Covid-19 is an unprecedented risk to health, but also to the economy and businesses. Understandably therefore many business owners are anxious about what the future holds.
However, what we are already seeing is that many businesses are finding ways to adapt, to diversify, to thrive in these challenging times. It is said that ‘necessity is the mother of invention’ and this is evident in the way that businesses have adapted to remote working and increasing the use of technology in business. We can only see this adaptation continuing even after the end of the current crisis.
There are however potential advantages to using this period of uncertainty to ‘future proof’ your business by restructuring your business so as to de-risk aspects of the business which may be more vulnerable to factors around economic risks or to structure the business so that new product or service lines are within an alternative structure so as to protect these against the failure in other areas of the business.
In this article we will consider:
- Creating a group structure;
- Declaring Dividends
- Introducing employees into share ownership
- Removing Directors and Shareholders
The purpose of a group structure is to enable business owners to run different aspects of their business through different entities thereby protecting other aspects or entities within a group.
The basic mechanism is that a business owner will create a holding company who then own the shares in one or more separate trading companies. The trading companies will carry the risk associated with trading but the profits and benefits filter up to the holding company.
The advantage of this is that if business owners have aspects of their business, for instance a particular product or service line, which is at a higher risk of insolvency due to Covid-19, it may be possible to move this aspect of the business into a different entity to protect other aspects of the business or alternatively to move the safer aspects of the business into another entity.
Ultimately this is about safeguarding aspects of the business which are secure in circumstances where economic uncertainty may pose a risk to other aspects of a business.
Another matter to consider where the business has significant reserves is whether the Directors can justify passing a resolution to pay a dividend to the shareholders even if that money is later loaned back to the company and secured as a debenture.
Directors will need to be conscious that they do not act in breach of their statutory obligations or any covenants to any other financial institution. By declaring a dividend, the cash is removed as an asset of the business even if the business later becomes insolvent.
In certain situations, for instance if there is a holding company, the Shareholders could loan that money back to a company by way of secured facility, secured by way of a debenture. If the Company later becomes insolvent, the holding company will sit as a secured creditor in the business which will mean the right to recover the loan money will sit above other creditors. As a word of caution, consideration will need to be given to the application of s245 Insolvency Act 1986. If it is apparent that the process has been undertaken deliberately to avoid creditors in an insolvency process or that a Director has wrongfully declared a dividend when it was not appropriate for the Company to do so then an Insolvency Practitioner could unwind a transaction and, in extreme circumstances, consider proceedings for misfeasance.
This type of process needs careful consideration, supported with advice from the company accountant, but in the right circumstances business owners may be able to justify declaring a dividend even if that money must be loaned back to the Company at a later date. If money is to be loaned into a company by a connected party, for instance a holding company, then it would be preferable for such loan to be secured by way of a debenture so as to protect the company or individual loaning the money.
Introducing Employees to Share Ownership
If you have been considering bringing employees into share ownership, now will be a good time to do so, at least from the employee’s perspective, as it is likely to be cheaper to bring employees into ownership now.
There are, of course, may ways to bring employees in as owners, whether this is an EMI scheme, growth shares or a share purchase. Regardless of which mechanism is used, there will be tax considerations and as businesses can be legitimately down valued at this stage, it will mean that the costs and tax risks will be lower.
If you are considering bringing an employee into share ownership, it is imperative that you seek expert advice on this.
It is worth noting that issuing new shares in a business is also a way by which a company could raise finance. If you have employees who are willing and able to invest money into a business then it may be appropriate to consider an additional allotment of shares in order to assist a business in raising finance to see a business through such uncertain times.
There may be many reasons why it would be preferable for a shareholder to exit a business at this stage but, regardless of the reasons for an exit, now will be the most cost effective time to negotiate, or force, an exit from a business as it is likely to be cheaper to acquire the shares of the exiting shareholder.
It may be that there is a Director and Shareholder whose role is essentially redundant or they have been furloughed. Consideration will need to be given as to whether the Company or the other Shareholders can compel the shareholder to sell the shares. This will require consideration of the articles of association and any applicable shareholders agreement..
It may be that a Director is simply not performing or alternatively a shareholder may choose to exit the business if they do not want to be involved in the work necessary to enable a business to recover.
This is not however an issue which should be delayed.
During this period of uncertainty, there will be many business owners who are, understandably, reticent about making some of the decisions set out above, not least because of the concern around the costs of taking such steps.
Strategically, now may be the best time to make such decisions for the long term good of the company but also to protect the interests of the owners.
The Corporate team at Ison Harrison Solicitors, managed by Richard Coulthard, are well versed in advising business owners not just on the legal ramifications of these processes but also the strategic and business considerations associated with the decisions making process behind such decisions.
If you believe that you would benefit from an initial discussion to explore these issues further, please contact Richard Coulthard on 0113 284 5095.