiatives and processes to keep the family together came from attending conferences and thoughtful discussions with those who had experience. The Family Business Network is a major resource for family firms. The Family Business Network’s ‘80 questions for all family businesses’, Abbas says, covers the entirety of challenges that family-controlled companies keen to preserve and pass down wealth should peruse.

Chief Executive Steven Enderby has ar- ticulated a vision 2020. They plan to more than double the firm’s market cap of a billion dollars by then. “The first key thing is to grow at a faster pace and to lead in certain categories,” Enderby says. Hemas is also eyeing new markets and acquisitions to lead future growth. “So you’ve got a combination. Organic growth and expansion of the existing businesses, and alongside that there’s work on M&A. What has encouraged me over the last year is Bangladesh business growth coming through and what that can potentially represent to us,” Enderby says.

Hemas’ market cap doubled after it dispensed with its power business when an agree- ment to supply electricity to the state power monopoly ran out.

The four third generation family members each have an individual shareholding, so there is no compulsion for them to work together. However, they recognise that family unity and meritocracy have contributed to the firm’s two successful transformations; first, in setting up a leadership to take the firm public and then separating its ownership from management by appointing a non-family member as chief executive.

dffHusein says, “There was a worry about loss of control by not being executives of the company, but that worry has diminished over the past few years. We have matured to understand that you can direct a company without working in the company.”

Had the family not been able to achieve these transformation, Hemas may have relatively languished as a much smaller privately-held firm.

Family wealth usually dissolves over time, as families will lose their money because they are incompetent or use it for philanthropy. The maxim that wealth doesn’t pass to a third generation is grounded in this. However, many family-controlled firms now know that there is a formula around communication, open relationship and a family charter that can break the cycle.

Since a structure for family involvement has been established, the Esufally family can continue to contribute their entrepreneurial zeal, make big bets and mobilize greater resources better than a closely held private company would be able to.

 

Yahila Kumarasinghe contributed to this story with research and reporting