Think you don’t need a shareholders’ agreement? Read this first!

Romantic, business, parental, friends – with all relationships, life runs smoother if everyone knows where they stand.

Your toddler is happier when she knows that bed will follow books which will follow bath. Your friends know that whilst you might not be great at returning text messages, you’ll be there in a heartbeat if needed. Your partner knows if he washes, you’ll dry. That’s how relationships work.

The same goes with fellow shareholders. Legally, you are not required to have a shareholders agreement, and it may be the last thing on your mind when creating a new business.

But every company with more than one shareholder should put one in place at the outset. This prevents future conflict between shareholders and protects the relationships and the company’s profitability.

When to prepare it?

It is best to prepare a shareholder agreement at the start of a business, whilst all parties are enthusiastic. Later, views can diverge, circumstances change, and relationships can dissolve between shareholders. Shareholder agreements step through the responsibilities of the shareholders and correct procedures for running the company. This provides clarity and certainty about what can be done, and ensures decisions are made by consensus and after discussion. They contemplate issues that may arise during the life of a business, and determine, in advance, how to address such issues. They can also act as a collaborative management tool, by dividing management functions.

Protecting shareholders’ rights

Shareholder agreements work in conjunction with a company’s articles of association. But they give shareholders greater protection, for example, protecting the rights of minority shareholders and the investment value of their shareholding. Without an agreement, majority shareholders may force issues that are not in the minority shareholders’ interests. Once in place, a shareholders agreement can only be amended with the agreement of all the shareholders, where as the company’s articles of association can be changed by 75% majority vote.

Increased business stability

Although shareholders agreements are private and confidential, the fact that your business has one may be used to show the business is stable, which will be beneficial when dealing with third parties in a prospective partnership or business deal, or when applying for credit and dealing with banks.

Common features of a shareholder agreement are:

a) Clarification of how partners, directors and shareholders can join or leave, and whether such decisions are to be unanimous, by majority, or by special resolution;
b) What decisions do require unanimous resolution – for example mergers and acquisitions;
c) Procedure for delegating decisions to individuals or committees, and procedure for the hiring and firing of staff and other personnel;
d) Frequency and timing of partners/directors meetings;
e) Expectations of a partner/director or principal of a shareholder within the practice and managing outside interests and obligations – specific tasks to be completed, productivity levels/ billing hours expected, level of non-chargeable work allowed, and whether approval needs to be provided for an individual to accept positions on external boards as directors;
f) Dividend/drawing policy and loan accounts;
g) Consequences in the event of death or permanent/temporary disability of partners/ directors/ principal;
h) Compulsory retirement age;
i) Determining goodwill calculations on entry and exit – whether goodwill payment is made and how calculated;
j) Factors to consider when a partner/director retires;
k) Reasonable restraint requirements and notice period on retirement;
l) Leave entitlements;
m) Requirement for capital on the happening of a defined event or procedure – e.g. some form of loan account to help during a time of declining business growth;
n) Specifying events/conduct which may result in automatic expulsion – the boundaries of non-acceptable behaviour;
o) Clarification of voting/decision making power;
p) Alternative dispute resolution for times when issues cannot be resolved informally;
q) Selling or winding up the business in the event that the majority shareholders wish to sell their shares.

Remember to seek independent legal advice

The initial fee in setting up a shareholder agreement is nothing compared to the costs of disputes or from bad deals which you might fall victim in the future without an agreement in place. Each partner/shareholder should seek their own personal independent legal advice before entering into any such agreement, as the lawyer retained by the entity to draw the relevant documentation, will generally only be capable of acting for one party – the company.

This is general advice only. Liability limited by a scheme approved under Professional Standards Legislation. 

Published Sep 7, 2016

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