When setting up a new company with a friend, family member or business partner, you may feel that you are completely on the same page. It is important to be aware however that relationships can change over time, and we would always recommend that you have clear provisions in place in your company’s documents which sets out what happens in the event that a disagreement does arise.
It is fairly common for companies to end up in a deadlocked situation whether this is at board or shareholder level particularly in respect of companies where there are two director shareholders with 50% shareholdings. This is because neither party has a majority and therefore decisions can only be made unanimously.
There are no provisions in the Companies Act 2006 which assist deadlocked companies and in the absence of an agreement being reached the only remedy would be to apply to the Court for a just and equitable winding up of the company. This is always the option of last resort because it invariably severely harms the value in the company as it has to be wound up and the assets distributed to creditors and shareholders. The Court is very reluctant to make a winding up order and it is only available in the most serious cases.
With this in mind, this article discusses some top provisions to include in your articles of association or shareholders’ agreement to avoid or resolve any deadlock:-
Chairperson casting vote at board/shareholder level
Some companies will appoint a chairperson at either board or shareholder level (or both) and give that individual the right of a casting vote. The advantage of this is that the company will never be deadlocked at either level, however you may be reluctant to cede this power to your fellow director/shareholder. One way to mitigate against a power imbalance is for the chairperson role to rotate on an annual (or otherwise) basis.
Ability to appoint a third party as director
At board level, you could include a provision which enables the appointment of an independent third party as a director to break a board deadlock. There is always a risk that the third party may take the side of the other party and you may need to think about a mechanism to ensure the appointee is neutral.
Re-structuring after the deadlock
Alternatively, you could include provisions which enable you to bring new investors on board and dilute the shareholdings to make deadlock less likely at shareholder level.
Dispute resolution clause relating to deadlock
For shareholders, it is fairly typical to include an alternative dispute resolution clause within a shareholders’ agreement. For example, where a dispute is referred to an arbitrator who will make a binding decision on the dispute or mediation to provide a framework to encourage the parties to resolve their differences.
It may be beneficial to have a buy out clause which enables one party to buy out the other’s shareholding in the event there is an irretrievable break down between the parties. It is important this clause contains clear provisions including (but not limited to) how the parties start the buy out process (normally by way of service of a notice), the share valuation mechanism and timescales for the buy out.
Our specialist Business Owners Disputes and Exits (BODES) Team has a wealth of experience in (i) drafting corporate documentation to give you and your business protection and (ii) providing comprehensive advice and support in the event that your company is in a deadlocked situation.