While it’s relatively simple to start a company, investing time in the paperwork can pay dividends later, especially if yours is a jointly owned and controlled business. However well you get on at the start, fall-outs can happen, and when companies are run by individuals (or companies) 50/50, gridlock can happen as neither has the power to make a decision alone. So, what methods can be used to resolve shareholder deadlock?
What is shareholder deadlock?
Where a company is owned by two shareholders who each hold 50% of the shares, decision-making can become deadlocked if they fail to agree on a decision to be taken by the business, either at shareholder or board level.
How can you resolve shareholder deadlock?
It can be tricky to resolve shareholder deadlock, and the surest way to avoid gridlock is by putting a shareholders’ agreement in place when the company is set up. A well-drafted shareholders’ agreement will contain a deadlock clause with a dispute resolution mechanism to deal with disagreements.
How can you resolve shareholder deadlock if you don’t have a shareholders’ agreement in place?
- Invite another shareholder or non-executive director to join the company
If you find yourself frequently in deadlock, you could ask another shareholder to join the company so that in the future, decision-making can be taken by the majority. Alternatively, you could appoint a non-executive director so that decisions can be taken by the majority at board level. This won’t be possible if you are not able to agree who this person should be.
- Chairperson/external ‘swing’ vote
In older companies (before October 2007), the standard Articles of Association provided that the chairperson had a casting vote if members fail to agree. This right was removed by the Companies Act 2006 and no longer applies. You can, however, reintroduce this right by amending your company’s articles and appointing one of you the chairperson, perhaps on a revolving basis.
An alternative is to pick someone external to the company who will be given a ‘swing’ vote if deadlock occurs. It can be difficult to agree who this should be, as they would have to have appropriate business or professional experience. You could ask your lawyers or accountants to nominate a suitable person and agree to accept their recommendation.
The advantage of a chairperson’s casting vote is that it will give quick resolution to the deadlock, and you don’t need to find a third party to assist. The disadvantage is that the views of one of you will prevail when disagreements occur.
- Mediation/arbitration/appointment of an expert
If your dispute is fairly clear-cut or technical, you could appoint an outsider like a mediator, arbitrator or alternative dispute resolution expert to help you resolve it. These are generally a cheaper and faster route to resolution than going to court, however they are usually only suitable where the issues are factual and don’t involve disagreements about business strategy. In addition, for arbitration, a decision will usually be binding on both sides, even if you each disagree with the conclusion of the arbitrator.
- Shareholders Agreement
If your situation has not become too entrenched, you might be able to put a shareholders’ agreement in place that sets out how disagreements should be dealt with in the future.
- Referral to senior management
If your company is a 50/50 joint venture involving two companies, you can sometimes resolve disputes by asking senior management from both sides to step in and adjudicate the disagreement. Like mediation, this method won’t work if there’s a fundamental disagreement on the way the JV is being run.
What if you can’t reach a resolution?
If you can’t resolve a deadlock, here are some options:
- Winding-up or liquidation
If you feel the business is no longer viable because of your dispute, then you can wind the company up or opt for a voluntary liquidation of the company, sharing between you any surplus after the assets have been realised or sold.
- Buy-out or sale
If you have funds and think you can agree a purchase price, then one of you can buy the other’s shares and continue the company alone. Alternatively, both of you could look for a buyer of your shares, or one of you could sell to a third party.
- Court action
You can ask a court to step in to resolve a deadlock in litigation. A court can resolve a dispute, order a winding-up of the company, agree a valuation of shares or order a share transfer from one party to another.
How to put together deadlock provisions in your shareholders’ agreement to resolve deadlock
When putting together deadlock provisions in a shareholders’ agreement, it’s important to first define the deadlock situations that will trigger the deadlock procedure and include these in the agreement.
Here are some examples of procedures that can be included in a shareholders’ agreement to resolve a deadlock situation:
- Russian Roulette
This is a clause that enables one shareholder to offer to buy out the other, or sell their own shares, at a price set by the offering shareholder. The other shareholder can accept the offer and sell their shares, or offer to buy the other out at that price, and so on. The advantage of this approach is that the person wanting to leave the company will be bound to offer a fair price, and no valuation is required. In addition, this enables the shareholder that eventually purchases the other’s shares to continue the business. However, this procedure does put the financially-stronger party in the better position and so is open to manipulation by that party.
- Texas Shootout
In this procedure, each shareholder submits a sealed bid to a third party for the other shareholder’s shares. The shareholder making the highest bid will have to buy the other out. This can be a quick way to resolve a dispute, although to operate fairly, both sides must be in a financially-equal position.
- Compulsory buy-out
These provisions allow one shareholder to buy out the other using a pre-determined formula for agreeing the price of the shares if a deadlock occurs.