Standard articles rarely cover the detail and risks if there is more than one shareholder or director.

Solicitors for company articles of association

The articles of association form the backbone of the company serving many purposes. The articles govern the three components of business – income, voting power and capital and they also control the activities of directors and shareholders.  For that reason companies do implement tailored articles of association and we help them.

Please do call us to discuss any queries.

Why you might want to change the standard Articles of Association

Your requirements will depend upon the purpose of the company, shareholder voting power and the management structure. We have picked out some situations where we have implemented bespoke articles of association to address specific concerns of the founders, investors or shareholders.

Specific reasons to adapt standard articles

Bearing in mind directors have wide powers under model or standard articles of association, there are significant dangers that can arise for minority shareholders. Some of the main dangers can be averted if agreement can be reached to adapt the articles to :

  • provide that the main assets or the business will not be sold without approval of all shareholders or at least 75% shareholdings;
  • not to acquire other businesses without approval;
  • not to borrow over a certain amount without shareholder approval;
  • not to grant credit over a certain amount without shareholder approval;
  • not to enter into any material agreements with businesses connected with any of the directors or shareholders without shareholder approval;
  • not to become involved in any legal dispute over a certain value or of a certain type without prior shareholder approval.
  • not to change auditors or accountants unless prior shareholder approval has been given.

Offering shares under the Articles

If you use the model articles of association supplied upon incorporation, the existing shareholders of the company will be able to block any issue of shares where the shares have not been offered to all the existing shareholders pro-rata to their shareholdings.  This right is known as the right of pre-emption and is automatic.

Disapplying shareholder right in the articles

However, it is possible to dis-apply the right of shareholders to be offered shares if you either amend the model articles or hold shareholder approval.

Change articles to provide different rights to shareholders

All shareholders with the same class of shares have to be treated equally with regard to dividend, voting and capital rights. This means, for example, that you have to vote the same dividend to the same type of shares – if you only have one class of shares owned by people who should receive different rates of dividends you have a problem.

If you want to differentiate between shareholders you will need to create separate share classes and set out the rights in the articles of association. Standard articles of association do not deal with different share classes.  If you ignore the articles of association the shareholders will have claims against the directors and the company.

Protecting minority shareholders under bespoke articles of association

Minority shareholders carry little influence individually. Minorities will be bound by the decisions of majorities, however unfair or unreasonable such decisions of the majority may be. However, with bespoke articles of association drafted to require consent from minorities to major decisions the minorities can be empowered to protect their investment.

Dismissing a director

Without specific rights set out in the company’s articles, the shareholders right to remove a director is lengthy and fraught with complexities.

Commercial expediency

Commercial expediency required in these situations means that you will suffer problems if you do not have bespoke articles of association which provide for faster routes of dismissal than those provided for under the model articles downloaded on incorporation.

Public record

The articles are a public document open for inspection by all at Companies House. If you want to keep details relating to shareholders rights private you will need to include provisions in a shareholders agreement which is an alternative to changing your company articles.

Changing articles of association

The most favourable time to change or amend your company articles to include and deal with some of the issues detailed above is on incorporation. However, circumstances change in companies such as where the number of shareholders increases and there is external investment. Our lawyers can advise on the best and most cost effective approach.

Unless you have agreed otherwise, to change the articles at least 75% of shareholders with voting power must vote in favour of any change. This compares with 100% of shareholders needing to agree any change to the shareholders agreement. We can advise you on what should be included in updated articles and what should be dealt with in a shareholders agreement.

Managing dilution via the articles of association

Dilution means that any new issue of shares will reduce your shareholding in the company.  For example, if you hold 10 shares out of a 100, you own 10%, but if 20 new shares are issued you will own 10 out of 120 which is 8.33%. The question becomes, does the new share issue generate sufficient value to justify your decrease in shareholding? This is an area where disputes can easily erupt.

Dilution can be managed but only if you have reserved the powers to control dilution in either the articles of association or the shareholders agreement.

Powers of veto

An effective management tool is to build into redrafted articles of association powers of veto – this power enables shareholders to block decisions.  It is common to include a power to block the dilution of shares unless shareholders agree.

Compulsory transfers of shares in amended articles of association

Without specific drafting in the articles of association there will be no control for shareholders on the transfer of shares. Control rests with the directors in standard articles.

If the shareholders do not want to rely on the decisions of directors they need a procedure set out in the articles dealing with the sale of shares. Such clauses are common and can deal with:

Rights to buy shares from departing shareholders

The articles of association can be used to determine the value of shares being sold.  This is often called “good and bad leaver”.  There are no fixed rules on how value must be determined.  Bespoke articles of association are used to plug the gaps which exist at law.

It is possible to set out who has the right to buy shares.  For example, the company can be given first choice to decide if it wants to buy back shares and cancel them.  Failing that, groups of shareholders can be given the option. Or, all shareholders have the choice but pro-rata to existing shareholders.

The right to sell shares to 3rd parties can be managed via the articles of association to keep shares in the right hands.

Rights to bind shareholders into a trade sale using the articles of association

  • The articles of association can be adapted  to include “drag” clauses whereby shareholders are all forced into a 3rd party sale.
  • If a substantial shareholding is being sold, the articles of association can be used to protect minorities.  The minorities can be given the right to sell on the same terms – known as “tag”.

Employees and directors who leave employment

Without prior modification to your articles of association the employee will be able to retain his shares.  The articles of association can be used to overcome this problem.

Get in contact with us if you need solicitor advice on any aspect of company articles – drafting, review, adapting or changing your company articles. We also advise on issues relating to how the articles work with a shareholders agreement also in place.

 

 

Let us take it from here.

Call us on the number below or complete the form and one of our team will be in touch.
020 7438 1060