Introduction
While there is strength in unity, it is often a case that shareholders have different goals for their respective share ownership, particularly as they consider their options for an exit strategy. A listed company provides a simplified exit route being that one merely needs to place a sell order on their shareholding, though a non-listed entity comes with a host of considerations.
Case study
In 2021, Mario inherited a shareholding in his family’s company, and became a co-shareholder together with his cousins, uncle and grandmother. The company’s CEO is a non-family member, and the family members have non-executive director (NED) positions, together with two non-family NEDs.
While Mario’s cousins, who are of a similar age to Mario, would like the company to distribute dividends to fund their young families’ lifestyles, his grandmother (also the majority shareholder) would prefer leaving the funds in the company should the economy fall into recession and the company face hard times in the near future. Mario’s uncle has a steady corporate employment and has no use for the dividends and sees greater value in maintaining his shareholding due to the prestige the Board position provides him.
As a minority shareholder with no operational interest in the business, Mario has no power to influence the company’s dividend policy and thus cannot initiate the distribution of past realised profits. He now believes that he should divest of his shareholding and divert the funds towards cash generating initiatives.
Why sell?
As a company shareholder’s expectations and lifestyle changes throughout the life of the company, there may be certain commitments that may require a shareholder to sell part or all of their shareholding in the business.
Oftentimes in limited liability companies there is an agreement that the current shareholders have the right of first refusal to acquire each other’s shares. Should they not be interested, the seller may approach third-parties to acquire the shareholding.
In such a case, Mario’s first course of action would be to approach the other shareholders to evaluate their interest in acquiring his shareholding. Being this is a family business, the sensitivity of the debate will be heightened and may be fraught with emotional considerations.
Due diligence
Should the family members not be interested in acquiring Mario’s shareholding, he will then need to approach the market to find a prospective acquirer. A prospective acquirer will have a host of concerns in particular should the seller, as in this case, be a minority shareholder. As part of their due diligence process they would look into the governance structure, company’s financials (including EBITDA margin, recurring costs, investments), long-term plans, and whether the investment allows them to appoint a director to the Board.
Furthermore, they would also assess the other shareholders and the directors on the Board and whether they share similar values to ensure the success of the company.
Valuation
Non-majority shareholders will often need to sell their shareholding at a discount as opposed to a shareholding with majority control. This discount serves to compensate for the increased risk that an acquirer will have since they would have a reduced control over the company’s operations.
Furthermore, in the case of limited liability companies, as the company may be smaller than listed entities, they often trade at a discount as compared to listed entities.
Remaining shareholders
For the remaining shareholders, losing one of the current shareholders could mean reduced influence, dilution of power in the market, and a shift in voting dynamics. Furthermore, the exit of a key shareholder can lead to a battle for control of the company. In addition, it is occasionally noted that certain minority shareholders may have an outsize control on the business.
Conclusion
Selling a minority shareholding in a private company, especially in a family business, can be complex and emotionally charged. While, in this case study, Mario’s goal is to free up capital, navigating the exit process requires careful consideration of family dynamics, legal agreements, and the valuation process. As a minority shareholder, Mario faces particular challenges in finding a buyer, securing a fair price, and managing the emotional impact on the family.
In trying to achieve a successful outcome, minority shareholders, like Mario, should:
- seek legal and financial advice: proper guidance can help ensure the transaction is legally sound and fair to all parties involved;
- maintain open communication: engaging in transparent discussions with family members, or other shareholders, can help resolve emotional tensions and clarify expectations; and
- explore multiple exit strategies: from negotiating with family members to approaching external buyers, flexibility is key to finding the best path forward.
Though the exit process can be daunting, a well-prepared approach can help minority shareholders to achieve their financial goals while maintaining harmony within the company.
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