Death of a sole shareholder and director - what can a company do?

It is commonplace for a private limited company to have a sole director who is also the sole shareholder. However, problems can arise if a succession plan is not in place to prepare for the company’s future following the death of this sole director shareholder.

For example, often it is only a director who can authorise payments from the bank account. If the sole director dies, the company may quickly face challenges in paying suppliers, employees, and other creditors (as well as having no director to approve transactions or arrangements that are critical to business continuity).

A company in this situation will want to ensure that a new director is appointed as soon as possible.

The problem

The company's articles of association (the company's constitution) will usually contain provisions on how new directors are appointed. Typically, these appointments can be made by the shareholders or by the directors. But, if the company's sole shareholder/director has died, then there is no-one who can exercise this power.

The shareholder(s) of a company are those whose name(s) are entered into the register of members (contained within a company's statutory books) - so unless, and until, that register is updated, the deceased remains the registered holder of their shares.

The company’s articles of association may help resolve this problem, but it will depend on whether the company has adopted Table A articles, Model Articles or bespoke Articles.

What can the deceased's executors do?

Depending on when a company was incorporated (and whether its articles have since been updated) may determine whether an executor can appoint a director to a company that has no shareholders or directors following the death of its sole director shareholder.

Companies incorporated under the Companies Act 2006 that adopted the Model Articles will have a provision in their articles of association which provides that an executor of a deceased shareholder has the right to appoint a new director (Model Article 17(2)). If the company has chosen to adopt bespoke Articles, these may contain a provision which will allow an executor to vote in respect of the deceased's shares even though they are still registered in the deceased's name.

A company incorporated under the Companies Act 1985 that adopted Table A articles, will have no provision for an executor to appoint a director. The Table A articles do not give an executor the authority to appoint a new director until they are added to the register of members, which cannot happen until a grant of probate (or confirmation in Scotland) is obtained. Once they have been added to the register of members, they can pass a resolution to appoint a new director, which would allow the company’s normal activities to continue. However, obtaining a grant of probate (or confirmation) can be a very lengthy process and during this time the company would be without a director.

Until the grant of probate (or confirmation) is obtained, the company would be at risk of having its assets frozen. This could ultimately prevent the company from being able to pay employees’ salaries and potentially from continuing to trade at all.

No surviving directors and no means to appoint a new one

In this scenario, it is important to note that executors do not have the power to update the register of members themselves - even if they are entitled to under the articles of association to be registered as shareholders.

Instead, the executors must apply to the court and ask it to:

• order a "rectification" of the register of members; and
• authorise the executors to carry out that rectification (as there is no director to do so).

An executor should be aware that the court's power to rectify the company's register of members is discretionary.

Must the executors have received their grant of probate/confirmation before applying to court?

Probate (or confirmation) is the evidence of an executor's entitlement to the shares held by the deceased. Normally, a company should await a grant of probate before registering an executor as the holder of a deceased member's shares.

But in Ellott v Cimarron UK Ltd, an English court ruled that an executor could rectify the company's register of members and appoint new directors without a grant of probate being issued.

In that case, the other named executors in the will (a firm of solicitors) had renounced their appointment and the other beneficiaries had not objected to the application.

There was a real risk that the company's bank account would be frozen and it would be unable to continue to trade as a result.

The court decided that it was not necessary for the executor to obtain a grant of probate to become entitled to be registered as a shareholder where there was no dispute as to title.

This was due to the exceptional circumstances of the case. Waiting even a month or two could have put the company in unacceptable jeopardy.

In the more recent case of Williams v Russell Price Farm Services, an English court made the order for rectification before the executors had applied for probate.

Whilst this company still had their company secretary, without any directors in place, it was unable to pay its creditors and there was a legitimate concern that the business would ultimately fail.

Recognising the risk involved in granting an order for rectification when probate had not yet been applied for, the court made the executors sign undertakings providing that they would (i) not renounce probate; (ii) that they would apply for probate as soon as possible; and (iii) that they would pay all the necessary taxes required so that probate could be issued.

Five top tips to help business owners to plan

With taxes and death being certainties in life, business owners should consider contingency planning for ill health and death. This is particularly important where the business owner is the sole shareholder and director.

Here are our top five tips:

• Check the articles. What provisions do they contain to cater for death of a shareholder or director? Are they adequate for the company's current situation and suitable for the future?
• Ensure the business owner has executed a will and that its provisions regarding the shares are consistent with the company's articles. For more on this issue, read our blog: How do you transfer shares owned by someone who has died?
• Identify pinch-point dependencies. Does all the necessary business knowledge reside in one person? Who manages all the customer and supplier relationships? Who knows the password to access the company's computer systems? Who can authorise payments from the bank?
• Consider whether it is possible or appropriate to enable an employee to do any of these key activities. Is there any training or knowledge transfer that should be carried out so that the company can still run effectively should a director be indisposed?
• In the mid to longer term, consider succession planning. When might the business owner wish to hand over the reins? To whom? What legal and practical steps need to be taken to make this happen?

Conclusion

Business owners work hard to build up the value of their business. Some planning now may help to preserve that value. Ensuring that the business can continue to run, should the worst happen, will also alleviate pressure on any employees as well as the owner's dependants. Brodies is experienced in advising businesses on both legal and practical steps to mitigate risks in this area. Please get in touch with your usual Brodies' contact.