Family Businesses: are your articles and shareholders’ agreement in need of an update?

A lot of family businesses have not looked at their articles of association and shareholders' agreement for decades. It rarely seems like an urgent task. We would suggest, however, that having up to date documents can help prevent a number of headaches, ensure that the right people remain in control of the business, reduce the risk of disputes emerging and ease the process of running the business.

This is particularly important when control or ownership of a company has changed, or the documents have not been looked at for a long period of time.

We have set out some issues to consider below. Some are quick fixes, while others go to the heart of what a family business is all about.

What are articles of association and shareholders’ agreements?

A company’s articles of association (“Articles”) and shareholders’ agreement (“SHA”) act as the two foundational legal documents for most family businesses. Together they set out the relationship between the company and its shareholders and between the shareholders themselves.

A key difference between the two is that the SHA is a private document, whereas the Articles need to be filed at Companies House. The SHA is normally therefore a good place for provisions that are not for the public to see.

Quick fixes

Corporate law has changed over the decades and many sets of Articles have not kept up. This has left some companies with provisions that are either unnecessarily restrictive or, conversely, no longer valid.

Key examples include

• Directors having to retire on rotation: it is surprisingly common for companies formed before 2006 to require 1/3^rd of directors to retire at each AGM. In practice, few family businesses want such a provision or are aware of its existence.
• AGMs: similarly, there is no longer a need for private companies to have AGMs. Some families may want to keep holding them, but for others it is a formal requirement that they can do without, when in practice they are holding discussions with stakeholders on an ongoing basis.
• Use of Teams / Zoom: many older articles of association do not contain provisions allowing meetings to take place over Teams or Zoom (or similar video technologies). Adding in such provisions make it easier to hold meetings without anyone being able to question their validity.
• Age discrimination: older Articles sometimes contain provisions requiring directors to step down on reaching a certain age. Not only have these provisions often not kept up with directors remaining active for longer, but they can fall foul of age discrimination laws.
• Keeping shares in the family: there is often no restriction on the passing of shares to non-family members. This may be important for succession and governance reasons as discussed further below.

Another common quick change is to introduce ‘alphabet shares’. This changes the ordinary shares of the company into different share classes for each shareholder / family branch (e.g. A Shares for one, B Shares for another). This can be very helpful for family businesses as it makes it easier to pay dividends to one or more shareholders to suit their circumstances, rather than having to pay the same dividend across the board.

Protection on divorce and clarity on transfer

Sadly marriages do break down, but many family businesses are not set up to safeguard the family’s interests in the event of a divorce. Having Articles and a SHA that reflect a common intention for the family business to remain in the family are a key way of limiting the claims of a departing spouse on the business. This is discussed in greater detail in our family team’s guide ‘A Legacy Intact‘.

The Articles and SHA are also critical documents where the family should include binding provisions on transfers of shares. This is particularly important in supporting in the context of succession.

The provisions can be reasonably straightforward (e.g. shares can only be transferred to family members or related trusts) or more involved (e.g. drag along rights to stop a small minority blocking a sale of the business, specific provisions setting out what should happen if a family member wants out), but with careful consideration of the conditions for business property relief to inheritance tax.

It is also important to ensure that the provisions of the Articles and SHA are consistent with the wills of family members and the shareholder’s tax position has been considered (see further here). This is normally an easy thing to sort out ahead of time, but tricky to deal with after death.

Out of date governance provisions – control rights for owners of the business

The Articles and SHA also set out the voting and other control rights shareholders have in relation to the business. There is a lot to consider here – e.g. who can appoint directors, who gets a vote and on what, which matters need explicit shareholder approval (e.g. board appointments or large transactions). What is key, however, is making sure the governance provisions have kept up with changes in the business and the family.

For instance, the family may be happy for the board of directors to have a lot of power when the board is dominated by family members, but that stops becoming appropriate as more non-family directors are appointed. Similarly, what might have worked well with a small group of shareholders might not work well as the family expands, or when a new generation starts working in the business.

Well-rounded advice can be key to supporting changes to a family business and ensuring the legal documents are up to date. We regularly support family businesses with reviewing their documents and would be happy to discuss what an update might look like for your business.