Introduction
When it comes to corporate governance, understanding the distinction between the removal of directors and shareholders is crucial for both business owners and investors. While the removal of a director is relatively straightforward under South African law, the removal of a shareholder is more nuanced, often requiring advanced planning and careful consideration.
Removal of Directors – A Statutory Procedure
The most utilised mechanism for removing a director is the provisions of Section 71 of the Companies Act 71 of 2008, as amended (the “Act”), which provide clear guidance on the removal of directors. According to subsection (1):
“Despite anything to the contrary in a company’s Memorandum of Incorporation or rules, or any agreement between a company and a director, or between any shareholders and a director, a director may be removed by an ordinary resolution adopted at a shareholders meeting by the persons entitled to exercise voting rights in an election of that director, subject to subsection (2).”
This provision underscores a fundamental principle: a director can be removed even if the company’s Memorandum of Incorporation (“MOI”) or internal agreements suggest otherwise. The power to remove a director rests with the shareholders. This power does not require a special shareholders’ resolution but may be exercised through an ordinary resolution during a duly convened shareholders’ meeting.
Subsection (2) ensures procedural fairness by requiring:
- Notice – The director must receive notice of the meeting and the proposed resolution, with timing and form equivalent to what a shareholder would receive.
- Opportunity to Present – The director must be afforded a reasonable opportunity to make representations, either personally or through a representative, before the vote is taken.
Consequently, shareholders retain the ultimate authority to remove directors, reflecting the accountability mechanisms inherent in corporate governance.
Removal of Shareholders: A Complex Undertaking
Unlike directors, shareholders do not acquire their position through appointment, but rather through shareholding. A shareholder’s rights are proprietary; they own their shares, and they are therefore shareholders through shareholding. This distinction makes the “removal” of a shareholder fundamentally different and legally more complex.
South African law does not provide a statutory procedure for forcibly removing a shareholder. Because a shareholder’s interest is an asset with proprietary rights, no resolution can compel a shareholder to relinquish ownership over their shares, as it is property which they hold. Attempts to remove a shareholder without their consent could result in litigation, exposing the company and its directors to significant legal risk.
Shares are, in essence, intangible movable property, and to “forcibly remove a shareholder” would boil down to forcibly taking his or her property.
Mechanisms to Facilitate Shareholder Exit
Although shareholders cannot be removed by resolution, companies can plan for exit scenarios that can achieve the practical outcome of a shareholder exit through:
Call Option Agreements
A call option grants the other shareholders the right, but not the obligation, to purchase shares from a shareholder under predetermined terms. This mechanism provides a contractual method to acquire shares should a triggering event occur, such as a dispute, underperformance, or breach of agreement.
This is effectively a contractual agreement between shareholders achieving the effect of forcing a shareholder’s exit.
Redemption of Shares
Redemption involves the company repurchasing shares under terms specified in the MOI or a shareholders’ agreement. Like buy-backs, redemption must comply with statutory requirements, including solvency and liquidity tests, to protect the company’s financial health.
This would achieve the same result as forcing a shareholder to sell their shares to the company, not the other shareholders, when predefined conditions are met. These conditions has to be determined in advance, and the shares will have to be authorised and classified as redeemable in the company’s MOI prior to being issued to the shareholder.
Share Buy-Backs
A company may buy back shares from a shareholder, subject to compliance with the Act and MOI provisions. Share buy-backs provide a direct mechanism for the company to acquire ownership of shares, often with flexibility in timing and pricing.
This can also be contained in an option agreement between the company and the shareholder, or it can be negotiated between the company and the shareholder. Here again the company would purchase the shares, not the other shareholders, but this approach is not limited only to shares classified as redeemable shares.
Conclusion
Understanding the distinction between directors and shareholders is critical for effective corporate governance. Shareholders, however, cannot be ‘removed’ without consent, making pre-emptive contractual planning essential. Shareholders and companies that invest in proper planning and legal structuring not only protect their investments but also ensure the company’s governance remains flexible, and dispute-resistant.
At SchoemanLaw Inc, we provide comprehensive personalised and custom MOI’s and shareholders’ agreements catered to the unique needs of your company.
For personalised advice tailored to your needs, consult an attorney at SchoemanLaw.
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