Selling a Minority Shareholding in a Small Business (Australia)

There are many valid reasons for considering selling a minority shareholding in your business. Some common reasons include;

1. Rewarding or retaining key staff members who contribute to ongoing business success.

2. Bringing in a shareholder (typically family members or key employees) as part of the owner’s long term exit planning.
3. Accessing capital for business growth.
4. Taking on a strategic partner who can help the business grow faster with their buying power, Intellectual Property or customer base.

This may seem straightforward on paper. You and the potential shareholder will easily see the business sense, very much like 1 + 1 = 3!

In a practical sense, working alongside each other day-to-day as co-shareholders – as distinct from employer / employee – is rarely straight forward.

In the excitement of a co-investment, it’s easy to forget in the decision-making process discussing the possibility of potential issues. Without this upfront clarity on both sides, the probability of conflict on a whole range of business areas is high.

Considerations such as:

1. Will profits be paid out or reinvested?
2. How will we actually work together when we are both co-shareholders?
   Understanding that working together as key employee and owner versus independent business partners is very different.
3. How will key day-to-day business decisions be made?
4. What’s the plan if our plan doesn’t go to plan?
5. What if one party needs to exit quickly?
6. What if the business gets approached to sell?

These questions highlight the huge adjustment for an owner who has always had the complete freedom of 100% ownership and control, and decisions.

For a current employee and potential business owner (who is getting the minority shareholding), it can be easy to lose sight of their ongoing obligations as a key employee and the line between employee and owner.

Consider the following very practical suggestions to pave the way for a better outcome.

 

1. Get professional advice on a Shareholder’s Agreement

Essentially a contract between the shareholder owners of a company that sets out the various rights and responsibilities. An agreement would cover a wide range of items like:

• who can serve on the board of directors, 

• what happens if one of the shareholders dies, 

• how a shareholder may transfer, sell or assign its shares to third parties, dividend distributions etc. 

A google search will give you plenty of information on what is covered and even templates. The process of negotiating an agreement is incredibly valuable in of itself as it tells you much about the way your potential co-shareholder ‘operates’.  

2. Ensure you have a shared vision and plan for the business. 

Going into business together is a momentous step to take. As co-shareholder you need to be in alignment on the future direction of the business and what is required to deliver that in terms of organisational structure, operational and financial resources.

3. MAINTAIN Business As Usual

All parties need to keep a focus on running the business 'as usual', despite all the excitement, to preserve the value of the business they will all be owners of.

4. Employee Role Descriptions

There should be clear boundaries between an individual’s role as an employee and as an owner. Employees need to keep delivering what their role requires. If they become an owner, they may take on extra responsibilities as an owner (maybe a Director) but that is additional to and shouldn’t negatively impact their day-to-day employee responsibilities. For owners transitioning from 100% ownership and control, a clear Role Description should be created to avoid confusion and provide confidence to the new shareholder/s that ‘all the ducks are in a row’.

5. Governance

There are a range of formal and informal ways to structure governance to ensure regulatory, legal and other Director / Shareholder obligations are met. A well-structured Shareholder’s Agreement will cover this. 

6. Preparing for Disagreements

Even with all the best pre-legal advice, you still want to avoid having to re-purchase or re-sell a minority shareholding. I’m a fan of architecting some disagreementsscenarios prior to signing, where you can see how your future potential co-shareholder responds or reacts under pressure and/or when there is uncertainty or time constraints for a decision on an important business or financial issue. 

For the existing 100% owner, and prior to ‘signing on the dotted line’, it’s wise to consider and then re-consider;

1. How much control and decision-making power you will lose versus what additional ‘new blood’ you bring in.
2. The emotional impact of losing ‘total control’.
3. Your personal exit timeline and how bringing in a minority shareholder will impact this and prospects for a future sale of the entire business.
4. Alternatives to incentivise the aspiring shareholder (financially at least), such as profit share, enhanced roles and salary packages.
5. The tax implications of selling a shareholding.
6. Other legal and business advice from experienced advisers who cover off what to do when it goes ‘pear-shaped’. But, more importantly, what to avoid, based on their experience, before making a really difficult/stressful/costly decision to sell a shareholding.

There is definitely upside for most businesses, the selling owner and incoming monority shareholder from a well thought out and properly structured partial share sale agreement.

But to deliver the potential and increase the chances of avoiding a stressful and costly shareholder dispute, the decision needs to be unemotive with independent advice and a deeper two-way business and personal due diligence approach. 

The discussions on selling and buying a minority shareholding are exciting for both sides and are underpinned by a joint, positive outlook for the future of the business. As a result, it can be damn hard to remove emotions and avoid questionable emotional judgements when making major decisions in this. For example, if they’re family or you’ve know them a long time and trust them.

To ensure you stand the best chance of making the co-ownership work, and to avoid a lot of potential pain, get some independent advice and force yourself to consider the implications for you, your co-shareholder and the business if things do actually go pear-shaped. Consider it the small business version of the ‘ice bath’.

All the best, Michael