1. Background

1.1 In 1958 Roger and Gwen Davies established a small retail outlet in Swansea, South Wales specialising in plants and ornaments for small gardens. A year later they incorporated as Garden Gnomes Limited (GGL). GGL traded from leased premises, and after a couple of tight years began to provide a modest, yet adequate living for the Davies family. At the beginning, Roger worked full time in the business and Gwen part time (doing the books and helping out in the shop). Gwen also worked as a part time bookkeeper in a Swansea motor dealership. The Davies had three children, Lynn (born in 1960), Philip (born in 1962) and Sian (born in 1966).

1.2 Roger had a way with people and built up a loyal clientele. He also had a knack of knowing what people wanted and was a shrewd buyer. Consequently, the turnover grew steadily and gross margins were always good. By 1964 the business had moved into bigger premises and employed six staff. It now concentrated more on plants and garden materials and less on the garden gnomes!

1.3 In 1970 the business opened a fully-fledged garden centre on the outskirts of Swansea. It was Roger's pride and joy. He continued to serve customers in the centre but, more and more, he concentrated on purchasing, staff management and planning the opening of new outlets. Gwen had long since given up work and was mainly engaged in bringing up her family. Roger was now 40 and he began to feel that, for a miner's son, he had done pretty well for himself.

1.4 By 1985, the business had three garden centres in South Wales and the Davies family were relatively wealthy people. Lynn, who was 25, had graduated from Nottingham University and was working in advertising in London. Philip, who was 23, had left school after his A-levels and was working in the family business. Sian, who was 19, was in her first year at Swansea University reading Economics.

1.5 All the children had worked in the family business in various fairly mundane roles whilst at school to earn their pocket money (and from Roger's perspective to learn about the business so that one day one or more of them would take over). Roger was of the old school and insisted that young people made their own way and worked for what they wanted. Lynn had never shown much interest in the business of selling plants, but had shown an early interest in marketing. He was much more concerned in having a good time. His father hoped that he would change his mind and play a large role in the business "When he grows up." Philip was different, he loved the outdoors generally and gardens in particular and was at his happiest advising customers about what to put in their gardens. He was, unfortunately, not very interested in the moneymaking side of the business. Sian was academically the cleverest of the children. She was also the canniest when it came to money.

1.6 In 1992, at the age of 62, Roger died unexpectedly of a heart attack. Lynn (now 32), now married, was still in London in advertising; Philip (now 30), still single, was the manager of one of the garden centres, whilst Sian (now 26) had been working for two years with an investment bank in the City of London. Gwen had not worked since 1960.

2. Immediately after Roger's death

2.1 In his will Roger had left the bulk of his assets, including all the shares in GGL to Gwen. Gwen now had to decide what to do next. Her options appeared to be to sell the business, or to continue with it in the family. She knew it had been Roger's wish that Lynn would one day return to Swansea and run the business. For all his lack of interest in the business, Lynn was Roger's favourite child. Although he had seen much more of Philip over the years, and, indeed Philip had worked diligently in the business, Roger never thought that Philip was up to managing the family firm. Roger admitted that Sian was the one with the brains in the family, but he did not believe a woman could be as successful as a man in running a SME.

2.2 Lynn had spent no time in the family business other than as a student and was, therefore, not groomed for succession. Philip had been in the business for 13 years, but Roger had not consciously groomed him for succession either (because he never thought he would be running the business). Sian had only spent time in the business as a schoolgirl.

2.3 Once Roger's funeral was over, the family held a meeting. They had never held formal business meetings before and the proceedings were somewhat disjoined and chaotic. Gwen advised them of their father's desire that the business should continue in the family, but did not mention that Roger had favoured Lynn to run it, nor his reservations about women in family businesses. Sian wished to know details of the business including how much profit it was making. Gwen was shaky on the facts and they agreed to hold a further meeting with the company's accountant present.

2.4 GGL's accountant had been with the business from the days that Gwen did the books. He had become more or less a family friend, whose business had grown with GGL. Indeed, GGL was now by far his biggest client. His input into the business had been limited to preparing the statutory accounts and providing basic taxation advice. He had not been involved much with business strategy and growth, as this was perceived to be Roger's strength. At the subsequent meeting the accountant produced the company's last accounts, which showed the following:

1. The businesses were owned by GGL and prior to his death Roger owned 99 of the 100 GGL shares on issue. Gwen owned the remaining one share.
2. Roger and Gwen were the company's directors and the accountant was company secretary.
3. GGL had sales of £2.6 million in 1992. Gross margins were 42% and published profit before taxation was £172 000; after overheads of £800 000, and Roger and Gwen's salaries, pension contributions and expenses of £120 000 in total. He pointed out that turnover and profitability had remained more or less static over the last three years. (See comparative P & Ls attached as Schedule A.)
4. The company owned one of the properties it traded from and two other investment properties. These properties were in the books at £250 000 in total, but the accountant believed they were worth considerably more.
5. The accountant said he believed the trading business was worth approximately one million pounds (including goodwill and net of all liabilities) and, therefore should all the assets be sold (including the investment properties), there would be a realisation of in excess of £1.25 million for distribution to shareholders. He said in the case of a business sale there would be tax to pay (and, perhaps, double tax when the cash was distributed to shareholders), but he was not sure at this stage how much this would be.
6. He said that the transfer of assets from Roger's estate to Gwen would not attract taxation.

2.5 The family were undecided as to what to do. One of the complications was that the children were unsure whether on sale of their father's assets their mother would make some form of distribution to them, or whether she would merely hold onto the cash until her death (when they expected she would leave everything to them in her will). For Gwen's part, she was more interested in how she would keep the business going rather than sell it, as she had every intention of leaving all her assets to her children equally on her death and assumed they realised this.

2.6 Lynn's view was that the business should be sold and the funds invested. Philip was on the side of keeping the business in the family at all costs. Sian seemed undecided. After much discussion the family came to the following decisions:

1. The business would stay in the family with Gwen owning all the shares for the time being.
2. The children would all become directors of the company. Gwen would remain as a director and the accountant would remain as company secretary.
3. Philip and Lynn would be joint managing directors, although Lynn would not work in the business initially.
4. Sian would not work in the business.
5. Philip would continue on his current salary of £30 000 and all directors would receive director's fees of £15 000 per annum each. Any surplus would be distributed every year to shareholders as dividends.
6. Gwen agreed that she would investigate the taxation implications of transferring shares to the children over time.

3. 1992 to 1998

3.1 For the first two years the business continued to trade at the same levels as in 1992, with the same gross margins. Surplus before owners' drawings were consistent with the last two years, full directors fees were paid and dividends were distributed. Gwen had transferred 30% of her shareholdings to the children (i.e. 10% each). In 1994 Philip had got married.

3.2 In 1995 things began to go wrong. Firstly, Lynn's marriage began to go sour. Next, Philip's wife (who was a young solicitor) began to question why her husband (who, she said "did all the work") was still being paid a rather modest salary and the same directors fees as the other family members. Lynn was still not committed to joining the business (and with the way things were going, he was never going to!)

3.3 The accounts for 1995 showed that after years of remaining stable, sales had fallen by 5% to £2 470 000, gross margins had fallen by 2%, overheads had risen by £20 000 and profits, after allowing for Philip's salary and directors fees, had fallen from £172 000 in 1992 to £78 000 - see Schedule A.

3.4 Philip had dismissed two senior managers (who ran those centres he did not directly manage himself), because he said they "did not fit in with the family's business philosophy". There was even discussion among the family - other than Philip - as to whether Sian (who was keen to leave her current job where she felt she suffered from sex discrimination) should take over as from Philip (who was complaining of stress) as joint Managing Director and work fulltime in the business.

3.5 In 1996, turnover had fallen a further 4% to £2 371 000 and gross margins by a further 1% to 39%. Overheads had been reduced by £40 000, but profit after Philip's salary and directors' fees had fallen to £54 000 - see Schedule A. It appeared that although Philip was passionate about plants and gardens he did not have his father's touch when it came to shrewd buying and (although Philip could not see it) the centres were becoming rather scruffy and old-fashioned looking. "Wastage" (or pilfering) was also increasing. Customers were becoming more attracted to the new-style Garden Centres that had large gift departments and smart coffee bars and/or restaurants. Competition from large DIY centres, such as B & Q, was also a concern.

3.6 Lynn and his wife had agreed to divorce. Gwen, who was in her 60's was not well and had transferred a further 15% of her shares to the children. Gwen had also, with the family's permission, transferred the investment properties into her own name, on the understanding that she would transfer the balance of her shares in GGL to the children. Like all arrangements between the family since Roger's death, this agreement was not in writing. Philip's wife had fallen out with Lynn and Sian over Philip's salary. Lynn said he wished to resign as a director and make a fresh start in Australia, where he had received a promise of a senior position in a Sydney advertising firm and Sian was still working in the City. Both Lynn and Sian wished to retain their shares (and, of course, their entitlement to dividend payments.) It was rumoured that Lynn's ex-wife was suing him for half his assets, including his shareholding in the family business.

3.7 At the end of 1996 the family agreed to meet, with their accountant present. Philip's wife also insisted on attending. The accountant had two bits of bad news. Firstly, he was planning to retire in 12 months and, because he had never expanded his business and had no exit strategy, he would try and sell his fee base if he could find a buyer. Otherwise, he would just close down his practice and the family would have to find a new accountant. Secondly, he was very concerned by the business's future and pointed out that, based on current trends, it would fall into losses by year-end. The meeting was unpleasant, each family member blaming the other for the way things were turning out. It was agreed eventually, with only Philip and his wife dissenting, that the business should be sold and proceeds shared out between the shareholders. At this stage Gwen had transferred a further 15% of the shares to the children, so each of them held 20%, while she still held 40%.

3.8 For one reason or another, nothing was done about the business sale for at least six months. Philip then approached a business transfer agent saying he wished to sell the business for £1.0 million pounds. The agent asked for the latest accounts so he could confirm whether the price was reasonable, which Philip said would be forthcoming soon.

3.9 In early 1998 the new accountants produced the GGL accounts for 1997. These showed a loss for the year of £131 000! Turnover had fallen once again (this time by 6% to £2 228 000), gross margins had fallen by 2% and overheads had crept up by £10 000. But, equally grimly, the new accountants had taken a firmer (and more realistic) view on the value of end of year stock and written it done by £75 000 - see Schedule A.

3.10 This was the first loss the company had made since 1959 and there was going to be no dividend for shareholders. Also, because past profits had been largely distributed as dividends over the years and the investment properties had been transferred to Gwen, net assets and shareholders' funds were low. Creditors cancelled out debtors and the only real assets were stock (of dubious resale value) and the owned property from which the Swansea centre traded.

3.11 When advised of these facts, the transfer agent was, naturally enough, sceptical about achieving a sale price of anything approaching the one million pounds that Philip had talked about. He even wondered to himself whether the business had any value at all.

4. 1998 onwards

4.1 The business and the family were now in crisis. They were aware that the business was unlikely to find a buyer for a reasonable figure and certainly £1 million seemed a pipe dream. Philip believed he could save the company. His wife's father had agreed to invest in the business under certain conditions, one of which was that Philip should hold a controlling interest in the in the company. If Gwen could be encouraged (or compelled) to transfer the balance of her shares and if Philip had the right to purchase most of Lynn's shares (as Lynn was no longer a director and living in Australia) this would give him the majority he needed. The other major condition imposed by Philip's father-in-law was that the business needed to hire a first class General Manager with strong retail buying and marketing experience.

4.2 But, there was no written agreement between the family shareholders and Philip and his supporters were aware that they could not legally force any of the other shareholders to sell Philip their shares. Gwen was reluctant to transfer any further shares to the children, because to fairly do so she would have to transfer them equally and she was concerned that some of them would end up with Lynn's ex-wife. Philip felt that if he could not be given a chance to save the family business on his terms, he would resign.

4.3 Stalemate beckoned and the business was rudderless. The shareholders seemed to have reaped the bitter harvest of lack of any business, strategic or exit planning. What lay ahead?

4.4 Unfortunately, the family could not agree what to do. The business was put up for sale. Buyers were soon aware that the sale was urgent and under duress and that profits were declining. The eventual buyer drove a hard bargain and the business was virtually given away. Gwen kept the non-business properties, Lynn and Sian carried on with their lives and Philip found a job. The value in the business, that Roger had built up and envisaged giving one day to his family, had all but disappeared.

SCHEDULE A

NOTES:
(1) Salary Philip: £30 000 + Directors' fees (£15 000 x 4)
(2) Trading loss: £56 000 + write downs: £75 000

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