Written By:

Emily Shingler

Associate 

Darwin Gray

 

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All limited companies will have a set of rules which govern and regulate how the directors and shareholders run the company. These rules are called “Articles of Association” and are sometimes referred to as a company’s constitutional or governing documents. Commercial law firm Darwin Gray look at some key considerations.

When incorporating a company, unless you provide bespoke articles then your company will automatically adopt articles called “Model Articles”. These are commonly adopted if you incorporate your company using your accountant, or an online incorporation agent.

But are the Model Articles fit for purpose for most companies, or is it worth adopting bespoke articles?

1.      How many directors do you have (or plan to have)?

There is currently a lack of clarity in the Model Articles in relation to the quorum for board meetings where there is a sole director. The default provision in the Model Articles provides that a quorum is any two directors, however also suggests that a company can act with only one director.  The generally accepted view has always been that a company with Model Articles can act with a sole director, however this has been cast into doubt by case law which has suggested that a company with Model Articles cannot act with a sole director.

For clarity, we would recommend amendments to your company articles to ensure you have clarity on how many directors are required for a quorum. For larger companies with larger boards, it may be appropriate for the quorum to be increased to a greater number of directors (or a set proportion, say 60%, of the number of directors appointed from time to time).

2.      Do you want to control who may appoint directors to the board?

The default position under the Model Articles a director to be appointed by the shareholders based on a simple majority of the voting rights being cast.  Depending on your company’s circumstances, you may wish to amend this. For example, investors often want the right to appoint directors provided they hold, say, 15% of the equity of the company. Alternatively certain investors or shareholders may always want the ability to appoint a director to the board regardless of their shareholding, or alternatively may want to provide that no director may be appointed without a particular shareholder’s approval.

3.      Do you want the chair of the board of directors to have a casting vote?

The Model Articles provide that, in board meeting, if there is an equal number of votes for and against a proposed resolution, then the chairman will get a casting (or second) vote. This potentially gives the chair of the board a lot of power and influence at board level, and may not be something that you intend for your company.

Some companies wish to retain that casting vote, but go further and set out who may be the chair of the board – for example, a significant investor in a company may always want the right to nominate the chair of the board of directors in order to maintain a more significant influence.

4.      How do you want to manage director interests?

The standard provisions in Model Articles provide that a director must declare any interest they may have in a proposed transaction with the company, and may then not count in the quorum of vote upon that proposed transaction.  This can cause practical issues as the non-interested directors may not be of sufficient number to be quorate. This then results in shareholder approval being required for the decision – resulting in additional paperwork and often delay.

Commonly, where companies are run by owner-managers, the articles will be amended to provide that a director may still vote and count in a quorum provided that they declare their interest in the proposed transaction.

5.      How many classes of share do you want to have in issue?

If you want to have different classes of share in your company (for example, to have non-voting shares, or to provide for different dividends etc), the information about the rights attaching to those shares should be set out in the company’s articles.  The Model Articles only deal with one class of share, and therefore are not appropriate for any company with additional classes.

6.      Do you want to have rules around shareholders selling/transferring their shares?

Most companies want to have additional rules and procedures in relation to a shareholder’s ability to sell their shares to someone else – and to provide for some circumstances in which a shareholder will automatically be deemed to have transferred their shares (usually either to the other shareholders, or back to the company itself).

Commonly pre-emption rights will be included in a company’s articles to provide that if a shareholder wishes to sell their shares, they must first offer them to the existing shareholders on the same terms as they propose to sell to a third party. The rationale for a clause of this nature is that the existing shareholders may not wish to end up in business with a third party they do not know. However, if the existing shareholders cannot (or choose not to) buy the shares, the selling shareholder can still proceed with the sale to a third party.

In relation to mandatory share transfers, these are commonly included for situations such as death and bankruptcy, but can also be expanded to include situations such as a shareholder leaving their employment with the business, or a shareholder being convicted of a serious criminal offence. A company can expand on these further by dictating the price at which the shares would be purchased depending on whether the outgoing shareholder is a “good leaver” or a “bad leaver”.

7.      Do you want existing shareholders to have the right of first refusal over new allotments of shares?

Under the Companies Act 2006, existing shareholders automatically have a right of first refusal in relation to any new allotments of shares by the company. However, if your company plans to attract more investors, it might not be appropriate for this to remain in place. It is possible in the articles of association to expressly state that this right of pre-emption shall not apply to new allotments.

If you have a company with Model Articles, it is not too late to make amendments to them. A company can adopt new articles at any time provided that the holders of at least 75% of the voting rights in the company vote in favour of adoption new articles, and providing any other consents which might be required are obtained (for example any permissions required by any shareholders’ agreement or any investment agreement you might have in place).

If you would like to discuss proposed amendments to your company’s articles, please get in touch with a member of our corporate team, Emily Shingler, on [email protected] or 02920 829 120 for a free initial chat to see how we can help you.