...who makes the big decisions that shape your business's successes and possible failures. Over to Thomas to explain...
In a small company, and particularly a startup (where founders are likely to be new to running a business), who is making business decisions can be very different to who should be making decisions. If you own part of a company, regardless of the size of your stake, you should be aware of who is ultimately controlling your investment.
Decision-making by owners
In theory, a company is controlled by the owners – the shareholders. Shareholders vote on decisions at meetings, and whatever those who hold the majority of shares agree on, is what happens.
Ordinarily, a majority means “those people who together own more than 50% of the shares that have attached to them the right to make a decision on a certain matter” (different classes of shares can confer different rights). However, for some decisions (called special resolutions), a majority must be over 75%.
In practice, that means that anyone who owns more than 75% of the company has total control; anyone who owns over 50% is likely to be able to control most decisions; and anyone with over 25% of the shares can block any special resolution. There are also rights by law for shareholders with smaller holdings.
Shareholders can change the basis of voting on many matters. For example, they might decide that each shareholder has one vote (regardless of the size of shareholding) when it comes to deciding how much to pay the directors, and that three out of four are required to agree; or they might decide that the holders of 90% of the shares must be in agreement to take on new bank loans that bring total outstanding loans to the company over £20,000.
These rules are decided privately in a shareholders’ agreement, and these agreements can rebalance power in certain decisions in favour of certain shareholders.
Decision-making by directors
Directors run the company for the owners, usually in return for a salary. The shareholders delegate day to day decision making to the directors. For example, directors might decide which service provider to use. What decisions the directors may make, and how they make them should be recorded in two documents: the company’s Articles of Association, and the directors’ Service Agreements (employment contracts). In directors’ meetings, each director usually has one vote and the motion that has most votes is carried.
Is a decision made by shareholders or directors?
For startups, the shareholders are often the directors as well. And herein lies a potential problem.
While as shareholders, some might have more say in certain matters, as directors, the same powerful shareholders might find themselves with very little control.
If at a weekly (directors’) board meeting, two of the three director/shareholders decide that they should all receive a benefit of the use of a sports car at great expense to the company, the third director, regardless of his or her ownership percentage, can do very little to stop it easily. The only recourse is to call a shareholders’ meeting and sack the directors (provided he or she has a controlling ownership share).
That is an extreme example, but there are many more day to day decisions made that a majority shareholder might not agree with and might not be able to do much about.
Clarify who makes which decisions
The solution is to make sure that all shareholders record very carefully:
• which decisions should be made by directors, and which by shareholders; • how a decision is reached; and • which decisions a particular director can and cannot make.
The documents to do this in are those already mentioned: the shareholders’ agreement, the articles of association, and directors’ service contracts. And like most organisational tasks, this is best done as early as possible, rather than after any cracks in relationships start to appear.
Thomas Taylor a director of Net Lawman, an alternative for small and growing businesses to using a solicitor to obtain legal documents. He is a qualified accountant (FCCA, FPA/FIPA).
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