What types of deadlock clauses are used in Shareholder Agreements?
A deadlock clause is a provision to resolve a situation where there is a major disagreement (or ‘deadlock’) between shareholders, but no side has the majority vote. i.e. if 4 shareholders disagree on an issue and they each hold 25% of the company’s shares.
To resolve a ‘deadlock’, shareholders follow a procedure set out within their shareholders’ agreement ( the deadlock clause).
There are numerous procedures that can be employed to resolve a ‘deadlock’, which is why no two deadlock clauses are the same.
Common examples of deadlock clauses
1. Russian Roulette Deadlock Clause
This clause entitles one or more shareholders, who agree on a resolution to the issue, to buy the other shareholders shares out at an agreed upon price, but also entitles the other shareholders to buy them out at the same price. If nobody agrees to sell at this price, this clause can escalate to allow counteroffers, until a suitable price is reached. This solution typically forces the exit of a number of shareholders and favours shareholders who are in a stronger financial position.
2. Auction Deadlock Clause
This clause entitles one or more shareholders to “bid” for the other shareholders shares.
3. Arbitration Deadlock Clause
When a disagreement occurs, an independent outside expert is called in to look at the facts. The expert has the power to impose a solution and make a decision. All shareholders will equally share the cost of securing an expert. This clause is most suitable in matters are factual or technical in nature.
4. Chairman Deadlock Clause
This clause entitles one of the shareholders to become the Chairman in the event of a deadlock. The Chairman has the casting vote and has the power to make a decision, effectively negating the concept of joint control. This clause is only suitable when there are more than two shareholders.
5. Liquidation Deadlock Clause
This clause forces liquidation in the event of a deadlock. The shareholders equally share in the costs and expenses of liquidating the business. This solution tends to occur if the issue has been in deadlock for a significant period of time. This clause is only suitable in serious situations whereby the business is on its last legs.
6. Meeting Deadlock Clause
This clause states that all shareholders (or if the shareholders are themselves companies, their Managing Directors) must meet either personally or electronically for an extended meeting in an attempt to resolve the issue and come to an agreement, which is usually achieved through compromise.
7. Mediation Deadlock Clause
This clause is similar to the meeting clause above, but has the additional component of an independent mediator who facilitates and controls the meeting, with the goal of reaching an amicable compromise. Unlike the arbitration clause, the mediator has no power to impose a solution or make a decision. The shareholders share the cost of the mediator.
8. Fairest Deadlock Clause
This clause forces all of the shareholder/s to make a sealed offer to buy the shares of the other shareholder/s. All of the offers made are given to a third party who must decide which offer is the ‘fairest’. The fairest offer is the one that must be accepted. This solution typically forces the exit of a number of shareholders and favours shareholders who are in a stronger financial position.
9. 100% Buyout Deadlock Clause
This clause is similar to the chairman clause in that it entitles one of the shareholders to be authorised (for a set period of time) to locate and contract with a buyer for 100% of the company’s shares, for the same price per share. If the nominated shareholder fails to secure a buyer, the authority to find a buyer moves to another shareholder. This continues until all shareholders have had a chance to secure a buyer. If no buyer can be found, another solution must be sought.
The clauses listed above are just some of the common solutions to deadlocks.
Due to the sheer number of clause types and the complexities involved in choosing the correct one to use for your company, it is recommended that you seek assistance from a legal professional before deciding upon which clause/s to include in your shareholder agreement.