Business Exits: How Do I Sell My Minority Interest in a Private Company?

Part One

You may have ended up with a minority interest in company for various reasons. Perhaps you went into business with two friends and you all own 33.3% each. Maybe you were the CEO or a faithful employee and you were given 5% or 10% of the company as an incentive. Perhaps you were an early investor who put in money in return for 10% or 20% of the company. Maybe you sold your business in to the company in return for shares.

Ben Killerby

Usually, when people go into business together for the first time, it is like walking down the aisle to get married – everybody is happy.  Then there is a honeymoon period when everyone is still getting along just fine.  Later in the piece, however, for whatever reason, differences arose and and now:

  • You want to retire, or move to another place, or use your money for something else.
  • One of the other shareholders has died, got divorced or come under a disability and the company is now just not the same.
  • Things are not going so well between all the shareholders and you face the prospect of a fight.

Whatever the reason, you are now faced with the unique difficulty of selling a minority interest in a private company in Australia.

What Have I Got to Sell?

A minority interest is a percentage of ownership in a private company that does not give you the ability to control or manage the company.  So what is it, exactly, that you have to sell?

What you are selling boils down to this:

  1. The right to a share in the profits of the company.
  2. The right to a share in the proceeds of the sale or dissolution of the company after all the company debts are paid out.
  3. The right to see the books and accounts of the company.
  4. The right to legal action if the majority owners are treating you oppressively or are engaging in misconduct.

What you don’t have as a minority shareholder, unless you have a fancy shareholders’ agreement, is the right to determine the direction of the company, cause the company to buy and sell assets, or exercise real control over the way the company is run.  Nor do you have any quick or easy way to sell your shares, because they are an “illiquid asset” – they can’t be traded easily because there will be restrictions on who you can sell them to.

How Much Are My Minority Shares Worth?

You would think that if the company was worth $20m and you had 10% of it, your shares would be worth $2m, right?

Wrong.  Unless it is a sale of 100% of the company, or your shares are in Uber or Airbnb, your minority shares are probably worth much less than that. The main reason is that your shares don’t control the company, so there is a discount applied to them. Then there might be another discount applied to the company because the directors are paying themselves too much money, personal expenses are going through the company or the company is not paying dividends and there is nothing the minority shareholder can do to rectify this.  This is not so much of a problem in VC funded companies because VC term sheets make it very clear how the company is going to be run and it won’t be like this.  For many other successful private companies, however, the guidelines are much looser.

Now, paying big salaries and putting expenses through the company might never have concerned you before because you were also an employee of the company who got a handy salary and had a few perks of your own.  If, however, there is no history of dividends from the company and there is no dividends policy in place, the new owner of your shares does not want to have to take over your job just to make some money out of this deal.  So think through how to get a dividend policy in place before you go to market.

What’s Going to Happen When I Sell My Minority Shares?

You need to think through how you and the company are going to handle a few things when you leave.  If you work for the company, you can resign with proper notice.  You can hand back the company car at the end of your employment.  You can move out of the company house. If you are a director, you can resign as a director, but I wouldn’t do this until the day you sell your shares.  If you do it earlier, you will lose the easy access a director has to the company documents and you will also lose what little control you have over the direction of the company up to that date.

Bank Guarantees

 Were you a director and did you sign bank guarantees for the company’s business loans, leases and overdraft? If you did, the bank won’t want you to wander in one afternoon and simply remove yourself from their securities because you have sold your shares.  You can’t “resign” a guarantee.  Perhaps the bank wants all the company’s facilities to be paid out before it will release you.

Will the new owner of your shares want to sign up for a bank guarantee to take your place?  Probably not.  So the bank might reduce the company’s facilities because there are are now fewer guarantors.  This in turn might affect the performance of the company and this, in turn, might reduce the value of your shares.

Supplier Guarantees

Were you a director who signed all those credit applications years ago?  Well, they pretty much all had directors’ guarantees in them where you guaranteed the car leases, computer payments and the dozens of supplies the company gets each year to produce goods or services.  You don’t want to be still liable for all those things after you have sold, so somehow you are going to have to persuade each supplier to accept a new credit application signed by the remaining directors.

Repaying Company Loans

Did you lend money to the company without a loan agreement and is it just sitting in the balance sheet as a loan from you?  This loan is probably “at call” and repayable whenever you ask for it, but does the company have enough cash to pay immediately, or will you cripple its cash flow and thus destroy the value of your shares?

Did the company lend money to you without a loan agreement and is it just sitting in the balance sheet as a loan to you?  This loan is also probably “at call” and repayable whenever the company asks for it, but do you have the cash to pay it out immediately?

Often, the company’s accountant makes you sign a Division 7A loan agreement for loans to you from the company, but most of these are “at call” as well.

If the company can’t pay you, or you can’t pay the company, will the one or the other force the repayment?  Or is their room to sign a formal loan agreement to repay the loan over time?

Conclusion

Being a minority shareholder in a private company is great if it is rocketing along, you are getting dividends and there is a good offer to buy 100% of the company that you all agree to accept.  The difficulty, however, is when you want to sell your minority stake and none of the other shareholders want to sell.  Suddenly, the drawbacks of lack of control push the price of your shares down and severely limit the number of purchasers who want to buy them from you.

In the next part, we look at who you will be able to sell your shares to and how you will have to do it.

Ben Killerby B.Juris., LL.B., LL.M., M.A.I.C.D.

Ben is the manager of the Saxon Klein Corporate Advisory section. He has 21 years of experience in law and in private enterprise. As a lawyer, he worked in mergers and acquisitions at major law firms Mallesons Stephen Jaques in Australia and Simmons & Simmons in the City of London. In private enterprise, he has been involved in major property and corporate deals, including the establishment of the original Packer Murdoch Telstra pay television network in Australia (Foxtel).

Ben has three law degrees, including and Masters of Law from the University of Melbourne. He is also a legal practitioner admitted to the Supreme Court of Victoria, the Supreme Court of Western Australia, the Federal Court of Australia, the High Court of Australia and the Supreme Court of England and Wales.

He was the Team Attache for the Australian Olympic Winter Team at the Vancouver Olympic Games.

Contact: potential@saxonklein.com.au
Telephone: 1300 898 898
Twitter: @benkillerby