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Unusual situation part 2

Further to my recent thread ‘unusual situation’ (link below)...

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To all who replied to my recent thread (https://www.accountingweb.co.uk/any-answers/unusual-situation) - thank you for all who commented and confirmed my thinking. 
 

This is turning into a PITA, but they have otherwise been good clients for many years so I am persevering.  As a refresher, the company is loss making (funded by loans from 1 Director). The other director is very elderly and his only income consists of a much reduced state pension only.  He lives with his wife Mrs B (soon to be divorced) who is complaining that he is not contributing to the household costs etc.  A couple of years ago, this Director transfered 47% of his 49% shareholding to Mrs B.  (The other Director who has funded the losses owns 51%). 
 

They have been trying to secure investment for many years and have poured blood sweat and tears into the company, trying to commercialise an invention. 
 

Mrs B has now 'had enough' and wants a payout. She acknowledges that she cannot receive a payout at present, as the company is loss making and lacks funds. However, Mrs B is pushing for an agreement whereby she receives 30k (for which she is willing to give up 30% of the company) as soon as the company a) becomes profitable or b) secures investment (dangerous in my opinion)
 

My response has been as follows:

- aside from the fact an incoming investor is not going to be impressed (to say the least) with 10% of his/her c. 300k investment to be used to pay off a shareholder (by whatever means), I have explained that any such payment cannot just be made willy nilly; a payment to a shareholder would normally be a dividend, and dividends are not an option, due to insufficient profits

- the response is then "she will give up her shares in exchange", to which my response is "ok, so you're looking at a sale of shares..." - the company cannot buy back Mrs B's shares from investment received, as this would be in contravention of Conpanies Act 2006 Part 18 sections 658 to 737 - there would need to be sufficient reserves.

- I also point out that selling 30% of the company for 30k puts a 100k valuation on the company, so why would an investor pay 3 x that?

The response from Mrs B (who I have never spoken to - my contact is with the directors) is that she doesn't care how, there "must be a way". 
 

It appears she would be willing for some kind of "guaranteed future dividend when x amount of profit has been made by the company ". 
 

This doesn't make sense to me either, as dividends cannot be contracted for in advance of the actual profits having been made.

Before I go any further (I'm seriously considering removing myself from further discussions along these lines), am I missing something? 
 

It simply cannot be done, and rightly so, as this Mrs B has contributed nil / nada / nowt to the company and the idea of her receiving a payment from same company is ridiculous. 
 

Obviously another party could buy her shares from her, but the directors are not in a position to do this personally. 
 

To reiterate, I have only ever dealt with the two directors, who came to me a few years ago, with a new ltd co., looking for accounts to be maintained, and have been trouble free until recently. I set them up on Cloud accounting, they have received various innovation grants and have done some product testing etc, have spent a fortune on patent applications, but have been decent clients on the whole. 
 

It is only recently that conversations have ventured into this territory, as director 2's soon to be ex wife is making demands. 
 

Am I missing something or is this as preposterous as it appears to me to be? 
 

TIA

Replies (9)

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paddle steamer
By DJKL
22nd Mar 2021 13:40

Maybe redeemable (in the future) preference shares might work, however this seems a problem for Mr & Mrs 2%/ 47% to resolve.

If I am Mr 51% unless she is going to be a real pain, and it is worth my hassle, why should I agree to do anything? Effectively they are her shares so she can find a buyer for them if she wants to sellthem, the other shareholders are under no obligation to make a market for her.

Edit- Also I would not do a deal where she only sells 30%, it is her entire 47% holding that gets sold/ converted to prefs or it is no deal, if her and Mr 2% are divorcing but he is still involved I would not want her holding any voting shares post any deal.

My experience with buying out other shareholders with unrealistic expectations is time wears down their price expectations, one 25% holder I negotiated with to sell was a ten year project.

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By Paul Crowley
22nd Mar 2021 13:52

Is the company actually worth anything at all, other than hope value on a not yet complete patent?
Maybe consider resolving the loans by passing out rights to the not yet complete patent and kill the company off

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By I'msorryIhaven'taclue
22nd Mar 2021 14:04

So if, prior to their divorce, Mrs B were to give 30% of her shares back to her husband, and if he in turn were to issue her with his personal promissory note for £30k, then she'd avoid CGT liability.

More importantly, the investor would be unaware of the valuation of the shares upon their transfer W to H, so there's be nothing there to undermine the £300k valuation.

Could Mrs B be made to see that if she sells the shares, whether to husband or company, she effectively reduces the value of the company's shares to £100k and in so doing torpedoes the £300k investment valuation? Which in turn would mean (i) no £30k for her; and (ii) her remaining 17% shareholding would instead of being worth 17% of £300k, would be worth 17% of zulch. The obvious workaround, from her point of view, would surely be to gift shares to her spouse.

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By OldParkAcct
22nd Mar 2021 14:17

Perhaps one avenue to look at was whether the original transfer to wife was properly documented and permitted by shareholders agreement and articles? Were there no preemption rights is stop director 2 transferring the shares?
The only practical route is for director 2 to “purchase” the shares back from his wife, funded by reducing his claim on the other marital assets.
If there are no other marital assets then the transfer terms could have the consideration being paid on a future event, eg sale of shares, receipt of dividend.
If the company is capable of raising £300k for 10% then the £30k for wife’s shares looks very cheap.

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By paul.benny
22nd Mar 2021 14:31

Manchester_man wrote:

It appears she would be willing for some kind of "guaranteed future dividend when x amount of profit has been made by the company ". 
 

This doesn't make sense to me either, as dividends cannot be contracted for in advance of the actual profits having been made.

Preference shares?

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By Wycher
22nd Mar 2021 14:35

It maybe worth clarifying where the patent actually sits as to whether the company does formally own it.

Also I think there is an strong argument for having an honest discussion with the potential investor, he may see it as expedient to get a potentially hostile shareholder out of the business to enable the directors/shareholders to focus on finally making the patent work for the business. I certainly cannot imaging investing £300k without knowing that all the parties where going to be working together and focused to achieve the desired outcome.

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By Manchester_man
22nd Mar 2021 18:02

Huge thanks to all contributors! I had thought about preference shares, in the way of ‘preference shares with a fixed dividend of x’ but then Mrs B still owns the shares; I hadn’t thought about redeeemable pref shares, so thanks DJKL.

I now discover that the reason Mrs B wants the payout, is to compensate her for becoming diluted ‘when’ an investor comes on board. There is an agreement that the 51% shareholder will retain 51% and the remaining shareholders will be watered down.

So the payment is
a) only applicable when profitability is reached (they now accept this)
and
b) to give recompense to Mrs B who will be watered down once an investor comes on board.

The reason for the 30k is that she is prepared to be watered down to (at most) 17%, which is where the “I will give up 30% for a payment of 30k” came from.

In my mind, when a shareholder becomes watered down, it’s tough [***]. She will own less of something potentially worth more, rather than more of something worth nothing.

The 51% shareholder has suggested he pay Mrs B an agreed amount out of his first dividend, to compensate Mrs B for becoming diluted.

Never mind, it’ll soon be Friday!

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By SteveHa
23rd Mar 2021 09:43

Let it go to court for settlement. It sounds like, at the moment, the company (and so the shares) have no value, which would be something that a court order takes into consideration.

She could well find herself with a legal obligation to sell the shares for nominal.

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By bernard michael
23rd Mar 2021 09:53

Are there solicitors involved yet re the divorce ?? If so you would be better off leaving it to them to sort out in the divorce settlement as they put some reasonableness into the situation

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