A well drafted and thought out shareholders’ agreement is, in many instances essential to the relationship between shareholders and in providing certainty and protection to the parties involved.
What does a shareholders’ agreement do?
A shareholders’ agreement is a legal agreement between the shareholders of a company and the company itself and sets out the terms in which the company shall be run, together with specific agreed matters. Agreed matters, in which we cover below, might include, but are not limited to, the distribution of dividends, deadlock situations, restrictive covenants such as non-compete and the transfer of shares.
It is also important to ensure the company’s articles of association are maintained and are consistent with the terms of the shareholders’ agreement to prevent any conflict or confusion between the two.
A shareholders’ agreement might cover:
- Imposing restrictive covenants on shareholders, providing for preventative and restrictive measures for shareholders for being involved in competing businesses, for the products and services delivered by the company, or services to the clients of the company.
- Dividend provisions surrounding the rights attached to specific share classes and the process and procedure for declaring dividends and retaining certain levels of dividends for reserves (where applicable).
- The process and procedure for dealing with disputes between shareholders, such as deadlock scenarios through dispute resolution and requiring these to be dealt with in specific timeframes. A shareholders’ agreement can also assist disputes with arising and provide clear options for misunderstandings between shareholders.
- The management of the company at director level and certain reserved matters that may require shareholder approval.
- The circumstances and events in which shareholders may sell or transfer their shares and the value in which they may receive on different exit events from the company. Discussions here will be required between the shareholders prior to signing the agreement to negotiate potential ‘good leaver’ and ‘bad leaver’ events and the terms in which shareholders may exit the company such as retirement or gross misconduct.
- Providing protection to minority shareholders on a sale event of the company linked to ‘tag along’ scenarios and specifically negotiated minority percentages and protections. Majority protections can also be implemented into the agreement requiring minority shareholders to sell their shares if and when an offer to sell the entire issued share capital of the company presents itself and on the same terms (‘drag along’).
- The transfer of share provisions such as pre-emption rights (the right of first refusal), permitted transfers (such as to family members or connected parties) and compulsory transfer provisions (requiring the transfer of shares on certain events occurring).
What are the risks of not having a shareholders’ agreement?
There are numerous risks to shareholders not having an adequately drafted agreement in place, such as:
- The ability for a shareholder to retain their shares in the event they leave the business as an employee. Concern is commonly raised where there is a shareholder who has exited the business and has no on-going involvement in the company.
- The power to transfer shares to third parties and create encumbrances over (such as charges or liens) with little to any restrictions, unless expressly provided for in the articles of association.
- Shareholders who are directors and employees of the business setting up a competing business.
- Directors having the ability to make decisions without restriction from the shareholders, such as reserved matters that are commonly found in a shareholders’ agreement (such as capital expenditure, making critical decisions and making financial commitments).
It’s important to understand that a shareholders’ agreement can be formed at any stage between the parties and should be reviewed on a regular basis to ensure it correctly and adequately protects the rights and objectives of the shareholders and company as a whole.
We would always advise individuals and companies to have a shareholders’ agreement in place to provide a clear and concise understanding of the governance of the company from the outset. Contact Lewis Harvey or one of our Corporate specialists here.