What types of deadlock clauses are used in Shareholders Agreements?
Deadlocks between shareholders can be costly, time-consuming and detrimental to the success of a business. A deadlock occurs when the shareholders of a company cannot agree on a decision and no side has the majority vote, leading to stalemate in the company’s operations and decision-making.
Deadlock provisions in shareholders agreements set out a mechanism for the resolution of deadlocks and are vital for ensuring that a company is able to move forward. There are numerous procedures and mechanisms which can be employed to resolve a deadlock, and the type of clause used in a shareholders agreement will depend on the specific circumstances of the company.
Some common examples of deadlock clauses are set out below:
Russian roulette clause
A Russian roulette clause is a type of deadlock clause which allows for each shareholder to send a sealed bid for the others’ shares to an independent third party. All the bids are revealed at the same time, and the highest bid wins. The winning shareholder is then required to buy the others out at that price. This form of deadlock resolution typically forces the exit of a number of shareholders and favours those who are in stronger financial positions.
Arbitration clause
An arbitration clause provides for a formal process whereby an independent outside expert (the arbitrator) is called in to resolve a dispute. The arbitrator has the power to make a binding decision which is legally enforceable, and the cost of engaging the arbitrator is typically borne equally by all the shareholders.
Mediation clause
A mediation clause provides for a process whereby an independent third party (the mediator) helps the shareholders to resolve the deadlock by finding a mutually acceptable solution. The mediator does this by facilitating a meeting of the shareholders. Like in the arbitration clause, the cost of engaging the mediator is typically borne equally by the all the shareholders. However, unlike an arbitrator, the mediator has no power to impose a solution or make a decision.
Chairman deadlock clause
A chairman deadlock clause entitles one shareholder to become the ‘chairman’ in the event of a deadlock. The chairman is then entitled to the casting vote, giving him or her the power to make a final decision. This clause effectively negates the concept of joint control and is only suitable where there are more than two shareholders.
Liquidation clause
A liquidation clause forces liquidation of the company in the event of deadlock, the cost of which is shared equally between the shareholders. Liquidation clauses are often used as a last resort when other methods have been unsuccessful and tends to only occur if the issue has been in deadlock for a significant period of time.
It is important to remember that the type of deadlock clause used in a shareholders agreement will vary depending on the specific needs and circumstances of the company. Deadlocks can pose a significant challenge for companies. At worst, they can bring the operations of a business to a standstill, causing loss of profit. At best, they are a considerable disruption to the management of the company. For this reason, it is essential to seek expert legal advice when preparing a shareholders agreement.
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