Resolving Deadlocks – Russian Roulette and Texas Shootout
What is a Deadlock?
Sometimes, where decisions or resolutions are required to be made by the shareholders of a company, the shareholders entitled to vote on those decisions may be in disagreement with one another. Where there is an inability for the shareholders to come to an agreement and the shareholders have reached a stalemate in decision making, then this could pose challenges to the company, as key decisions cannot be made, which may impede upon the company’s ordinary business operations. Generally, this will occur, when there are an equal number of votes for and against a decision. An impasse in decision making is commonly known as a Deadlock.
A carefully drafted and considered Shareholders Agreement, will contain mechanisms for resolving deadlocks, some examples are:
- mandatory referral of the dispute to an independent mediator or arbitrator;
- the appointment of an independent decision maker;
- mandatory third party buyout of shares in the company;
- liquidating or winding up the Company (this is usually a last resort mechanism).
Alternatively, there are additional mechanisms available such as ‘Russian Roulette’ or ‘Texas Shootout’ provisions (sometimes known as ‘divorce mechanisms’), which will ultimately result in mandatory buyout of shares between the shareholders, severing the cooperative relationship between the shareholders.
In the case of a Deadlock, a Russian Roulette provision allows any shareholder to issue notice to all of the other shareholders that it offers its shares for sale to the other shareholders. Included in that notice is the price in which the offering shareholder is prepared to sell its shares.
A shareholder who receives the notice then has an option either to purchase the shares at the price specified by the offering shareholder, or require the offering shareholder to buyout the shares of the offering shareholder at that same price specified by the offering shareholder.
This process will result in the offering shareholder either selling its shares to the other shareholders, or participating in a mandatory buyout of the shares of the other shareholders.
One advantage of a Russian Roulette provision is that it encourages a fair price to be put forward, noting the result of the process could mean the offering party is either the buyer or the seller. On the other hand a disadvantage of this clause is that it doesn’t take into account the financial resources of a shareholder and where there is a financial imbalance between the respective shareholders. The shareholder with the greater financial resources may be able to manipulate the process and offer a lower price, knowing that the other shareholder may not be in a financial position to be able to fund the offer to buy.
A Texas Shoot-Out clause is a variation to the Russian Roulette clause, whereby in order to resolve a Deadlock the shareholders each submit a sealed bid to buyout the other shareholders shares in the company. Once all of the bids are submitted by the shareholders the bids are simultaneously revealed, and the highest bidder will be required to buyout the others shares in the company at the highest bid price.
An advantage of the Texas Shoot-Out provisions is that it is a rapid and definitive mechanism for resolving a Deadlock. A disadvantage of the Texas Shoot-Out is that, given the nature of a bidding process, a premium price may ultimately be achieved for the shares.
It is important to understand that a Deadlock scenario could have a detrimental effect on a company’s business operations where there is an impasse in the ability for the shareholders to make important business decisions relating to the company. Consideration should be had, having specific regard to the circumstances and relationship between the shareholders and the company’s business requirements, as to the appropriate mechanisms for resolving any Deadlocks which may occur between the shareholders This should be incorporated into a Shareholders Agreement so that the process for resolution is clear and has been agreed upon by all parties should a Deadlock ever arise.
This article was prepared with the assistance of Kayla Newell.
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