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Are You In Control?

» Posted on: 21 August 2008
» Posted by: Elaine Hurn
» Service area: General

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When business owners fall out, the carnage that ensues can be catastrophic and costly, not only for the shareholders. It can also seriously damage the company itself and can adversely affect longstanding relationships with both suppliers and customers.

If you don’t personally own all of the shares in your company, perhaps because you were part of a management buy out or inherited shares in a family company from a relative, there is a risk that you will not always see eye to eye with each of your fellow shareholders and the company may not go in the direction that you want. Unless you “control” the company and the board of directors, it is essential that you have protection in place by way of a shareholders agreement or through the company’s articles of association.

Just like many happily married couples who do not contemplate that one day they will be party to an acrimonious divorce or fight over custody of the children, the same often is true for shareholders and companies. Do you know the top 5 reasons why shareholder disputes start? (If you can read upside down, the answers are set out at the end of this article – were you surprised?)

Do any of the following situations ring a bell?

  1. The main shareholder puts all his personal bills for his new house through the company credit card and it’s affecting the cash-flow of the business. I am a director but hold only a small number of shares, can I stop him?
  2. A business partner has died and his son is insisting I pay top dollar to buy his shares, otherwise he will sell them to our main competitor. Can he do this?
  3. I have 25% of the shares in my company but I have never received a dividend, although the company is profitable. Can I insist?
  4. My managing director has left the company but wants to keep hold of the 10% of shares I gave to him when he joined us. I am now doing all the work. Can I force him to sell them back to me?

The answer to all of the above is probably not, unless you have a shareholders agreement in place.

So what is a shareholders agreement and what does it do?
In a private company, particularly one with a relatively small number of shareholders who also manage the business on a day to day basis, the actual process of preparing an agreement often helps shareholders to work through the key issues. If you are invited to buy shares in the company, you should not hand over your money before you see an agreement covering the key areas such as:

(a) the financing of the company;
(b) dividends, directors’ fees, salaries and directors’ loan accounts;
(c) transfer of shares;
(d) the resignation of a director; and
(e) whether you have a say in major decisions.

A shareholders agreement will usually specify that the majority or possibly all of the shareholders need to give approval before certain things happen. The agreement will also cover how a shareholder can realise his or her investment in the company and how the shares will be valued if the other shareholders or the company have the right to buy them. This is particularly important where a shareholder’s exit from the company is not amicable and a valuation of the shares cannot be agreed.

The top 5 reasons why shareholders fall out are as follows:
  1. Salaries paid to shareholders who also work for the business.
  2. Dealings between the company and a private business owned by one of the shareholders (or their family members).
  3. The price to be paid when a shareholder is bought out.
  4. The level of dividends.
  5. Power struggle and poor personal relationships.

In addition, the agreement will deal with what are known as “deemed transfers”. There will be a list of events which automatically trigger a requirement for a shareholder to sell his shares to the other shareholders, particularly if he leaves “under a cloud”. They can also deal with what happens if an offer is received and the majority want to sell out – do you have to sell too? These kinds of problems are more common in smaller companies where they can cause the greatest damage.

We recently acted on behalf of a shareholder excluded from his company by the major shareholder who was successful in getting his shares bought at a sensible value by his former company. However, because he did not have a shareholders agreement, his legal costs in securing a remedy exceeded the valuation of his shares!

It also took over 2 years to seek redress, but having borrowed heavily from the bank with a charge over his house in order to raise the money to initially buy the shares, he was left with no option but to pursue the action. A shareholders agreement would have either avoided problems or meant that the outcome was certain, less costly and quicker.

We understand the issues involved, the rights and duties of the individuals and the armoury of solutions available, whether they be by negotiation, mediation, the putting in place of a shareholders agreement and associated documentation or the ultimate resort to the court where a minor shareholder’s interests have not otherwise been protected.

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