Selling Shares: Top 5 Costly Mistakes
Shares, those integral units of equity ownership, are the lifeblood of a company’s capital structure. They represent ownership, power, and a stake in the future. Shareholders, in turn, hold the key to influence and decision-making, their collective voice steering the corporate ship.
However, the power to steer the ship also comes with the responsibility to navigate treacherous waters carefully. Selling shares, whether to new investors or existing shareholders, can be a complex endeavour fraught with potential pitfalls. One misstep could lead not only to financial setbacks but also to protracted, costly legal battles.
In this article, we delve into the critical aspects of selling shares in a private company while shedding light on five costly mistakes that you should vigilantly avoid. From legal obligations to intricate contractual nuances, we’ll guide you through the terrain of share transactions to ensure a smooth and legally sound journey.
Selling shares is a pivotal moment in the life of any private company, and it’s imperative to approach it with a meticulous eye for detail and a comprehensive understanding of the legal landscape. Let’s explore how to navigate this process without stumbling into costly errors that can jeopardize your business’s future.
The five common mistakes to avoid while selling shares are:
- Proceeding without proper share valuation;
- Misrepresenting the business’ financial health;
- Ignoring the confidentiality aspect of the transaction;
- Ignoring the minority shareholders’ interests; and
- Not seeking legal counsel.
1. Proceeding Without Proper Share Valuation
Selling a company’s shares is a strategic move that can have far-reaching consequences. One of the pivotal considerations in this process is the determination of the share price. Striking the right balance here is crucial, as it can either beckon potential investors or send them fleeing.
Setting the share price too high may deter potential buyers, making them hesitant to invest. Conversely, quoting an excessively low share price can trigger a devaluation of the company’s worth, creating a whole new set of challenges.
For publicly listed companies, determining the share price is relatively straightforward, as it’s often readily available on the relevant stock market. This price is a reflection of market dynamics, influenced by a multitude of factors, including the company’s future prospects and overall market sentiment.
However, the journey becomes more intricate when dealing with private companies. Here, gauging the share price requires a more nuanced approach. Those seeking to ascertain the share price of a private company should turn to professionals for an accurate evaluation.
Enter the professional business valuators, experts who can objectively assess a company’s value. They dive deep into the intricacies of the business, scrutinizing its management, capital structure, the fair market value of its assets, and the outlook for future earnings. This meticulous evaluation process yields a share value that not only instills confidence in potential investors but also ensures the sustainability of their investment.
2. Misrepresenting the Business’s Financial Health
A business’s vitality lies in its financial health, a critical indicator of its economic well-being. The state of a company’s financial health holds sway over its ability to generate profits and chart a path to growth. A financially robust enterprise can not only retain its clientele but also boasts a well-maintained inventory, invests in fresh ventures, and consistently turns a profit.
It’s no wonder, then, that potential buyers place significant importance on probing into a company’s financial health before committing to a stake. They expect nothing short of precise and truthful financial statements and business records that accurately reflect the company’s financial standing.
For buyers, due diligence becomes an imperative step before embarking on any share purchase journey. It’s a meticulous process that involves a comprehensive review of the company’s financial statements. This scrutiny is undertaken to ensure that the company’s financial situation aligns with the buyer’s expectations and investment objectives.
Yet, a word of caution is warranted for companies or shareholders involved in stock sales. When it comes to representing a business’s financial health, honesty is not just a virtue but a legal requirement. Sellers should exercise utmost care in making any statements concerning the company’s financial well-being. Deliberately misleading statements made by sellers, which buyers rely upon for their purchase decisions, are not shielded from liability.
Misrepresentation of a business’s financial health may seem tempting, potentially inflating the selling price of shares. However, sellers who knowingly exaggerate or omit crucial details from a company’s financial statements may find themselves on the wrong side of the law, facing allegations of fraud or negligent misrepresentation.
The consequences are grave, indeed. Financial statement fraud not only exposes sellers to civil and criminal liabilities but can also inflict lasting damage to a business’s reputation. To navigate this intricate terrain successfully, sellers must provide forthright answers to buyers’ inquiries, ensuring an accurate portrayal of the company’s financial health.
3. Ignoring the Confidentiality Aspect of the Transaction
In share purchase transactions, sellers find themselves in a unique position—entrusted with the disclosure of sensitive business information to prospective buyers. This confidential trove encompasses a wide spectrum of vital details, ranging from the business’s revenue projections and financial statements to insights about its management and ownership structure, as well as its debts and liabilities.
However, the act of disclosing this confidential information without proper safeguards can carry dire consequences, potentially harming not only the seller’s business but also its reputation. A particularly ominous scenario arises when the prospective buyer turns out to be a business competitor, armed with the potential to wield the seller’s confidential information for personal gain.
To mitigate these risks, sellers are well-advised to insist on a crucial safeguard: the signing of a confidentiality agreement by the buyer before the veil of privacy is lifted. Such an agreement serves as a legally binding commitment that the buyer will treat the disclosed information with the utmost discretion and respect.
Should a potential buyer deviate from this commitment—misusing, abusing, or divulging the confidential information without prior written permission—they find themselves on legally shaky ground. The seller, in such a case, may exercise their rights to take legal action against the buyer, invoking claims of breach of confidence and breach of contract.
A successful claim in this regard empowers the aggrieved party with the right to seek damages as a remedy for the breach. Furthermore, they may seek an injunction—a legal order that bars the buyer from further utilizing the confidential information for any purpose not explicitly authorized.
Confidentiality agreements, therefore, stand as a formidable barrier against the misuse of sensitive business information, offering sellers a potent legal recourse to protect their interests in share purchase transactions.
4. Overlooking the Interests of Minority Shareholders
In the realm of corporate shareholding, minority shareholders are those who hold less than fifty percent of a company’s shares. Their position, while valid, places them in a somewhat vulnerable position. This is because the decisions of a company are typically governed by the principle of majority rule. Minority shareholders, given their limited stake, must place substantial reliance on the judgment, good faith, and competence of the controlling shareholders and the board of directors.
To safeguard the rights and interests of minority shareholders, both Ontario’s Business Corporations Act (OBCA) and the federal Canada Business Corporations Act (CBCA) have provisions in place. These statutes include mechanisms designed to ensure that neither the company nor the majority shareholders can disregard the legitimate rights of minority stakeholders. One such safeguard is the ‘oppression remedy.’
The oppression remedy extends the power to a complainant to challenge corporate actions or the abuse of corporate authority that is deemed oppressive, unfairly prejudicial, or neglects the complainant’s interests. In essence, it acts as a safeguard against any unjust actions that may adversely affect minority shareholders.
In the context of a stock sale, a minority shareholder can utilize the oppression remedy to challenge the transaction. The court, in such cases, enjoys a wide scope of discretion when determining the appropriate remedy for shareholder oppression. These remedies may include, but are not limited to:
- Voiding the share sale transaction.
- Granting damages to the aggrieved shareholder.
- Initiating an investigation into the company’s operations.
- Compelling the company to purchase the shares of the complainant.
Neglecting the interests of minority shareholders during a stock sale can carry significant consequences for the seller. Therefore, it is imperative for the seller to address any concerns voiced by minority shareholders before concluding a share sale transaction.
5. Not Seeking Legal Counsel
In share purchase transactions, the legal aspect is just as pivotal as the financial one. It’s easy for the uninitiated to become overwhelmed and perplexed by the labyrinthine legal intricacies inherent in such transactions. And this is where prudence prevails.
Even in the absence of in-house legal counsel, a seller embarking on a stock sale should seriously contemplate retaining the services of an experienced lawyer. A legal professional brings a wealth of expertise to the table, assisting the seller in navigating the complex legal dimensions of the stock sale process.
The advantages of legal representation are multifaceted. A lawyer can meticulously scrutinize the transaction’s documentation, ensuring their compliance with legal requisites. They can adeptly negotiate on behalf of the seller and adeptly handle a myriad of legal issues that may arise.
Perhaps most crucially, when faced with the specter of an oppression claim from a disgruntled shareholder aggrieved by the stock sale, a commercial litigation lawyer becomes an indispensable ally.
Shareholder oppression claims are a thorny thicket of complexities and technicalities, a daunting realm to navigate without seasoned legal guidance. In this arena, a commercial litigation lawyer emerges as a trained expert, equipped with the knowledge and experience to adeptly maneuver through the legal landscape. They are poised to utilize their legal acumen and familiarity with the intricacies of the legal system to mount a robust defense should the need arise.
In essence, a lawyer isn’t just a sound investment; they are the shield that safeguards your interests in the intricate dance of share purchase transactions.
Conclusion
The potential pitfalls in selling shares in a private company are varied. It becomes abundantly clear that this process demands meticulous attention and careful navigation. A sale of shares is more than a mere financial transaction; it is a legal endeavour intertwined with financial intricacies.
Firstly, assessing the share price requires a balanced approach. Overpricing or underpricing shares can have profound consequences for both the seller and the business’s valuation. Secondly, evaluating the financial health of the company is paramount. An accurate depiction of the company’s finances, free from misrepresentations, is not only ethical but also a legal obligation.
Furthermore, handling confidential information with the utmost discretion and legally binding agreements can shield businesses from the misuse of sensitive data. Seeking legal counsel is a prudent step to ensure that all legal obligations and complexities are addressed appropriately. Finally, acknowledging the rights of minority shareholders and adhering to legal safeguards is essential to avoid disputes and potential legal action.
In essence, a share sale is a multifaceted endeavor. To navigate it successfully, one must tread carefully, consider all legal and financial aspects, and prioritize transparency and compliance. By avoiding these costly mistakes, businesses can ensure that their share sales proceed smoothly, safeguarding both their financial interests and reputation.
Contact Achkar Law
If you want to sell your shares in a corporation and need any help with the transaction, our team of experienced business lawyers at Achkar Law can help.
Contact us by phone toll-free at +1 (800) 771-7882 or email us at [email protected], and we would be happy to assist.
