Private companies and the restriction on transferability of shares

A requirement of the previous Companies Act of 1973 was that a private company must restrict the ‘right to transfer’ its shares, by way of the company’s articles of association, however, more recent legislation (Companies Act 71 of 2008) revised this. Now, a Memorandum of Incorporation (MOI) of a private company must restrict the transferability of any company’s ‘securities’ which includes both instruments such as shares as well as debt instruments such as debentures.

The ins and outs of subject to bond approval clauses

While the free transferability of securities must be dealt with in the MOI and it cannot be amended to exclude this, the manner or form of restriction is not prescribed.

How are restrictions dealt with in an MOI?

The restriction can be achieved in one of the following ways: 

  1. By means of a right of pre-emption under the company’s constitution (the MOI and possibly company rules and shareholders agreement if they exist). In simple terms, such restriction means that when a shareholder (offeror) wants to sell shares, these must be offered to the other shareholders (offeree/s) in the company first at an agreed or pre-determined price. This offer is typically pro-rated in terms of shareholding percentages. If the remaining shareholders decide not to buy the shares on offer, the offeror can then sell his shares to a third party. Shareholder agreements normally make provision for pre-emption and restrictions, some setting out the exact formulae that must be used in the case of a sale to remaining shareholders and the process to be followed if and when a sale by one of the shareholders is considered. In addition, shares may be transferred to a non-shareholder only with the approval of the company’s board of directors, and in some cases the transfer of shares could be subject to the approval of the other shareholders which, in essence, also comes down to a pre-emptive condition. When it comes to pre-emptive rights and restrictions, it is important to note that should these provisions contradict the Act or the MOI, the latter will take precedence and the provisions will be invalid. Similarly, if the restriction is not complied with, the transfer will be void.
  2. ‘Come along’ clauses: Where a ‘come along’ clause has been included, any offer for all the issued shares of the company on identical pro rata terms will proceed once approved by 70% of the shareholder vote and the ‘minority’ shareholders will be deemed to have accepted the offer. This serves to provide the desired outcome based on a majority vote, however, this may not be in line with shareholder minority rights that the Act also makes provision for. Justification for this is made based on the principles of democracy. 
  3. ‘Tag along’ clause: In a situation where a ‘tag along’ clause is included, if a third party makes an offer for 70% or more of the issued shares (provided pre-emptive conditions have been complied with) and the minority shareholders also wish to dispose of their shares, the offerees will not be entitled to sell their shares unless the same pro-rata offer is made to the minority shareholders by the third party. This principle offers increased protection to the minority shareholders. 

When it comes to pre-emptive rights, it is also worth noting a difference in a scenario where shares are purchased from an existing shareholder who wishes to dispose of his or her shares, and a scenario where one acquires shares in a company directory from the company itself (i.e. one subscribes for shares). The first is dealt with in terms of Section 8(2)(b) while the latter is dealt with in terms of Section 39 of the Companies Act. The pre-emptive rights in terms of Section 39 may be excluded from a companies MOI. 

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Private companies and the restriction on transferability of shares

A requirement of the previous Companies Act of 1973 was that a private company must restrict the ‘right to transfer’ its shares, by way of the company’s articles of association, however, more recent legislation (Companies Act 71 of 2008) revised this. Now, a Memorandum of Incorporation (MOI) of a private company must restrict the transferability of any company’s ‘securities’ which includes both instruments such as shares as well as debt instruments such as debentures.

The ins and outs of subject to bond approval clauses

While the free transferability of securities must be dealt with in the MOI and it cannot be amended to exclude this, the manner or form of restriction is not prescribed.

How are restrictions dealt with in an MOI?

The restriction can be achieved in one of the following ways: 

  1. By means of a right of pre-emption under the company’s constitution (the MOI and possibly company rules and shareholders agreement if they exist). In simple terms, such restriction means that when a shareholder (offeror) wants to sell shares, these must be offered to the other shareholders (offeree/s) in the company first at an agreed or pre-determined price. This offer is typically pro-rated in terms of shareholding percentages. If the remaining shareholders decide not to buy the shares on offer, the offeror can then sell his shares to a third party. Shareholder agreements normally make provision for pre-emption and restrictions, some setting out the exact formulae that must be used in the case of a sale to remaining shareholders and the process to be followed if and when a sale by one of the shareholders is considered. In addition, shares may be transferred to a non-shareholder only with the approval of the company’s board of directors, and in some cases the transfer of shares could be subject to the approval of the other shareholders which, in essence, also comes down to a pre-emptive condition. When it comes to pre-emptive rights and restrictions, it is important to note that should these provisions contradict the Act or the MOI, the latter will take precedence and the provisions will be invalid. Similarly, if the restriction is not complied with, the transfer will be void.
  2. ‘Come along’ clauses: Where a ‘come along’ clause has been included, any offer for all the issued shares of the company on identical pro rata terms will proceed once approved by 70% of the shareholder vote and the ‘minority’ shareholders will be deemed to have accepted the offer. This serves to provide the desired outcome based on a majority vote, however, this may not be in line with shareholder minority rights that the Act also makes provision for. Justification for this is made based on the principles of democracy. 
  3. ‘Tag along’ clause: In a situation where a ‘tag along’ clause is included, if a third party makes an offer for 70% or more of the issued shares (provided pre-emptive conditions have been complied with) and the minority shareholders also wish to dispose of their shares, the offerees will not be entitled to sell their shares unless the same pro-rata offer is made to the minority shareholders by the third party. This principle offers increased protection to the minority shareholders. 

When it comes to pre-emptive rights, it is also worth noting a difference in a scenario where shares are purchased from an existing shareholder who wishes to dispose of his or her shares, and a scenario where one acquires shares in a company directory from the company itself (i.e. one subscribes for shares). The first is dealt with in terms of Section 8(2)(b) while the latter is dealt with in terms of Section 39 of the Companies Act. The pre-emptive rights in terms of Section 39 may be excluded from a companies MOI. 

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