Retained Voting Rights
What is it?
When selling your business — regardless of whether the buyer is a family member, a key employee, or a third party — if the sale involves payments spread over time and funded from future business earnings, you need to ensure that you will collect on this income. When your long-term interests depend on the health and survival of the business, retained voting rights can allow you to strengthen your minority shareholder position.
Retained voting rights
Amend company bylaws prior to the sale
When added to other security measures, retained voting rights can take long-term protection a step further. One way to retain voting rights is to amend your company's bylaws before the sale to include a supermajority provision. This requires that more than a simple majority is needed to approve major changes in the business. In effect, this provision gives you, as a minority shareholder, veto power.
Jane amends the bylaws of her business before the sale to require the approval of 81 percent of the shareholders for major decisions such as a sale, merger, recapitalization, or refinancing. Since Jane will hold 20 percent of the stock after the sale, she'll effectively have veto power over major business decisions, even though she's a minority shareholder.
Note that supermajority and similar voting provisions must be combined with protections against dilution.
With respect to the implementation of amendments to the company's bylaws or incorporation documents, consult your attorney to ensure that all formalities required by state law are met.
When can it be used?
To protect payments spread out over time and funded from future earnings
Retained voting rights can allow you to maintain a measure of control over the company after its sale if you'll be depending on payments that are spread out over time and funded from future business earnings.
Strengths
Can strengthen your position as a minority shareholder
Retained voting rights with a supermajority provision can strengthen your position as a minority shareholder after the sale of your business and allow you, in effect, to possess veto power over major business decisions.
Tradeoffs
Can restrict the new owner from assuming control of the business
If you feel the need for such restrictions on the sale, perhaps you're not ready to let go of the business. If you have a family business, you may need to consider cutting some strings. There's a fine line between security measures that protect your legitimate income concerns when payments are spread out over time and those that allow you to continue directing the business, thereby preventing the new owner from assuming control. The retention of voting rights may also be unattractive to potential buyers of your business due to the power vested in you as minority stockholder.
How to do it
Amend company bylaws prior to sale, then structure deal accordingly
Amend the company's bylaws before the sale to include a supermajority provision. Structure the sales contract to retain the appropriate share of stock to hold a minority position with veto power.
Alternatives
An alternative is to hold shares in escrow with the right to vote them until you're paid. Or, all outstanding shares can be held in a voting trust with provisions for vote breaking. Consult your attorney to explore these options.
