Cofounders, Shareholders & Directors: Who calls the shots?

Are you confused?
Are you confused?

My experience working with young and first time startup founders is a frequent lack in understanding the differences between Directors and Shareholders. This often manifests itself during conversations surrounding decision making and deadlocks.

To make matters worse, there is a plethora of contradictory information out there from well-meaning people, as a quick search on Quora will show. But who to believe?

Why does this confusion exist?

It is my firm belief that this confusion exists because more often than not, the cofounders of any startup are both Directors and Shareholders. They will start a business because they are eager and passionate about what they do, but probably far less interested in Company Law and corporate structures and functions. But as the company starts to grow and gain traction, founders find that they can no longer ignore such information but rather end up wishing they had understood things better at inception.

…founders find they can no longer ignore such information but rather end up wishing they had understood things better at inception.

Founders will be making decisions, lots of them, but are those choices being taken in their capacity of a Director, a Shareholder or both? They may not care, but at some point it will become a pressing issue, and the need to understand the differences, the rights and the responsibilities will be paramount.

The Director Role

Being a director of a company carries many responsibilities, because in the eyes of the law, you and your fellow directors are entrusted to deliver success for the company. The directors are the people who run the company, they make the decisions that will lead to its success or failure. They are ultimately responsible for any company undertaking.

The directors are the people who run the company, they make the decisions that will lead to its success or failure

This role should not be taken lightly. If the company falls foul of the law, as a director you could be held personally responsible, even if it was due to the actions of one of your fellow directors. As a director it is important that you have confidence in your fellow directors to act in the best interests of the company and within the bounds of the law.

Although it is quite common to see directors holding an equity stake or share options in the company, it is not a necessity. While a director who holds a significant shareholding may be seen as a senior figure in any organisation, they technically wield the same level of directorial power as any other director.

You may come across the term ‘Non-executive director’, sometimes abbreviated to NxD or NED. A NED is someone who sits on the board and attends regular meetings of directors. They typically do not work in the company, but are there to offer advice or guidance to the board. More often than not, a NED not only brings years of experience to the board, but will also have industry relevance and be able to open doors for the company to explore. Although the role is different from a full time director, the law treats both roles the same.

The Shareholder Role

A shareholder is someone who owns part of a company – the definition does not extend any further than that. Shareholders are not involved in the day-to-day running of the business, and unless a shareholder owns over 50% of the company, or acts as a block group with other shareholders so the whole represents more than 50% ownership, then their powers are fairly restricted.

Minority shareholders may appear to have very little by way of rights when it comes to how their company is run

The directors have an obligation to act in the best interests of the company, and this can further be translated as the best interests of the shareholders as a whole. As a minority shareholder, if you are not happy with the company strategy, you can lobby the directors about it, but unless you can obtain majority support, the directors are more than able to continue to operate against your wishes (with some notable exceptions).

The website Shareholder Rights offers a comprehensive list of what a shareholder can expect based upon the percentage of company that they own.

Summary

To conclude, Directors run a company, set the vision, direction and strategy, shareholders own the company and hope to reap the rewards of ownership that the Directors deliver. Difficulties can arise when the interests of Directors and Shareholders are in conflict. For example, Shareholders may wish to see large dividend distributions from company profits, whereas Directors may prefer that the profits are reinvested into company growth. For someone who holds both positions, such a potential conflict can present a real challenge and it’s important to understand which duty and interests take a legal priority.

This article should not be interpreted as legal advice, it is merely intended as a short overview of the general differences between Directors and Shareholders.

Image supplied under a creative commons licence by CollegeDegrees360.

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