Dealing with Decision – Making Deadlocks in Private Companies

Effective decision–making is an essential part of running any business or company.

In essence, companies are governed by the democratic principle on both shareholder and board levels. This means the majority rules both on the shareholder and on the board level.

What is important to note though, particularly on the shareholder level, is that besides the underlying asset value, particularly in private companies, the ability to exercise effective control over the business and its assets by being a majority shareholder carries considerable economic value. Conversely, minority shareholding, although minority shareholders enjoy increased protection under the new Companies Act 71 of 2008 as amended, carries a lesser economic value and is often difficult to market and sell to third-party buyers. For this reason, majority shareholders are often reluctant to relinquish the effective control they hold.

The roles of a shareholder and director are distinctly different from one another, as will be investigated briefly in this article. Sound governance principles are in the writer’s view key in avoiding decision–making deadlocks on both levels and further, maintaining healthy relationships between shareholders and board members.

The distinction between shareholders and directors

Shareholders own shares in the company. Therefore investors are vital in making certain decisions.

Directors, on the other hand, are members of the board and attend to the day-to-day running of the company.

Both board and shareholder decisions are made by way of resolution.

Shareholder and Director decision making

Shareholder votes are directly correlated to the number of shares they own in the company. Directors on the other hand, generally only have one vote each and resolutions are taken on the majority vote.

It is important to distinguish which decisions are for the board and which are for the shareholders. The MOI is instrumental in outlining this.

There are two types of resolutions in shareholder meetings, ordinary and special resolutions. Generally speaking, ordinary resolutions require 50% support and special resolutions 75%. Accordingly, more sensitive decisions are taken by special resolution. Section 65 of the Companies Act lists special resolutions for shareholders. Examples include amending the Company’s Memorandum of Incorporation (“MOI”), to approve the issue of shares and entering into fundamental transactions. This is in addition to any matter prescribed to be considered by special resolution in the company’s MOI.

Proposed resolutions must be sufficiently clear and accompanied by information enabling the shareholder entitled to vote whether or not to vote in favour thereof. If this is not the case, the Companies Act prescribes that such a director or shareholder may request such information or explanation regarding a proposed resolution and if still, insufficient, a shareholder may, before the start of the meeting, “seek to leave to apply” to court for an order restraining the company from putting the matter to the vote and requiring the company to amend the proposed resolution to comply with the requirements. Notably, the above remedy cannot be applied after the meeting.

What happens in a deadlock

A deadlock is a situation, typically one involving opposing parties, in which no progress can be made. In essence, this means that equal amounts of votes are both for and against a decision.

Deadlocks can be easily avoided in shareholders' meetings by dividing the shareholding in such a way that all combinations lead to a majority vote or casting vote. This, of course, does not ensure that all decisions or processes will be dispute free, but it at least avoids the apparent threat of a deadlock when a company is owned by for example two shareholders each holding 50% of the shares.

Directors generally only have one vote each, however, many companies afford the chairperson of the board an additional vote or casting vote, usually exercised in cases of deadlock.

Where deadlocks arise on the shareholder or board level, consultation with an independent expert, mediation or arbitration can aid in the breaking of a deadlock. However, where this fails, the repercussions may be devastating. In terms of section 81 any director or shareholder may apply to the court for the winding up of a company.[1]

Conclusion

When deciding on shareholding allocation, it is important to consider the deadlock's practical and mathematical probabilities. The underlying reasons for deadlocks are complex considerations involving in the writer’s view, the essence of the human experience. The most important of these considerations is crucial that shareholders share the same values and vision for the company. This will safeguard the relationship between them and ultimately may aid in avoiding potential deadlocks.

Boards should be diverse, and directors only focused on acting in the company's best interests. 

Ideally, shareholders and directors should not be the same individuals but be two distinct bodies serving the company. If this is not the case though, those companies should ensure that shareholder directors understand the differences in the decision-making processes and the purpose thereof.

At Schoemanlaw we are passionate about business and eager to provide any guidance or assistance for companies to steer clear of any avoidable.

[1]Thunder Cats Investments 92 (Pty) Limited and Another vs Nkonjane Economic Prospecting and Investment (Pty) Limited and Others [2014] 1 All SA 474 (SCA) 

[1] Thunder Cats Investments 92 (Pty) Limited and Another vs Nkonjane Economic Prospecting and Investment (Pty) Limited and Others [2014] 1 All SA 474 (SCA)