Company structure, and how it works

The starting point for understanding how a company operates is to recognize the difference between the directors (who are also known as ‘the board’) and the shareholders. Although in a small, privately-held company the directors and the shareholders are often the same people, they are actually two completely different roles, with separate rights and obligations.

The company’s board is made up of all the appointed directors. If you have three directors, for example, then you have three people sitting on your board. In theory, any decision that is made by the company needs to be agreed by the board. This includes the smallest decisions right through to the largest. So, even a decision such as whether to buy a new jar of coffee for the office needs to be agreed by the board.

Clearly, this could become unworkable very quickly. So, in practice, the board can simply decide that it doesn’t need to formally agree every single decision taken. Rather, it will give some limited responsibility for lesser decisions to other people within the company and reserve the right for ‘important’ decisions to be taken at board meetings.

This situation still works, legally, because this permission has been granted by the board, so we can see that the board is still in control.

So now, how does the board actually make its decisions? Usually, this occurs through a simple majority vote of the directors. If you have three directors sitting on your board, then a 2:1 majority will pass a board resolution. Board votes are not affected by the number of shares each director may hold.

A board may, for example, have three directors, one of whom is the founder who holds 90% of the shares, while the other directors own 5% of the shares each. Many people are surprised to learn this, but the director with 90% of the shares can still be out-voted by the other two directors, who hold just 10% of the shares between them. Again, this is because the board works on a simple majority vote basis. However, these basic board voting provisions can be overridden by placing specific terms in a shareholders agreement. However, if there’s no shareholders agreement in place, then the majority voting rules outlined above will apply.

Additionally, because the board acts on a majority basis, if there is an even number of directors, say, two directors, and they can’t agree, then the board is said to be ‘deadlocked’. This means that the board can’t act, and can be a major problem, as one director isn’t permitted to do something to which the other director disagrees.

In these instances, it can save a lot of argument and difficulties if a shareholders agreement with suitable provisions has been drawn up before the board reaches this sort of impasse. Suitable provisions can help resolve any dispute or deadlock that may arise. For example, a simple provision could be to give one director (often a ‘Chairman’) a casting vote in the case of a tie. However, more often, the agreement will require specific ‘deadlock resolution provisions’ (see our article here) to create an effective resolution process.

In contrast to the directors of a company, the shareholders have very little day-to-day control over the matters relating directly to the company’s operations. Usually, shareholders only get limited rights to vote on certain matters, such as:

• the issue of new shares;
• changes to the articles of association; and
• winding-up the company.

Each shareholders’ vote requires either an ‘ordinary resolution’ or a ‘special resolution’. An ordinary resolution means a vote which is carried by more than 50% of the shareholders, and a special resolution refers to a vote which is carried by 75% or more of the shareholders.

It’s possible to draw up the terms of a shareholders agreement to require the company to obtain the prior consent of the shareholders before carrying out any number of actions which can be listed in the shareholder's agreement. This is one of the ways shareholders can be given greater rights over the company than they would otherwise usually have.

Finally, the main ‘protective rights’ that shareholders will have which can prevent the directors from operating the business in a way they may consider unfavorable to the shareholders, is the right to appoint new directors or remove existing directors from the board. This right is granted under the Companies’ Act to shareholders holding more than 50% of the shares, and it can’t be removed by the company.