Whenever one or more people decide that now is the time to come together and form their very own company, the chances are that they will need a shareholders’ agreement. This can be a pretty technical prospect for many to fully understand, but it can provide a smooth, coherent for each partner of a business to ascertain who is responsible for which task, what their allocated shares are, and other essential matters just in case any unfortunate disagreements arise (which can happen from time to time). In this post, we’ll get to grips with a shareholder’s agreement, what it is, how it works, and why it can make or break a company if not done correctly.
What is a shareholders’ agreement?
Shareholders are multiple individuals or entities that combine to form a company, each owning a piece of the company. Shareholders’ agreements outline each shareholder’s rights, responsibilities, and obligations towards the other and the company. It helps protect the interests of the shareholders in the business and governs the relationship between them. A shareholders’ agreement focuses on the shareholders’ specific rights and obligations, unlike articles of association, which define the company’s internal rules and regulations.
Why do I need a shareholders’ agreement?
There are a few reasons why shareholders’ agreements are essential. First, it clarifies what shareholders’ responsibilities are within the company. The shareholders can work together more smoothly if their rights and obligations are defined, reducing conflicts and misunderstandings.
It also protects shareholders’ interests by setting up mechanisms to deal with situations like share transfers, exit strategies, dispute resolution, and company management. Especially in small and closely held businesses where shareholder disputes can significantly impact growth and stability.
Furthermore, a well-drafted shareholder agreement ensures that minority shareholders are not overruled by the majority shareholders and that their rights are respected. Minority shareholders can be limited from taking specific actions without the consent of majority shareholders.
As shareholders’ agreements aren’t required to be publicly disclosed like articles of incorporation, they can help maintain the confidentiality of sensitive information, like trade secrets, business strategies, or financial data.
When should I use a shareholders’ agreement?
When a company is formed, a shareholders’ agreement should be put in place when all shareholders are on friendly terms and agree on its direction. Thus, potential issues can be addressed before they happen, and the agreement can be tailored to the business needs.
It’s not too late to implement a shareholders’ agreement, even if the company is already running – and this is good news for established businesses wanting to ensure that their practices safeguard everyone involved. Having an agreement in place at any point in the company’s life is better than continuing without one, leaving shareholders vulnerable to possible risks and uncertainties, as the saying goes. It’s the best time to plant a tree, but now is the second-best time.
What should be included in a shareholders’ agreement?
Several critical provisions in shareholders’ agreements are standard, although they may vary depending on the company and its shareholders.
Rights and obligations of shareholders
This section explains the rights and responsibilities of shareholders, like their voting rights, dividends, and contributions. There may be provisions in the agreement that restrict the transfer of shares to third parties without approval from the other shareholders or the company itself to prevent unwanted external involvement.
To ensure a fair and consistent valuation, the agreement may define how shares are valued if a shareholder wants to sell. You can keep your proportional ownership in the company with pre-emption rights, which grant existing shareholders the first shot at buying any newly issued shares.
Managers and directors
The agreement can set out who gets appointed and removed and their responsibilities. Policies and procedures for dividend distribution: This section might have policies and procedures for dividend distribution. The agreement may have a dispute resolution mechanism, such as mediation or arbitration, to address potential conflicts.
Shareholders can protect their interests by laying out how to sell shares and exit the company. Shareholders may be required to agree to non-competes and confidentiality agreements to protect the company’s sensitive info. This provision lets you break a deadlock if the shareholders are stuck on a critical decision.
Share pledge restrictions
To keep shares from getting over-leveraged, the agreement may limit how many shares can be pledged. To ensure any changes are agreed upon collectively, procedures for amending the shareholders’ agreement should be outlined.
Shareholders’ agreement vs articles of association
In a company, the articles of association and the shareholders’ agreement are both crucial legal documents, but they serve different purposes. Articles of association (AoA) define a company’s internal rules and regulations. The constitution covers things like the company’s purpose, share capital, rights attached to shares, shareholder meetings, directors’ appointments and powers, and financial reporting. The AoA is available to the public at the company registrar.
Shareholders’ agreements are private and confidential contracts between shareholders. Specifically, it explains the rights and responsibilities of the shareholders, including share transfer restrictions, dispute resolution mechanisms, and exit strategies that may not be suitable for public disclosure. This document is more flexible and customizable than an AoA since it’s not filed with any public authorities.
Shareholder agreements are only binding between the parties who sign them, not the articles of association binding on all shareholders. As a result, if a new investor joins the company, they won’t be automatically bound by the shareholders’ agreement.
Any company with multiple shareholders needs a shareholders’ agreement. This reduces the risk of conflicts and misunderstandings between shareholders by providing clarity, protection, and control. A well-drafted agreement can help make your business more successful and stable by defining the shareholders’ rights and obligations. An influential shareholders’ agreement is essential for fostering harmony and success in a company, whether at its inception or during its growth.
Let Workhy help you with your business needs
To ensure all legal requirements are met, you can get professional advice from Workhy for your business during and after its establishment. Our experts help with the company formation process, legal documentation, form submission, and even tax advice and assessments, allowing you to relax in the knowledge that you’re being looked after while focusing on the more essential tasks. You can visit our website for detailed information.