Company shareholders and directors

by Roderick Ramage, solicitor, www.law-office.co.uk

some precedents to hold or adjust balance of power between shareholders and directors and between majorities and minorities, first published in New Law Journal (newlaw.journal@butterworths.co.uk) on 5 December 1997 and 23 January 1998 and in Kelly's Draftsman (17^th edition) published by Butterworths in December 1998

DISCLAIMER

This article is not advice to any person and may not be taken as a definitive statement of the law in general or in any particular case. The author does not accept any responsibility for anything that any person does or does not do as a result of reading it.

In my previous article (NLJ 10 October and 7 November 1997), I catalogued the various minority rights provided by the companies legislation. In this set of precedents, I offer a few regulations for use in articles of association to protect individual shareholders or groups of shareholders, both majorities and minorities.

key issues for minorities

For minority shareholders the key issue is that the holder of a majority of over 50%, even just one vote over which could be merely a casting vote, can virtually control a company's normal business, particularly the composition of the board of directors, so that a minority shareholder can be powerless and his shares worthless. For instance, none of three persons, who form a company in equal third shares, could in the absence special provision carry or defeat a resolution or procure himself or herself to be or remain a director.

key issues for majorities

To an extent the concerns of a majority are the converse of those of a minority. Whilst in ordinary reasonable day to day situations statutory minority rights have little application, the more fundamental acts, that a majority might wish to take to exert its rights, are those in which minority protection rights take effect. For majority shareholders there are probably two key issues. The first is to recognise and overcome the balance (or imbalance) of power between the directors and the shareholders and the second is how to get rid of the unwanted minority shareholder. The balance of powers point is that the shareholders have virtually no powers of management, which are vested almost exclusively in the directors, who do not need to be shareholders.

The problem is well illustrated in Morgan v Morgan Insurance Brokers Ltd and others [1993] BCLC 676, although, as the defendants conceded the substantive issue before trial, the only issue for the court was costs. At the time of the proceedings Mr Morgan held 76.93% of the share capital in Morgan Insurance Brokers Ltd, enough to pass a special resolution, and there were nine minority shareholders all of whom were directors. He was unable to control the company, because he was a minority on the board, and, in spite of his majority, he could not requisition a meeting of the company: the power for members to convene a meeting under the Companies Act 1985 s368 is available to members not a member holding not less than one tenth of the voting capital.

precedents

The following is a collection of regulations for insertion into articles of association to deal with various situations, taken mostly from Kelly’s Draftsman, of which the writer is the editor. When adopting any protective regulation, such as the following, the draftsman must consider whether it might have any adverse consequences in other circumstances: see eg the note to precedent 27 below.

1 special not ordinary resolution to alter capital

x In regulations 2 and 32 of Table A the word "ordinary" shall be deleted and the word "special" shall be substituted for it.

This regulation is designed to protect a minority shareholder with over 25% of the equity from increases in capital enforced by the majority shareholder, although a minority shareholder in this position may, even without such regulation, be able to rely on Clemens v Clemens Brothers, Ltd, [1976] 2 All ER 268. For a precedent which uses the ordinary/special choice the other way, see 20 below.

2 power to buy shares compulsorily on death, retirement etc of a member

x.1 In this clause the following terms shall have the following meanings.

"Relevant Event"	means any transfer or purported transfer of any share in the Company except in accordance with this clause, the death or bankruptcy of any member, or the termination of the employment or directorship of any employee or director of the Company who is a member.
"Buyer"	means the Company or any other person named as such by the directors.
"Controlling Shareholder"	means a member or members holding between them shares conferring over 50% of the total votes capable of being cast on a poll at the Company's general meetings.
"Seller"	means any member of the Company in respect of whom a relevant Event occurs or the personal representative, trustee, receiver or liquidator of any such member.

x.2 Nothing in this clause shall apply to any share registered in the name of a Controlling Shareholder.

x.3 At any time on or after the occurrence of a Relevant Event the Buyer shall have the right by service of a written notice on the Seller to buy all the shares in the Company registered in the name of the Seller.

x.4 If the price is not agreed within one month from the date of the Transfer Notice it shall be assessed by the Company's auditor acting as an expert and not an arbitrator [disregarding (or) having regard to] the absence of any dividend or other return to the shareholders and the fact that the shares to be valued represent a minority interest in the Company's share capital.

x.5 On the Price being assessed and notified to the Seller, the Seller shall be bound to transfer the shares to the Buyer on payment of the price to the directors. If he or she fails to do so the chairman of the directors, or failing him or her another director nominated by the directors shall be deemed to be the Seller's duly appointed attorney with full power to execute, complete and deliver in the name and on behalf of the Seller a transfer or transfers of the Sale Shares to the Buyer.

x.6 No part of the Price shall be paid to the Seller until he or she has delivered to the Company all necessary transfers and certificates and indemnities.

This regulation is intended to keep ownership of the share capital and management either in the same hands or the hands of the controlling shareholder or his or her family. Provision of this sort may be particularly important, when shares are issued or transferred to employees.

3 exclusions from the transfer notice procedures

"Controlling Interest"	means shares conferring over 50% of the total votes capable of being cast on a poll at the Company's general meetings.
"Controlling Shareholder"	means a member or members holding between them a Controlling Interest.

x This regulation shall not apply to and the directors shall be bound to register:

any transfer of a share by or to a Controlling Shareholder;
any transfer to an existing member of the Company;
any transfer approved by a resolution in writing signed by each director or by an ordinary [or] special resolution of the Company;
any request by a person becoming entitled to a share in consequence of the death or bankruptcy of a member to be registered as the holder of such shares;
any transfer by a personal representative to any person or persons absolutely entitled to the shares transferred under the will or intestacies of a deceased member;
any transfer to the spouse of the transferor or any direct ascendant descendant or collateral relative of the transferor;
any transfer to the trustees of a family settlement made by a transferor (that is to say a settlement under which none other than all or any of the transferor or his or her spouse and issue (including issue not yet born) is entitled to a beneficial interest);
any transfer by a trustee to a beneficiary;
any transfer by a trustee to a new trustee;
any transfer by a corporate shareholder to an associated company (that is to say any holding company or subsidiary company of such corporate shareholder and any other subsidiary company of any such holding company) but any act by which the transferee ceases to be an associated company shall take effect as a transfer notice under regulation [n];
any transfer of an ‘A’ share from one holder of an ‘A’ share to another holder of an ‘A’ share or of a ‘B’ share from one holder of a ‘B’ share to another holder of a ‘B’ share; and
one transfer by a Controlling Shareholder of one share to any person as his or her nominee and any subsequent transfer of that share to any other person nominated by the Controlling Shareholder.

In contrast with precedent 2, these provisions or a selection of them would allow a relatively free share transfer regime for a private company, which could result in a widely dispersed membership separated from management. Note that this precedent should be treated as a menu and not be slavishly copied in full. For instance the first and last exceptions are drafted for quite different purposes: the first is appropriate where the controlling shareholder intends to retain complete control whilst "tolerating" a minority of shares in the hands of eg a few directors or employees, whilst in the last the controlling shareholder is subject to the same limitations as the other shareholders, but wants an express safeguard against a "Morgan" situation.

4 valuation of shares in a "transfer notice" procedure

x If the price is not fixed in any other way it shall be assessed

by the Company's auditor [or] an accountant to be selected by the Seller and the Company or in default of agreement within 14 days starting on the date of the Transfer Notice to be nominated by the President for the time being of the Institute of Chartered Accountants on the application of the first of them to apply to him
as a fair price for the Sale Shares disregarding [or] having regard to the absence of any dividend or other return to the shareholders and the fact that the shares to be valued represent a majority or a minority interest in the Company's share capital or when registered will result in any person's interest in the Company's share capital becoming a majority.

[or as an alternative]

as a fair price on the basis of a valuation of the whole of the Company's issued share capital of the same class as the Sale Shares on an open market sale between a willing buyer and willing seller dealing with each other at arm's length at the date of the Transfer Notice and multiplying the valuation by the number of the Sale Shares and dividing it by the number of issued shares in the same class.

If the "disregarding" formula is used, the value of the shares will be the proportion of the whole value of the company equal to the proportion of the issued share capital being transferred. This appears to be the basis of valuation which is appropriate in some shareholders' petition cases: Re Company a (No. 004475), [1983] Ch 178; [1983] 2 All ER 36 and Re Bird Precision Bellows, Ltd, [1985] 3 All ER 523; [1986] 2 WLR 158, CA. The "having regard to" formula is likely, in the case of a minority holding which will not give control to the transferee, to result in the shares being valued at a substantial discount below assets value if not as worthless.

5 power for Seller whose shares are not bought under transfer notice to wind up Company

x If the Seller is unable to sell the Sale Shares in accordance with regulation [n] he or she shall be entitled to convene an extraordinary general meeting of the Company for the purpose of considering and if thought fit passing a resolution to wind up the Company and shall have such number of votes as exceeds by one vote 75% of the votes capable of being cast whether on a show of hands or on a poll in respect of that resolution.

This regulation gives the would be seller a powerful means of avoiding being locked into a company. The answer to the majority shareholders' objection to this power is that the price for the shares may be fixed by an independent person: the seller cannot use this power to hold out for an inflated price.

6 power for a sole member to requisition or call a meeting

x.1 Anything in sections 368 (extraordinary general meeting on members’ requisition) and 370 (general provisions as to meetings and votes) of the Act, which may be done by members or two or more members may be done by one or more members holding the share capital or voting rights specified in those sections.

This regulation allows a sole minority member, who has the requisite amount of capital or voting rights, to requisition or convene a meeting of the company.

7 quorum at members’ meeting to include 50% or ‘A’ and ‘B’ shareholders

x.1 In regulation 40 of Table A between the words "two persons" and "entitled to vote" there shall be inserted the words "holding together over 50% of the issued shares in the Company's capital".

x.2 In regulation 41 of Table A:

the words "or if during a meeting such a quorum ceases to be present," shall be deleted; and
there shall be added after the last word the following sentence: "If at the adjourned meeting a quorum is not present within half an hour from the time appointed for the meeting, the member present, if he or she holds over 50% of the issued share Company's capital, shall be a quorum".

[or as an alternative]

x.1 In regulation 40 of Table A between the words "two persons" and "entitled to vote" there shall be inserted the words "of whom not less than one is the holder of an ‘A’ share and not less than one is the holder of a ‘B’ share".

x.2 [as x.2 above modified for ‘A’ and ‘B’ shares]

By these regulations a quorum will be two members holding over 50% of the issued shares or at least one ‘A’ shareholder and at least one ‘B’ shareholder. A meeting held without a quorum is a nullity: Re London Flats, Ltd, [1969] 2 All ER 744; [1969] 1 WLR 711. If a majority or one of two members is deliberately absent in order to frustrate the meeting the aggrieved members may apply to the court to order a meeting to be called and to direct if necessary that one member can constitute the meeting: 1985 Act s.371.

If a private company has only one member, one member present in person or by proxy is a quorum notwithstanding any provision to the contrary in the articles: 1985 Act s.370A.

8 exclusion of chairman's casting vote at general meetings

x In regulation 50 of Table A the words "the chairman" shall be deleted and there shall be inserted in their place the words "no person".

The object of this regulation and that in precedent 24 is to remove the chairman's casting vote and the consequent built-in advantage accruing to one side when the votes are otherwise split equally.

9 proxies may vote on show of hands

x In regulation 54 of Table A after the word "present" there shall be inserted the words "by proxy or".

Whilst an absentee majority represented by a proxy, or any other member with 10% of the voting shares, can demand a poll under the Companies Act 1985 s373, it may be convenient to permit a proxy to vote on a show of hands. Otherwise only members present in person or a corporate member present by an authorised representative may vote on a show of hands.

10 on poll ‘A’ shares [one] vote and ‘B’ shares [ten] votes

x On a poll the number of votes which may be cast on each ‘A’ share is [one] and the number which may be cast on each ‘B’ share is [ten].

Under this regulation, with appropriate regulations about dividends and capital, members can share equally in dividends etc but unequally in voting rights.

11 members may give directions to directors by ordinary resolution

x In regulation 70 of Table A the word "special" in the first place where it appears shall be deleted and the word "ordinary" substituted for it.

The general effect of regulation 70 is that the directors have the entire power of management to the exclusion of the members, subject to any directions given by a special resolution. This resolution widens the power of the members to give directions by reducing the requisite majority to 50% plus one vote. If some other majority is required, instead of "special" substitute "a resolution which satisfies the requirement for a special resolution but for which the majority is [n] %".

12 directors may not sell business or subsidiary without ordinary [or] special company resolution

x The directors shall not without the previous sanction of an ordinary [or] a special resolution of the Company (and shall procure that the directors of any subsidiary of the Company shall not without the previous sanction of a special resolution of the Company) carry out any such transaction in relation to such subsidiary:

sell or dispose of the Company's business or the shares of any of the Company's subsidiaries or any part of the business or shares or any interest in land or buildings where a substantial part of the Company's business is for the time being carried on;
acquire any business;
acquire or dispose of any shares in any company;
make any investment whose capital value (whenever payable) exceeds £[.....] ([.....] pounds);
exercise its borrowing powers in any way which causes or might cause its total borrowings to exceed £[.....] ([.....] pounds); or
dismiss or engage or alter the terms of employment of any director or any manager whose emoluments are or exceed £[.....] ([.....] pounds) pa.

This regulation may be required, eg, where the proprietors do not manage the business but wish to reserve certain powers normally within the board's authority. A special resolution should be specified if the balance of voting rights, either on the board or by 50% plus one vote at a general meeting, would put a large minority shareholder at risk

13 exclusion of retirement by rotation

x The directors shall not be subject to retirement by rotation, and accordingly regulations 73, 74 and 75 of Table A shall not apply to the Company, and all other references in Table A to rotation shall be disregarded.

Retirement by rotation in a private company is usually at best a nuisance and at worst a trap for the unwary or unlucky, who, in a boardroom dispute, might find him- or herself permanently off the board just because it is his or her turn to retire.

14 members may appoint directors without board recommendation

x The whole of regulations 76 and 77 and the words "subject as aforesaid" in regulation 78 shall not apply to the Company.

The effect of these deletions is to give the company in general meeting an unfettered right to appoint directors without either a recommendation of the directors or the prior notice procedure required by regulations 76 and 77 of Table A.

15 weighted voting on own directorship

x A holder of not less than [15]% of the issued ordinary shares in the Company's capital shall have such number of votes as exceeds by one vote the number of votes required to be cast whether on a show of hands or a poll or a resolution in writing:

to pass a resolution for the appointment as a director of him- or herself or any other person as nominee for him or her;
to defeat a proposal for a resolution for the removal from office as a director of him or her or any nominee of his or hers; or
to defeat a proposal for a resolution for the deletion or alteration of this regulation or the cancellation or alteration of these articles of association or any other act which would have the same or a similar effect.

This regulation is intended to protect a substantial minority shareholder against removal from the board by a majority. The figure of 15% may be altered according to the circumstances of the company. Such a regulation as this is not in contravention of s.303 of the 1985 Act: Bushell v Faith, [1969] 2 Ch 438; [1969] 1 All ER 1002, CA.

16 no directors except as appointed by ‘A’ and ‘B’ ([2] each)

x.1 The directors shall not have any directors except directors appointed under this regulation.

x.2 The holders of the ‘A’ shares may at any time by a written notice to the Company appoint not more than [two] persons to be directors of the Company and remove and replace any director so appointed.

x.3 The holders of the ‘B’ shares may at any time by a written notice to the Company appoint not more than [two] persons to be directors of the Company and remove and replace any director so appointed.

This is one alternative to a Bushell & Faith type regulation (see 15 above) by which minorities can protect their directorships.

17 50% shareholder may appoint and remove directors by notice to Company

x Any Controlling Shareholder [or] member or members holding over 50% of the issued share Company's capital may at any time by written notice to the Company do all or any of the following:

vary the number of directors of the Company;
appoint one or more additional directors; and
remove one or more directors from office.

18 alternate director not to be subject to directors’ approval

x The following words shall be deleted from regulation 65 of Table A: "approved by resolution of the directors".

In the absence of these words a director, who is at odds with the rest of the board, may be unable to appoint an alternate of his or her own choice. The price for the others is that they may have foisted on them a director whom they find uncongenial.

19 alternate director to have appointor's votes as well as own

x There shall be added the following words before the stop at the end of regulation 65 of Table A: "and an alternate director shall have the number of votes which the person appointing him or her as alternate would have had if he or she were present at the meeting in addition to any votes which he or she may exercise in his or her own right.

Normally directors have only one vote per person present. See also precedents 25 and 27

20 directors’ remuneration to be fixed by special resolution

x In regulation 82 of Table A the word "ordinary" shall be deleted and the word "special" substituted for it.

This regulation may assist a minority holder of over 25% to control an attempt by the majority to take excess remuneration as directors. This shift in the balance of power, like that in precedent 1 above, is in favour of the minority but uses the ordinary/special choice in the opposite way.

21 quorum at directors’ meetings to include 50% shareholder

x In regulation 89 of table A after the words "shall be two" there shall be added the words "holding together over 50% of the Company's issued share capital".

22 only director present is quorum if 50% shareholder

x If at any meeting of the directors called by not less than [four] days' written notice a quorum is not present within half an hour of the time appointed for the meeting, the director present, if he, she or the person appointing him or her as an alternate or the person appointing him or her under regulation [n] holds not less than 50% of the issued share capital of the Company, shall be a quorum.

23 quorum at directors’ meetings to include each of ‘A’ and ‘B’ shareholder

x In regulation 89 of table A after the words "shall be two" there shall be added the words "of whom one is or is appointed by the holder of an ‘A’ share and one is or is appointed by the holder of a ‘B’ share".

24 exclusion of chairman's casting vote at directors' meetings

x In regulation 88 of Table A the words "the chairman" shall be deleted and there shall be inserted in its place the words "no person".

See the note to precedent 8 above.

25 50% shareholder to be chairman with to power carry or defeat directors’ resolution

x For so long as any member of the Company holds over 50% of the issued shares in the company's capital [or] is the Controlling Shareholder he or she shall be the chairman of the directors and shall have such number of votes as enables him or her to carry or defeat any proposal for a resolution of the directors.

Controlling shareholders often overlook the fact that they may be a minority on the board of directors, over which they may have no control, and that directors have only one vote per person. There can be a considerable delay before a controlling shareholder can regain control of a board: eg a member's requisition under s.368 of the 1985 Act followed after 21 days by 14 days' notice of an extraordinary general meeting making delay at least 35 clear days, with the s.303 special notice procedure running in parallel. Whether or not the controlling shareholders have power to appoint and remove directors (as under precedent 17), it is a useful safeguard to have weighted voting as in either this or precedent 27.

26 named person to be chairman whilst director

x For so long as [name] is a director of the Company he [or she] shall be chairman of the board of directors and shall have such number of votes as enables him [or her] to carry or defeat any proposal for a resolution of the directors.

27 directors' votes to equal votes as members on poll

x The number of votes exercisable by each director on any resolution of the directors shall equal the number of votes being capable of being cast by him or her on a poll at a general meeting of the Company and if he or she is not a member of the Company he or she shall have no vote as a director [except

those which are capable of being cast by the person appointing him under regulation [n] to be a director if that person were a director, or
if he or she was not so appointed and no director so appointed and no director who is a member is present].

See the note to precedent 25 above. This precedent illustrates the warning at the start of these precedents. The absence of the sole shareholder of a one person company from a crucial board meeting could be devastating, because the non-shareholder directors present would be without power to vote. The exception in square brackets would prevent the impotency of the board in this circumstance.

28 reserving control of dividends to the members

x In regulation 102 of Table A the words "but no dividends shall exceed the amount recommended by the directors" and in regulation 105 the words "upon the recommendation of the directors" shall be deleted. In regulation 103 after the words "Subject to the provisions of the Act" shall be added the words "and to the extent (if at all) authorised by the company by ordinary resolution".

Under these regulations of Table A, the company may not declare a dividend in excess of the amount recommended by the directors and the directors have an exclusive power to pay interim dividends

click below to

return to list of pension law articles

return to list of other law articles

return to home page