We can advise and assist you whether you want advice on your company articles, need to adapt or amend them or are confused as to how articles and shareholder agreements work in tandem.
The vital role of company articles
Articles set out how a company is to be run both from an administrative and a management point of view and regulate the role of directors and the rights of shareholders, and as such are vitally important, especially in the absence of a shareholder’s agreement.
It is important to be aware that the Articles are filed on the company’s register at Companies House and are therefore a public document which the general public can access. Shareholders of a company often for this reason have shareholders agreements in place which also govern how a company will be run on a day to day basis but also contain terms that the parties may wish only the other shareholders to be privy too.
The interconnection between company articles and a shareholder agreement
Articles of Association are commonly amended but if they have not been amended, the company articles are likely to be in standard form, which are called table A articles. The protections that these provide on shareholdings is a s follows :-
- Directors have day to day control of the company but can be removed by ordinary resolution.
- Most shareholder decisions will be by ordinary resolution, which is 50% or more.
- Some decisions can only be made after a special resolution which requires 75% of votes to pass. With 75% ownership or more, a special resolution can be used to change the articles, which as stated above, are the internal rules of the company, so a 75% shareholding gives total control of a company.
- There is no definitive right to receive a divided on profits
Minority shareholders risks where standard table a articles apply
A key point if you are a minority shareholder is to understand that table a standard articles offer you very little protection. In the absence of a comprehensive shareholders agreement which protects your interests, you are taking a major risk that the majority shareholders will be able to run the company as they see fit and for their advantage. fairness may not apply.
Company law will be unlikely to protect you adequately and/or by the time you take legal action, it may be too little. It is far better to have the power to stop or block or be advised of issues before they prejudice your interests.
Key ways in which articles can be amended to protect minority shareholders include :-
- Specific blocking rights
- Enhanced voting rights
- Pre-emption rights
- Share capital changes – to protect minorities from dilution. However there may be a proviso that no shareholder can object solely on the grounds of dilution to the issue of new shares to parties investing in the company at the invitation of the board.
- No steps to liquidate the company – save in the case of insolvency.
- Not to sell the business or its assets including land and property – save in the ordinary course of business or perhaps by reference to a definition of material or substantial assets.
- Not to acquire other companies, businesses or assets, including land and property – this is a veto that may well need negotiation and clear definition as otherwise it can be very limiting.
- Loans or guarantees – likely to require clear drafting and possible give and take on amounts which would be acceptable and to enable the business to function on a day to day business, such as possibly granting credit to customers up to certain values.
- Transactions with connected parties – e.g. management or other contracts with shareholders or other business with which they are associated, otherwise than at arms length.
- Transfer of shares – except in accordance with the rules for pre-emption rights set out in the shareholders agreement or Articles.
- Borrowings – often subject to a stated limit and usually with exceptions like finance leases, hire purchase, etc
- Long-term and/or exclusive agency or distributorship agreements/assignments or exclusive licences of intellectual property – these agreements can represent important and potentially costly commercial arrangements which are of strategic importance.
- Service agreements, senior employee contracts, consultancy contracts and material changes to any already agreed – the fear here may be that other shareholders may manipulate such agreements to enable themselves or allies to benefit, increase control with key alliances internally and/or reduce profits for dividend.
- Long term lease or property commitments – for land or property and including finance leasing arrangements involving large sums.
- Changing auditors or accounting policies – this might also include bank signatories on cheques, etc
- Litigation – not to start legal disputes over a certain value without consent/input and the same principle applying where the company is a defendant, so that you have some strategic oversight.
As is apparent from the above, with a 50% plus shareholding, 1 or more shareholders acting together can effectively control a company with standard articles and no shareholder agreement – with 75% they will have total control and can change things in a way which totally suits them, subject to minority shareholder protections in the Companies Act
What do the articles of association contain? Standard Table A suffice?
The starting point for the vast majority of articles of association will be standard articles, which are known as Table A articles. These are fine to the extent that they provide a comprehensive set of general rules but, as stated above, in the absence of a suitable shareholders agreements, Table A articles can be very risky for investors who are not involved in the day to day running of a company or who are minority shareholders. Having unamended articles and no shareholder agreement can be disastrous in these circumstances, and this is one of the main reasons for expensive shareholder disputes down the line.
The Articles will contain a number of different sections relating to :-
- directors, how they will be appointed and removed
- what rights or restrictions there are on directors in respect of the running of the company
- whether directors can vote in transactions that are connected to them etc. Also there will be details on how many classes of shares the company has and what rights those shares have.
- possibly pre-emption rights whereby the shares of the company cannot be sold without for example offering them to the other shareholders first, or often in respect of family businesses there is an article which states that no non-family member can hold shares without the approval of all of the other shareholders.
- the procedure for issue and transfer of shares should also be contained in the Articles and details of any borrowing powers of the Company.
- the Articles will bind each member of the company and they must all comply with them although if there is a shareholders agreement in place it is important to see whether it contains a clause which provides that if there are any conflicts with the Articles it will prevail, or vice versa.
Amending, changing or updating articles of association
The Articles can be amended by the members of a company but a special resolution will need to be passed (75% or more). The special resolution must then be filed at companies house within 15 days of the change taking effect. Failure to do so can result in a fine and is considered to be an offence by the company and every defaulting officer. Many companies have amended their Articles recently to bring them in line with the current law under the Companies Act 2006.
Shareholders also often amend their Articles on the happening of certain scenarios such as investment from a third party whereby the Articles could be amended to introduce a new class of shares which has specific rights designed with the investor in mind or to prevent one shareholder from selling its shares without first offering them to the remaining shareholders.