The Companies Act 2006 prescribes a model set of articles of association. Although most new companies adopt these by default when they are incorporated (often because it is easier to adopt the standard rather than write your own beforehand), no company is obliged to do so.
The model set was written as an example of what a company might have as articles, and to provide a safety net for any shareholders wanting to incorporate without fuss.
They certainly provide useful guidance. But most private companies should change. The model articles of association are 'model' not in the sense that they are perfect or recommended, but rather that they are a starting point.
We explain why you need to change your company articles in a separate article, but in short, company owners need to agree how things will be done in a given set of circumstances before the company finds itself in that situation.
If shareholders and directors do not follow the procedures set out in the articles and there is a dispute later, then those directors or shareholders involved in those decisions could be liable to the other owners if the company can be shown to have suffered a financial loss. Certainly, important decisions may be void.
So owners should decide how to structure and operate the business, and record that in the company's articles as early as possible.
It does not matter what trade or business you want to use your company for. Your company's articles set out the way you operate it, the role of directors, and who is really in control.
It is essential at this time that you also create a private shareholders agreement that covers how decisions are made by owners, as well as other matters.
Decide on your starting point
At the time of incorporation of a company you have three options:
Adopt and leave in place the model articles - the default if you choose neither of the other two options, or if you incorporate online
Edit the model articles so that they suit your company
Write a new set
The most efficient way forward is also the easiest: take the third option and buy a ready-drawn set of articles of association suitable for your company and the structure you want.
Be aware of the default application of model articles
If you draw your own articles and unintentionally leave some matters silent, then the model articles comes into picture and automatically be applied to plug any gaps in your articles.
Depending upon the situation it may be beneficial, or it may be rigid for your company. The following is what the law says about the 'default application' of the model articles (Section 20(1) Companies Act 2006).
If your articles are silent about the casting vote at the directors’ meeting, then by application of the model articles, the chairman will have the casting vote.
If you do not mention in the articles who will determine the directors’ remuneration then the model articles allow the director themselves to set it. You are unlikely to want the directors to have this power.
If your articles do not fix the quorum at general or directors’ meeting - it is just two people.
To cater for such problems, you may include an excluding provision in your company articles. This provision should be worded so as to exclude the application of the model articles to the fullest extent. But note, by having such a provision, you can avoid the process under the model articles but you cannot deviate from, or override, the law.
Most companies are registered online through a web-based incorporation agent. The process is quick, but the 'cost' of the speed is that the new company will automatically take the model articles.
You'll subsequently need to change them.
To make this easy for yourself (just to reduce admin), we recommend incorporating with one shareholder and one director. That shareholder can then change the articles without needing to call meetings of other owners or directors.
When the articles of association have been changed, other directors can be appointed and shares given to other founding shareholders.
What you need to change in your company articles?
This following should give you ideas as to what to change in the broad structure. However, there will also be finer points.
Different classes of shares
The majority of new companies need no more than a very simple share class structure consisting of a round number (for example, 100) of ordinary shares of £1 each.
If you do want different classes of shares, you should put them in place now, because the different rights you attach to them will affect other clauses within the articles. For example, 'employee' class shares may well have different rights to 'founder' class shares.
Who may be a shareholder
Unless the articles say otherwise, any shareholder may transfer some or all of his or her shares to some other person. That other person could be someone’s aggressive yet inexperienced niece, or a complete stranger, or maybe another shareholder, who now controls the company and wants you out!
The transfer provisions in the model articles are very broad. You should draw articles to deal with the questions of how shares can be transferred, to whom and under what circumstances. Remember that the Companies Act 2006 lays down the law as to what can be done through the articles. When you want to make an arrangement with specific people who are now shareholders, or to cover the detail of any situation, you should always use a shareholders’ agreement.
Books have been written about exit strategies and we cannot cover the multitude of possible strategies in a few words, but your starting point must be to consider what restrictions should be placed on all or specific shareholders. This subject is covered more fully in share transfers and exit strategies.
A shareholder-director will want personal control
If your business model is for a single shareholder-director effectively to control the company without interference, your company articles will require many small changes to make that easy.
You are required to disclose who has ultimate control over a company, whether that person does so because of the number of shares held, or because he or she can influence decisions in some other way. If you are a minority shareholder looking to increase your power through the shareholders agreement, you should be aware that doing so might make you a Person with Significant Control.
Often companies are owned by only two shareholders who have equal shareholdings. The CA and the model articles require the holders of the majority of shares to agree to some actions, and so two owners with 50% of the company each may face deadlock in decision making often unless the articles have been amended to provide a way of resolving decisions.
Deadlock can be an issue in husband and wife owned companies where the articles have not been changed from the model version.
Of course, sometimes how deadlock can be prevented is also addressed in the shareholders agreement.
Increasing shareholders protection
An alternative model to the autocratic shareholder director is for two or more people to operate the company together, as both directors and shareholders. In this case, the company structure must provide for fully democratic control and decision-making. For example, the appointment, removal and pay of directors should be subject to the shareholders’ consent.
A private company is no longer required to hold an annual general meeting.
There is, therefore, no provision made for AGMs in the model articles on the assumption that most small private companies will take advantage of this change in the law. However, there are advantages in calling the shareholders together once a year to vote at one time on whatever important issues will affect the company in the near future.
So, if you want your company to hold annual general meetings, you may provide for it.
So, in summary, if possible, set up your articles in a form that will last for at least a few years.
Then use a shareholders’ agreement for all the detail. You can find our templates and more information about shareholders agreements on our website.