The high profile departure from Instagram of founders Systrom and Krieger (following a dispute with Facebook about the app's future direction) was a stark reminder of the conflicts that can arise in a fast-growing business. Sometimes, however, unexpected exits are driven by personal or tragic circumstances, resulting in real turbulence for companies and their directors.
Whilst no one can control such life events, with forethought entrepreneurs can take some simple steps from the outset to protect their business and personal assets. Planning for the unexpected is crucial for any start- up.
Here we explain how:
Create a succession plan
Succession planning is rarely on a founder's radar, especially in the early stages when the focus is on growth and creating tangible value. Our Founders' Model focusses on two key strands of effective succession planning:
From within the business:
- Have a contingency plan for who will assume the role of any key player should they no longer be around to perform it. If you'd need to bring someone in and pay them a market salary, consider key-man insurance to cover that cost.
- Understand the implications of shares being retained by someone outside your core business. Good/bad leaver provisions are standard in any corporate governance documents, but it's equally important to have a conversation about what should happen to the ownership of a founder's shares if they should die.
- Where the articles allow transfer of shares to a "privileged relation", should the remaining shareholders have a right to veto that or at least be consulted first? What safeguards do you want in place concerning ownership of those shares, should the privileged relation die or divorce from the founder shareholder?
- An early conversation between founders about what you would want to happen, then documenting it in a shareholders' agreement, can save energy-sapping and costly arguments later on.
- Consider having insurance to enable you to buy out the relatives of a deceased founder.
- Ensure that any "privileged relation" shareholders sign a deed of adherence, which could include a mechanism for the mandatory transfer back of shares gifted to a spouse in the event of divorce.
As an individual founder:
- The starting point is to have a Will which deals with your shares. A Will can be simple when the business is starting out, but should be reviewed as the company grows, as needs and circumstances will change.
- If there is no Will, then an estate including a founder's shares (subject to any provision in the corporate governance documents) would pass according to the rules of intestacy. This could create uncertainty about who would benefit in these circumstances. More importantly, under these rules, if the founder's family has not survived them and there is no blood line, then their shares could be passed to the Crown.
- Ideally, co-founders should discuss whether they would be happy to be in business with each other's family members if one of them were to die or whether to set aside sufficient funding or insurance to buy the beneficiaries out. How that insurance is paid for will determine whether the policy benefits the company or the surviving shareholders, so advice is needed.
- All business owners should understand whether their shares will be subject to inheritance tax or could benefit from relief. If tax is payable then consider how it will be paid without disrupting the business.
- Owner managers can be particularly susceptible to relationship breakdown. It's a sensitive subject, but there are ways of protecting business assets in the event of a divorce, through a marital agreement (pre-nup or post-nup) or trust arrangements. We will help you make an informed decision about whether this is something you want to consider.
Consider a Lasting Power of Attorney (LPA)
Although It's uncomfortable to talk about, losing physical or mental capacity is another important issue. If anything happens to a business owner and they become unable to make a decision because they lack mental capacity, without the appropriate legal documentation in place, no one can make a decision for them.
To protect a founder, their family and the business, an LPA can be set up so the founder can choose who would make decisions on their behalf in such circumstances. There are two different types of LPA:
- Finance and property - this is key as it can also be used to make decisions regarding shareholdings.
- Health and welfare - for more personal decisions relating to care and medical treatment.
Without the authority of an LPA, if a founder loses capacity following an accident or illness, someone would have to apply to the Court of Protection for a deputyship or other order. They would not have any control over the identity of the deputy and it is both costly and time consuming in already stressful circumstances.
Losing a founder is a huge challenge for any fast-growing business, regardless of the circumstances. Although it's not possible to plan for every possibility, entrepreneurs and their fellow founders can take steps to mitigate potential issues which could be detrimental to their company.
Planning for potentially negative or traumatic situations does not come naturally to most people. Nevertheless, considering their impact from the outset will enable measures to be put in place which could prove crucial in protecting a company and its business owners in the future.
Looking after the individuals behind the business is at the heart of what we do. Our commercial lawyers will address these issues when advising founders and owner managers, and our dedicated team of entrepreneurial wealth lawyers will talk you through the options and ensure whatever arrangements you need are put in place.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.