Ways to deal with fallouts in deadlock companies

February 2024

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This Guide is the last of four Guides about deadlock companies, which are part of my series of Guides to shareholders arrangements. All my Guides can be found here. Although these Guides are about deadlock companies there is plenty in them which is relevant to other shareholding arrangements.

My previous three Guides explained 1/ what deadlock companies are, why deadlock can be such a pain and some basic ways in which you can prevent it (see this Guide here); 2/some provisions you could think about putting in a shareholders agreement to help prevent deadlock paralysis arising if the shareholders in a deadlock company can’t agree on things (see this Guide here); and 3/ some provisions you could put in a shareholders agreement as last ditch solutions to help to break through the paralysis which a shareholder fall-out could otherwise create (see this Guide here).

This Guide finishes with some guidance as to other possible ways and strategies to help you resolve a deadlock, including how you can use the courts to help.

1. Use the courts

Whether or not you have a shareholders agreement in place, it also helps to be aware of possible legal actions which parties to shareholders disputes can take. If you have no shareholders agreement, then these legal actions might be your only recourse. Of course, litigation can be very expensive and stressful. The threat of litigation, and the understanding of the parties of the possible likely outcomes if matters did end up going to court, can create useful leverage to help bring parties to the negotiating table.

a. An unfair prejudice action under s 994 Companies Act 2006. If a shareholder thinks the company is being run in a way which unfairly prejudices their interests as a shareholder, then they can ask the court to sort things out. The court has a very wide discretion as to the orders it can make. The most common order is for one shareholder to buy out another at a price and on terms dictated by the court. This kind of action is quite rare in the case of 50:50 companies, but can apply for example if one owner has chosen not to be a director (see below) so the affairs of the company are being managed by the other owner.

b. An application for a just and equitable winding up of the company under s 122 Insolvency Act 1986. Courts are particularly likely to make such an order in the case of 50:50 companies.

c. A derivative action. Under this procedure a shareholder can get permission to bring a claim on behalf of the company itself against the company’s directors for mismanagement of the company. This will usually be on the basis of breaches by the directors of their various duties to the company.

d. Creditor actions against the company, including the threat of potential winding up orders, can create leverage. These can be considered by the owners themselves or their connected persons or other ‘friendly’ creditors. Of course, owner directors always have to be very mindful of not creating conflicts with their duties as directors of the company.

2. Walk away – pros and cons

Leave. Possibly even move to a competitor or set up a new competing business. Unless you have a shareholders agreement which says you mustn’t. There is nothing to stop shareholders of companies from competing with those companies. But they do have to be very careful about not breaching other laws, such as the misuse of confidential information they may have received.

Or just retire and keep your 50% shareholding so everyone still at the company is ultimately still working for you and building up the value of the business for you. And they still can’t do all sorts of things without your vote as a 50% shareholder. For example, they won’t be able to sell the company without you agreeing, and no-one will want to buy their shares in this situation. So your walking away could stir things up a bit with the other owner! The threat by one owner to walk away can therefore sometimes help to encourage the other owner to come to the negotiating table.

The downside is that you can’t just walk away whilst remaining as a director. And if you remain as a director you will continue to have to stay involved in the company’s business, and will owe all the duties that directors owe to their company and its shareholders as a whole.

And the downside if you do retire as a director is that you will lose any influence on the board (unless you have a shareholders agreement which includes veto rights). The other owner as the remaining director will run the company. And unless you have a shareholders agreement which says otherwise you won’t have the right to receive any information about the company and its business (other than seeing annual accounts).

The remaining director will have to manage the company without your ongoing help, but will still have to keep all shareholders’ interests (ie including yours) at heart. They will be subject to legal challenge if they don’t (for example a common example is by paying themselves large salaries and not agreeing to pay dividends to shareholders).

3. All sorts of other trickery

Sometimes shareholders can take advantage of various loopholes under company law. For example, if the other owner is much older than you then you could wait for them to die! Under most companies’ Articles of Association you could then take over management control and exclude their successors from management (again, unless you have agreed something else in a shareholders agreement or in tailored Articles). Not that this solves everything…

And finally…

The importance of behaving well.

When shareholders fall out they need to be very careful how they behave bearing in mind the different hats they might wear – as employee, shareholder, director, creditor… In particular you need to be very careful to comply with your duties as a director. Failing to do so could rebound on you. It could leave you vulnerable to criticism and legal challenge. You could be at risk of derivative actions being taken against you. And a judge is unlikely to exercise their discretionary decision-making power in your favour if things go to court and you have behaved badly.

 

What next? Contact me for a complimentary Shareholder Arrangements’ consultation:

If you are thinking of entering into any shareholder arrangements with business partners or investors or are having any issues or difficulties with existing arrangements please feel free to email me at andrew.james@onhandcounsel.co.uk to arrange a complimentary ‘Shareholder arrangements’ consultation where I can help you to identify what might be involved and how I can help. This will help you to avoid some of the pitfalls to which you might otherwise be exposed, and give you the peace of mind of knowing that you have an approachable competent corporate lawyer ONHAND who can provide you with experienced, effective and cost-effective advice and assistance.

If you are a director or shareholder of a company and want more information on how to deal with shareholders and director relationships so you can protect the value of your business and your role in it, together with your business and exit objectives, then please contact me.

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