Reading time: 6 minutes

Imagine you and your friend come up with a new business idea. You go online and set up a company, owning 50% of the company each as shareholders, both appointed as directors and away you go. There are only two of you, so do not see the need for a shareholders agreement. You are friends, right?

However, what happens when you and your friend’s common interests, goals, or hours spent on the business diverge, and things turn sour? What if you or your friend can no longer contribute to the business, but do not want to let it go? Behold – the deadlock.

The best option for resolving such disputes is to have a shareholders agreement with a clear dispute resolution process. However, not all 50/50 shareholders have such an agreement. This article outlines your alternative options for resolving shareholder disputes.

Disputes Between 50/50 Shareholders

Many scenarios can lead to a dispute between two shareholders. For example:

  • one may want to receive dividends from the business, and the other to reinvest the money to grow the business;
  • they each have different expectations for how to operate the business; or
  • one shareholder does not contribute, leading to resentment.

Without a shareholders agreement to set out what should happen when the parties reach a deadlock, two friends in business together can find themselves in a difficult situation. They may each want to give the other ‘the boot’, or one may want to sell the business and its assets, while the other wants to keep it running. Often, shareholders are surprised to learn that they cannot force the other person to sell their shares simply because they are in disagreement.

Where there is a deadlock between the parties, there are often competing claims of breach of director duties and oppression. For example, the first director may claim that the second breached their duties, while the second director may claim that they were prevented from accessing critical information.

Resolving Shareholder Disputes in Court

Shareholders may think that the provisions of the Corporations Act (Act) will provide them with a solution. This is true in part. The court can make orders to resolve a shareholders dispute. Some of these orders include:

  • that the company be wound up;
  • that one shareholder is to purchase the other’s shares at a price determined by the court; and
  • directions regulating the conduct of the company’s affairs.

However, these may not be the solutions that the parties necessarily want. Furthermore, court proceedings under the Act are inevitably time-consuming, expensive and bitter.

A shareholder can also apply to the court to wind up the company on the basis that it is ‘just and equitable’ to do so. Where there has been a breakdown in the relationship of the parties, this may provide a ‘just and equitable’ basis to wind up the company. However, courts are reluctant to wind up a solvent company. In reality, this is not something that shareholders should rely on.

Resolving Shareholder Disputes by Negotiation

The more common pathway to resolving a shareholders dispute is the parties entering into negotiations and agreeing on a solution. This can be a lengthy process, and neither may feel like they ‘win’ in the end. However, if the parties are both willing and prepared to make a compromise, they can resolve the dispute through negotiation, faster at less cost than through court proceedings.

So, what are the options for resolving shareholder disputes through negotiation?

Sell or Split the Business

The shareholders may agree that neither party will continue to run the business. In this case, they will both sell the business to a third party. Or they may agree to split the assets of the business, and negotiate which assets each of them will retain.

This can be advantageous, for example, where one party has created some or all of the intellectual property for the business and wishes to continue using it, in the same or a new business. A well-drafted sale of business contract will set out what each shareholder will receive.

Negotiate a Share Sale

One party may keep their shares and continue to run the business, and the other party may opt to sell their shares. In most cases this will be to the other shareholder, giving them full control of the business. However, the departing shareholder may also sell their shares to another (third party) person.

If one shareholder proposes to sell to a third party, it is, of course, important to find someone that can bring value to the business. If the remaining shareholder does not agree with the proposed new shareholder, the company constitution may allow them to refuse the transfer of shares.

In most cases, the parties will disagree on the value of the company and the shares. Therefore, it is a good idea to have the company and shares independently valued. This will provide a firmer basis for negotiation.

Where the relationship between the parties has deteriorated too far that neither can agree to sell to the other no matter what price is offered, the parties may consider submitting a ‘sealed envelope bid’ to each other or to an independent third party. This will have the higher bid buying out the other party, in a ‘Russian Roulette’ style deal.

Company Buy-Back of Shares

Alternatively, a shareholder may negotiate to sell their shares back to the company. A buy-back of one shareholder’s shares is called a ‘selective buy-back’.

Section 257 of the Corporations Act enables a company to buy back its shares. However, a company can only buy back its shares if the purchase:

  • does not materially affect the company’s ability to pay its creditors; and
  • complies with the procedures in Chapter 2J.1 Division 2 of the Act.

A company buy-back is a technical process with different rules according to how many shares are being sold. Therefore, having legal guidance is almost always necessary.

Key Takeaways

If you and a friend have started a company together, you may find yourselves in a difficult position if the business relationship deteriorates. Even if that seems doubtful now, you need to consider what you each may want in five or more years time.

The Corporations Act has limited options for resolving shareholder disputes. Going to court is also expensive and time-consuming. In the absence of a shareholders agreement, you and your friend may find yourselves in lengthy negotiations over what each has contributed, what each is entitled to and the value of the business.

You can avoid these problems by having a well-drafted shareholders agreement that includes a clear dispute resolution process. If you require further assistance with resolving shareholder disputes, call LegalVision’s business lawyers on 1300 544 755 or fill out the form on this page.

Webinars

Redundancies and Restructuring: Understanding Your Employer Obligations

Thursday 7 July | 11:00 - 11:45am

Online
If you plan on making a role redundant, it is crucial that you understand your employer obligations. Our free webinar will explain.
Register Now

How to Sponsor Foreign Workers For Your Tech Business

Wednesday 13 July | 11:00 - 11:45am

Online
Need web3 talent for your tech business? Consider sponsoring workers from overseas. Join our free webinar to learn more.
Register Now

Advertising 101: Social Media, Influencers and the Law

Thursday 21 July | 11:00 - 11:45am

Online
Learn how to promote your business on social media without breaking the law. Register for our free webinar today.
Register Now

Structuring for Certainty in Uncertain Times

Tuesday 26 July | 12:00 - 12:45pm

Online
Learn how to structure to weather storm and ensure you can take advantage of the “green shoots” opportunities arising on the other side of a recession.
Register Now

Playing for the Prize: How to Run Trade Promotions

Thursday 28 July | 11:00 - 11:45am

Online
Running a promotion with a prize? Your business has specific trade promotion obligations. Join our free webinar to learn more.
Register Now

Web3 Essentials: Understanding SAFT Agreements

Tuesday 2 August | 11:00 - 11:45am

Online
Learn how SAFT Agreements can help your Web3 business when raising capital. Register today for our free webinar.
Register Now

Understanding Your Annual Franchise Update Obligations

Wednesday 3 August | 11:00 - 11:45am

Online
Franchisors must meet annual reporting obligations each October. Understand your legal requirements by registering for our free webinar today.
Register Now

Legal Essentials for Product Manufacturers

Thursday 11 August | 11:00 - 11:45am

Online
As a product manufacturer, do you know your legal obligations if there is a product recall? Join our free webinar to learn more.
Register Now

About LegalVision: LegalVision is a commercial law firm that provides businesses with affordable and ongoing legal assistance through our industry-first membership.

By becoming a member, you'll have an experienced legal team ready to answer your questions, draft and review your contracts, and resolve your disputes. All the legal assistance your business needs, for a low monthly fee.

Learn more about our membership

Need Legal Help? Submit an Enquiry

If you would like to get in touch with our team and learn more about how our membership can help your business, fill out the form below.

Our Awards

  • 2020 Innovation Award 2020 Excellence in Technology & Innovation Finalist – Australasian Law Awards
  • 2020 Employer of Choice Award 2020 Employer of Choice Winner – Australasian Lawyer
  • 2020 Financial Times Award 2021 Fastest Growing Law Firm - Financial Times APAC 500
  • 2020 AFR Fast 100 List - Australian Financial Review
  • 2021 Law Firm of the Year Award 2021 Law Firm of the Year - Australasian Law Awards
  • 2022 Law Firm of the Year Winner 2022 Law Firm of the Year - Australasian Law Awards