This may involve a partner in a traditional partnership, a co-owner, a member of an LLP or a fellow shareholder in a company.
We look at the practical considerations around ownership, business continuity, existing agreements and the value of early legal input. The position will depend on the business structure, the governing documents and the insolvency process involved
Why insolvency of a co-owner can affect the wider business
Insolvency may be personal to the individual owner, but its effects can be felt across the business. A common question is: what happens if a business partner becomes insolvent? In broad terms, the answer depends on how the business is owned and managed, and what rights attach to the insolvent owner’s interest.
Potential areas of impact include:
- ownership and voting rights;
- access to company, partnership or LLP information;
- authority to make decisions on behalf of the business;
- confidence from banks, funders, suppliers or key customers; and
- disputes between the remaining owners and the insolvent owner, or with an insolvency office-holder acting in relation to that owner’s interest.
These issues can be particularly sensitive where the business needs to keep trading, make urgent decisions or reassure third parties.
Start with the business structure
The first step is to identify the legal structure of the business. The position may differ depending on whether the business is:
- a traditional partnership;
- a limited liability partnership;
- a limited company with shareholders; or
- a joint venture or more informal ownership arrangement.
Different structures may affect control, liability, transfer rights and who has authority to make decisions. For example, a company’s position will usually be assessed by reference to its articles of association, any shareholders’ agreement and company decision-making procedures. A partnership or LLP will need careful review of its own governing agreement. Without reviewing the documents and facts, it is important not to assume that the same rules apply in every case.
Review the key documents and agreements
The documents governing the relationship between owners are often central to deciding the next steps. These may include:
- a partnership agreement;
- a shareholders’ agreement;
- articles of association;
- an LLP agreement;
- loan, security or finance documents; and
- buy-sell or option arrangements
A partnership agreement insolvency clause, or a similar clause in a shareholders’ or LLP agreement, may set out what should happen if an owner becomes insolvent. At a high level, the documents may need to be checked for:
- whether insolvency is treated as a default event;
- whether the remaining owners have rights to buy out the insolvent owner’s interest;
- whether voting rights or management rights are affected;
- whether notice must be given to other owners, funders or third parties; and
- any valuation process, timetable or transfer mechanism.
These provisions can be technical. Acting without checking them can increase the risk of further disagreement.
Understand who now controls the insolvent owner’s interest
Depending on the insolvency process, an insolvency practitioner, trustee or other office-holder may become involved in the insolvent owner’s interest. This can affect who should receive correspondence, who can negotiate, and whether any proposed sale or transfer of the interest can proceed.
Remaining owners should be cautious about assuming they can simply ignore the insolvent owner’s rights or remove them from the business without following the correct process. Even where the business is under pressure, steps affecting ownership, voting or information rights should be considered carefully.
Managing a shareholder insolvency business dispute
A shareholder insolvency business dispute can arise where the remaining owners and the insolvent owner, or their office-holder, do not agree on what should happen next. Common sources of conflict include:
- disagreements over the valuation of shares or partnership interests;
- disputes about who has decision-making authority;
- concerns about confidential information;
- attempts to sell or transfer an interest; and
- deadlock between the remaining owners and the insolvency office-holder.
Early dispute resolution advice can help clarify rights, assess the governing documents and reduce the risk of the dispute escalating unnecessarily.
Protecting business continuity
Where the immediate concern is how to protect the business when a co-owner is insolvent, a calm and structured approach is usually preferable. Business owners may need to:
- identify urgent operational decisions that must be made;
- check who has authority to sign contracts, approve payments and communicate with banks or suppliers;
- maintain clear records of board, partner or shareholder decisions;
- avoid informal arrangements that conflict with the governing documents;
- consider confidentiality and access controls where appropriate; and
- seek advice before taking steps that may affect ownership rights.
Good records and consistent communication can be important, particularly if decisions are later questioned.
Early action: what business owners should consider
The right steps will depend on the facts and documentation, but business owners may wish to consider the following:
- Confirm the insolvency position and who is acting for the insolvent owner.
- Identify the business structure and key legal documents.
- Review any insolvency, default, transfer or buy-out clauses.
- Assess immediate risks to management, cash flow and contracts.
- Keep communications and decisions properly documented.
- Take legal advice before removing an owner, buying out an interest or restricting rights.
This is not a substitute for advice on the specific circumstances, but it can help business owners organise the issues before making key decisions.
When to seek legal advice
Legal advice may be particularly important where ownership rights are unclear, there is deadlock or an active dispute, an insolvency practitioner is involved, or the business needs to act quickly to protect operations. Advice may also be needed where the remaining owners are considering a buy-out or restructuring, or where there are concerns about breach of duty, misuse of information or unfair treatment.
Conclusion
The insolvency of a partner, co-owner or shareholder can affect ownership, control and continuity. The response should be guided by the business structure, the governing documents and the insolvency process involved. Early, measured action and clear advice can help business owners understand their position before taking significant steps.
For further information and trusted legal advice regarding commercial disputes and business ownership issues, get in touch with us at Carlsons Solicitors.
