Departure of a shareholder: good leaver or bad leaver

Companies today are engaged in intense competition to attract or retain managers and staff. Offering shares (or certificates) has become a common strategy to attract and retain this talent. A crucial aspect that requires careful attention, however, is drafting (shareholder) agreements with ‘good leaver / bad leaver’ clauses. In this article, I explain these clauses in more detail.

The exit provision

A company may have several shareholders at incorporation, but shares may also be transferred or issued to an investor or employees. Although the shareholders are often in agreement when the company is founded or at the start of the cooperation, it is important to also take into account the situation when the relationship looks less rosy. The shareholders would therefore be wise to record their agreements in a shareholder agreement. An important arrangement here is the exit arrangement in which it is agreed when and under what conditions a shareholder will leave the company. This takes into account both positive and negative circumstances that led to the departure. There is therefore talk of ‘good leavers’ and ‘bad leavers’. Variations such as ‘intermediate leaver’, ‘voluntary leaver’ or ‘negligent leaver’ also occur.

‘Good leaver’ provisions encourage shareholders to contribute to the company and ‘bad leaver’ provisions are designed to protect the company from underperforming managers, for example.

Mandatory transfer

A common clause in these (shareholder) agreements provides that a departing shareholder must offer or sell his shares to the company or the other shareholders upon departure. The details of this agreement vary; sometimes the company and/or shareholders have the option to acquire the shares, while sometimes they are obligated to do so. This can create a complex dynamic that must be carefully negotiated.

Good leaver and bad leaver situations

The good leaver situations

Good leaver situations can occur when a person leaves the company under circumstances that the company considers reasonable and acceptable. This can also occur when agreed-upon goals have been met. Examples include:

• Voluntary departure after completing the agreed period of service;
• Retirement;
• Death;
• Permanent disability;
• When the board decides that the shareholder is a good leaver; or
• All cases where the shareholder is not a bad leaver.

The bad leaver situations

Bad leaver situations can occur when an individual leaves the company under circumstances that the company considers undesirable and unacceptable. Examples include:

• Breach of obligations under the shareholder agreement;
• Voluntary departure during an agreed period of service;
• The employment contract or management agreement concluded with the shareholder has been terminated, for example on the following grounds:
• Termination of employment contract by the employer for urgent reasons / instant dismissal;
• Termination of employment contract by the employer if there are reasonable grounds for doing so;
• If there is directors’ liability and the shareholder is severely culpable,
• Because of conviction or admission of guilt for or charge of a crime;
• For committing any other act or omission involving dishonesty or fraud which is material to the company;
• For conduct which brings the company into substantial disrepute or disrepute; or
• Bankruptcy, receivership or dissolution of the shareholder.

Stock Option

It is also common for certain people to receive stock options. This allows this person to buy or sell shares at a pre-agreed price within a certain period of time. Again, you must take into account that this person is a good leaver or bad leaver during this period:

• For good leavers, the stock options may possibly be retained, or the person may be entitled to full or partial payout or exercise of those stock options.
• For bad leavers, stock options may often be restricted, suspended or even revoked.

Determining the price

If a compulsory transfer of shares has been agreed, the next step is to determine the sale price. Usually this is determined by the circumstances surrounding the departure, and in most cases there are prior agreements on how the value of the shares will be determined. If the departing shareholder is a “good leaver,” he must sell at “fair market value. If he is a “bad leaver,” the sale price can be lower, or in some cases even nominal. We see in practice that determining the valuation is regularly a tricky issue given the conflicting interests of parties. Consequently, this often leads to discussion. It is therefore important to include a clear valuation method.

Conclusion

The exact details of good leaver and bad leaver provisions can vary widely, so it is important to understand the different exit situations and their consequences. Drafting these provisions requires a keen eye for possible future scenarios and possible outcomes. Defining an appropriate exit provision is an essential investment for long-term success and preventing future litigation.

Contact

Would you like help drafting or negotiating a shareholder agreement? Or do you have a dispute with your fellow shareholders about the exit or the price of the shares? Our specialists regularly advise on shareholder agreements and shareholder disputes. With our knowledge, we can provide you with sound and targeted advice to avoid potential pitfalls. Please feel free to contact one of our attorneys by mail, phone or fill out the contact form for a free initial consultation. We will be happy to think along with you.