Closely Held Businesses

• August 18, 2016
• Business Law

Closely Held Businesses

As entrepreneurship expands, closely held businesses comprise an increasing proportion of the business community. Closely held businesses (or close corporations) are companies with few shareholders. Since there are so few shareholders, the principal holders usually manage the company. As a result, closely held businesses experience special management challenges because of the closer relationship among the shareholders. Some states have developed procedures to facilitate resolution of disputes in closely held businesses.

Management and Control

Majority shareholders of closely held businesses largely control the corporation. These shareholders usually name the board of directors and management and may even choose employees or assume these positions themselves. Because minority shareholders’ interests may not receive adequate representation in such a situation, special business planning can address the rights of minority shareholders to ensure their continued participation.

While state laws require corporations to comply with formal record keeping and procedural requirements in order to keep their limited liability status, shareholders of closely held businesses often act more informally. In recognition of this tendency, some states provide legal exemptions from some corporate requirements. Many states allow closely held businesses to eliminate or modify their boards of directors through their articles of incorporation. If a board of directors is not used, the shareholders will manage the company’s business directly. Other state laws provide for variations in the usual director responsibilities.

Example: Denise and Chris each own half the shares of a landscaping business. Unfortunately, they cannot agree on many important issues, and their two-member board of directors experiences frequent deadlocks. As their state’s law allows, Denise and Chris agree that the company’s general manager, Val, will act as a director when deadlocks occur. Val casts the deciding vote in such instances, allowing the company’s business to move forward.

Statutory Close Corporations

Some states permit closely held corporations to operate like partnerships by becoming statutory close corporations. Partnerships enjoy easier business succession and decision-making procedures and fewer formal requirements than corporations. If a closely held business makes a statutory close corporation election, its individual directors can bind the entire organization. This freedom could reduce deadlocks, but many lawyers fear this personal decision-making could reduce legal protections for directors. Since not every state uses this option, business owners should seek legal advice from an experienced business lawyer concerning the specific options available in their states.

While some closely held businesses are able to operate more flexibly than corporations with many shareholders, this freedom may create legal difficulties for the business and its shareholders. Where state law does not allow closely held businesses less formality in their procedures, neglecting to comply with statutory requirements can lead to personal liability for the individual directors or shareholders on contracts and other business obligations. On a practical level, the informality of closely held businesses can encourage dissension and deadlock among directors. In some cases, corporate dissolution may be the only way to resolve persistent disagreements. An experienced business lawyer can develop a business plan to achieve your goals and address potential legal issues.