50/50 shareholders

I am not sure if this is a seasonal issue or if there is simply something in the water, but whatever it is, in the last four months I have received a number of enquiries from shareholder-directors of companies asking for advice on how to deal with their fellow shareholders.  The situation is usually as follows: two people (probably friends) have set up in business together and are 50/50 shareholders and directors of a limited company.  When they set the business up together (in each case between 12 and 18 months ago) they were caught up in the excitement and adventure of starting a new business and the prospect of success and riches just within grasp.  However, by the time each of these clients contacted me for advice, the relationship with their fellow shareholder had fallen apart with a complete lack of trust, mounting suspicions as to financial irregularity and no idea of what to do next.

Shareholder control 

When you go into business with others, especially friends, the fairest way to split the responsibilities and profits of the business appears to be on a 50/50 basis.  But in a limited company, having 50% of the shares actually means you have no control at all and neither does the holder of the other 50% of the shares. The spectre of deadlock is always on the horizon!  That is because, in order for shareholders to resolve to do something in relation to the business the holders of at least 51% of the shares in a limited company must vote in favour of the motion in the case of an ordinary resolution and 75% or more of the shares in the case of more fundamental resolutions.  This means that if you and your business partner each hold 50% of the shares in a limited company then the only way a decision can be made by the shareholders in relation to that company’s business is if you both agree unanimously in your votes.  At board level, if there are only two directors (and the Articles of Association which govern the conduct of the directors together with the provisions of the Companies Act 2006do not allow otherwise) then decisions taken at board level will be made by a vote and again, with only two directors on the board, in order for a motion to be carried both directors have to agree and vote unanimously.

A solution: shareholder agreements

When we are lucky enough to be involved as a firm in advising people starting out in business together and our clients tell us that they want the business to be operated on a 50/50 basis, the first thing we advise them to do is to enter into a shareholders’ agreement.  A shareholders’ agreement is a contract between the shareholders which sets out how the shareholders will behave, how their responsibilities will be split, how dividends will be paid and, most importantly, how disagreements between the shareholders will be resolved.  These are not cheap documents, and more often than not when everybody is getting along just fine people can think of better things to spend their money on than a contract which is likely to sit idle in a drawer. Fast forward 12 to 18 months and in the case of each of my clients in this position, one is accusing the other of stealing money from the company and not pulling their weight in running the business.  I always ask if my clients have the benefit of a shareholders’ agreement. The answer is often “No, we did not think it was necessary at the time, but I wish we had one now.” 

We are entering the festive period and now should be a time of reflection on the past year, a celebration with family and friends and looking forward to the year ahead.  If you are in a 50/50 or any other business relationship, whatever the strength of that relationship please consider whether or not it would be a good idea, just in case, to enter into a shareholders’ agreement.  It may save you money, trouble and the breakdown of a good friendship if you have a contract, agreed in the good times, which clearly sets out what to do if things are not so good in the future or if you need to have a clearly defined path on how to deal with difficult issues.