The Importance of a Shareholders Agreement

Often when starting a business, a shareholders’ agreement is far from everyone’s mind and often it is considered having one drafted is a cost that can’t be justified.

It is, however, sensible to have a shareholders’ agreement in place as further down the track either within a couple of years or many years down the line views will change, circumstances may change such as illness or retirement, and resentment can build between shareholders leading to disagreements.

Depending upon the relationships between the parties these disputes might be settled amicably but often these can lead to acrimonious and costly legal disputes.

But if your company was set-up with a memorandum and articles of association, do they govern your rights?

It is true that the articles and memorandum do govern the company, however, these articles are very standard and are not tailored to how you and your fellow shareholders may want to deal with each other and a fully considered and well drafted shareholders agreement can act as a safeguard and give you and your other shareholders more protection.

In general principle, the memorandum and articles will allow shareholders to vote on the number of shares and if someone owns 51% they can veto the decisions of other shareholders. This arrangement doesn’t necessarily suit everyone. Commonly it may not suit when:

  • A shareholder has lent money to the company but isn’t a director so is not involved in the day-to-day running of the company
  • Some shareholders want to influence certain decisions that are important to them
  • Some shareholders may not be directors of the company
  • A small group of shareholders work together and want decisions to be taken unanimously
  • Some shareholders may not have put money into the company but have contributed time or intellectual property to the company.

A shareholders’ agreement would normally consider the following matters but this is not an exhaustive list:  

  • Directors salaries – this is important when some shareholders are directors and some are just shareholders or where different shareholders perform different value jobs within the company
  • The right to appoint or remove directors
  • Transfer of shares – What happens on death, long-term illness, bankruptcy or when someone ceases to be a director? There are various scenarios when a director leaves, he may have resigned voluntarily, he may have been dismissed or he may have been dismissed for gross misconduct. In all the above instances, how are the shares to be transferred, to who and how are they valued?
  • What happens to shareholder loans if they sell their shares?
  • Managing which decisions of the board need shareholder approval and by what percentage of voting shareholders – for example capital purchases over certain limits or a change in the business direction
  • Dealing with time commitments to the business and non-compete clauses
  • Dealing with an exit – can majority shareholders force minority shareholders to sell if they receive an offer?

As will be seen from the above list, once one starts to think about a shareholders’ agreement there are many matters on which it is very helpful if the parties have considered and agreed how their affairs are to be handled. If this is done upfront then it can avoid costly disputes and harming long-term personal relationships.