Carmen Peli
PeliPartners, Bucharest
carmen.peli@pelipartners.com

Delia Dumitrescu
PeliPartners, Bucharest
delia.dumitrescu@pelipartners.com

Introduction

Within the intricate web of corporate governance, conflicts can arise that lead to a stalemate in regard to a company’s decision-making process. This phenomenon, commonly referred to as corporate deadlock, can have significant implications for the operation and stability of a business entity. In Romania, corporate deadlock is a multifaceted issue that requires careful consideration and effective resolution strategies.

What causes corporate deadlock?

Corporate deadlock can stem from various sources, including disagreements among shareholders, management disputes, divergent strategic visions, or conflicting interests. In Romania, where many companies are family owned or closely held, personal dynamics and intergenerational conflicts can exacerbate these tensions.

One common scenario leading to deadlock involves equal ownership among shareholders, where each party holds an equal stake in the company’s decision-making process. In such cases, the inability to reach a consensus on key issues can result in gridlock, hindering the company’s ability to function effectively.

Additionally, changes in the business landscape, economic downturns, or regulatory challenges can escalate tensions and intensify existing conflicts, further fuelling corporate deadlock.

Consequences of corporate deadlock

The consequences of corporate deadlock can be far reaching and detrimental to the company’s operations, reputation and financial stability. Some of the key repercussions include:

• stagnation of decision-making: deadlock impedes the ability of the company to make timely decisions, leading to missed opportunities and stunted growth;
• erosion of trust: persistent deadlock erodes trust among stakeholders, damaging relationships and undermining the company’s cohesion;
• financial losses: protracted deadlock can result in financial losses due to delayed projects, disrupted operations or missed business opportunities;
• litigation risks: deadlocked situations often escalate into legal disputes, exposing the company to costly litigation and placing further strain on its resources; and
• reputational damage: external stakeholders, including customers, suppliers and investors, may lose confidence in the company’s ability to manage internal conflicts, tarnishing its reputation.

Resolving corporate deadlock

Addressing corporate deadlock requires a proactive and collaborative approach, aimed at unlocking the impasse and restoring the company’s functionality. In Romania, several mechanisms and strategies can be employed to resolve deadlock situations effectively:

• mediation and negotiation: engaging an independent mediator or facilitator can help parties navigate conflicts, explore mutual interests and reach a consensus on contentious issues;
• board restructuring: reconfiguring the composition of the board of directors or appointing independent directors can bring fresh perspectives and break the stalemate;
• shareholder agreements: establishing clear guidelines and dispute resolution mechanisms in shareholder agreements can mitigate the risk of deadlock by providing a framework for addressing conflicts in a structured manner;
• buyout or exit arrangements: in cases where deadlock is irreconcilable, buyout provisions or exit arrangements can provide an orderly mechanism for one party to exit the company, thereby eliminating the deadlock;
• arbitration: opting for arbitration as a means of dispute resolution offers a confidential and relatively expedited process for resolving deadlock issues. While arbitration is rather costly, other forms of dispute (such as court litigation) may take longer to resolve and time may add to the costs of a dispute; and
• legal remedies: as a last resort, parties may pursue legal remedies through the courts to resolve deadlock issues. However, litigation should be considered as a measure of last resort due to its adversarial nature and potential for further escalation.

In the following, we will address the most common outcomes in terms of remedies for corporate deadlock.

Legal remedies

In navigating corporate deadlock within the Romanian legal framework, stakeholders have recourse to some legal remedies designed (although insufficiently regulated in our view) to facilitate the resolution of impasses and restore the functionality of the company. Among these remedies, exclusion and withdrawal procedures emerge as significant mechanisms for addressing deadlock situations.

The exclusion procedure, governed by the Romanian Companies Law No 31/1990, represents a legal mechanism whereby shareholders can request the courts to exclude a shareholder from the company, typically in cases of deadlock due to a serious fault of the latter.

Similarly, the withdrawal procedure allows for shareholders to withdraw from the company under specific conditions, although such a procedure may only be swiftly executed with the cooperation of the other shareholder(s). When this does not happen, addressing a court of law is necessary to achieve an exit in this form.

Both procedures are, in practice, rather lengthy and burdensome and may offer a solution for certain types of companies only (ie, limited partnership and limited liability companies), while for other types of companies the law remains silent.

A more ‘commercial’ deadlock solving mechanism is provided by Romanian law only with respect to publicly listed companies, where a squeeze-out procedure may be triggered when a majority shareholder holds at least 95 per cent of the company’s share capital. Upon reaching this threshold, the majority shareholder has the right to initiate a squeeze-out process, whereby minority shareholders are compelled to sell their shares at a fair market value, which is determined through an independent valuation process. However, as mentioned, this is by no means a catch-all solution.

Of course, it is possible for shareholders of a joint stock company to provide for squeeze-out or exclusion mechanisms in the relevant bylaws, and it is possible for limited liability companies or other types of companies to expand such mechanisms in shareholders’ agreements.

Shareholder agreements: a strategic tool for deadlock resolution

In the landscape of corporate governance, shareholder agreements are fundamental documents that outline the rights, obligations and responsibilities of parties involved in a company’s ownership structure. These agreements serve as a crucial tool for pre-emptively addressing and resolving potential conflicts, including corporate deadlock, and may offer more predictability in regard to the process of solving corporate deadlock than resorting to legal remedies.

Establishing clear guidelines

One of the primary functions of a shareholder agreement is to establish clear guidelines for decision-making processes within the company. By delineating the voting rights, decision-making procedures and mechanisms for resolving disputes, shareholder agreements provide a framework for addressing deadlock situations in a structured and orderly manner. Through proactive planning and foresight, parties can anticipate potential areas of contention and devise strategies for resolution, thereby mitigating the risk of deadlock.

Dispute resolution mechanisms

Incorporating robust dispute resolution mechanisms into shareholder agreements is essential for effectively addressing deadlock situations. These mechanisms may include provisions for mediation, arbitration or other alternative dispute resolution (ADR) methods aimed at facilitating constructive dialogue and reaching a mutually acceptable resolution. By stipulating the procedures and protocols for resolving conflicts, shareholder agreements empower parties to navigate deadlock issues expediently and efficiently, thereby minimising disruptions to the company’s operations and preserving its long-term viability.

Minority protections and exit arrangements

Shareholder agreements often include provisions aimed at safeguarding the interests of minority shareholders and at providing mechanisms for their exit in the event of a deadlock or irreconcilable differences. These provisions may include buyout options and tag-along or drag-along provisions, which afford minority shareholders the opportunity to exit the company when predetermined conditions are met.

Exit arrangements play a pivotal role in mitigating the impact of corporate deadlock, by providing parties with a viable mechanism to extricate themselves from the impasse, while safeguarding their interests and preserving the company’s continuity.

Buyout provisions

One of the most common exit arrangements employed in shareholder agreements is the inclusion of buyout provisions, which afford parties the opportunity to acquire or divest their interests in the company when specified conditions are met. In the context of a deadlock, buyout provisions may be triggered when the parties are unable to reach a consensus on critical issues, allowing one party to buy out the other’s shares at a predetermined price or valuation. Among the diverse array of buyout provisions, two notable types stand out and are commonly used: the Russian roulette clause and the Texas shootout clause.

Russian roulette clause

The Russian roulette clause presents a high-stakes scenario in which one party initiates the buyout process by making an offer to purchase the other party’s shares at a specified price. Upon receiving the offer, the recipient of the proposal faces a critical decision: either accept the offer and sell their shares at the predetermined price or counteroffer to buy out the initiating party’s shares at the same price. This binary choice creates a strategic dilemma akin to a game of Russian roulette, where each party must weigh the risks and rewards of accepting or countering the offer, knowing that their decision could ultimately determine the outcome of the transaction.

The Russian roulette clause is characterised by its simplicity and symmetry, offering a straightforward mechanism for resolving deadlock situations by compelling parties to make decisive choices under pressure. By introducing an element of uncertainty and urgency, the clause incentivises parties to negotiate in good faith and reach a mutually acceptable resolution, thereby avoiding prolonged disputes and preserving the company’s stability and continuity. However, the Russian roulette clause may eventually prove to favour the shareholder with the greater financial power, sufficient to enable the buyout of the other’s stake.

Texas shootout clause

In contrast to the Russian roulette clause, the Texas shootout clause introduces a competitive bidding process designed to determine the fair market value of the parties’ shares and facilitate an equitable exchange of ownership interests. According to this arrangement, each party submits a sealed bid specifying the price at which they are willing to buy or sell their shares. If the bids are asymmetric, with one party offering to buy and the other offering to sell at different prices, the higher bid prevails, and the shares are exchanged accordingly. However, if the bids are symmetric, with both parties offering to buy or sell at the same price, the clause triggers a mandatory buy–sell provision, wherein one party must either buyout the other party’s shares or sell their own shares at the specified price, effectively resolving the deadlock.

The Texas shootout clause is characterised by its competitive nature and emphasis on a fair market valuation, offering parties a transparent and objective means of determining the value of their ownership interests. By encouraging competitive bidding and ensuring equitable outcomes, the clause minimises the risk of disputes and promotes a spirit of cooperation and compromise among the parties, thereby facilitating the efficient resolution of deadlock situations.

Valuation mechanisms

Central to the effectiveness of exit arrangements is the establishment of clear valuation mechanisms for determining the price at which shares will be bought or sold in the event of deadlock. Valuation mechanisms may vary depending on the nature of the company, the industry and the preferences of the parties involved. Common valuation methods include asset-based approaches, income-based approaches and market-based approaches, each of which offer distinct advantages and challenges in the context of deadlock resolution. By stipulating the valuation methodology and criteria in advance, shareholder agreements may provide clarity and certainty to parties seeking to exercise their exit rights. Eventually however, the odds will most likely be in favour of the party with the better financial position.

Regulatory considerations

In structuring exit arrangements, parties must carefully consider the regulatory framework governing corporate transactions and shareholder rights under Romanian law. Compliance with the statutory requirements, disclosure obligations and regulatory approvals may impact the implementation of exit arrangements and the transfer of ownership interests, necessitating careful coordination and input from legal counsel to navigate the potential pitfalls and ensure regulatory compliance and the enforceability of exit mechanisms.

Buyout mechanisms such as the Russian roulette and Texas shootout clauses have been experimented with by companies in Romania but have not yet been tested in court. In Romania, it is important how the clauses/agreements are written. In particular, it is important to refer to concepts in Romanian law to make it easier for judges (whose business experience is limited) to apply Romanian legal principles to foreign corporate concepts.

Conclusion

In navigating the complexities of corporate deadlock, stakeholders must prioritise the long-term interests of the company, while safeguarding their rights and interests. By incorporating deadlock solving mechanisms, including buyout provisions, clear valuation rules and regulatory considerations in the relevant bylaws and shareholder agreement, parties can navigate deadlock situations more swiftly, thereby mitigating the risks and preserving the integrity of the company’s ownership structure.