A shareholders’ agreement is a contract between the shareholders of a company that sets out the rules for how the company will be governed and the responsibilities of all involved. While it’s not a legal requirement to have one, many businesses can benefit greatly from having a well-structured shareholders’ agreement in place. Here are 10 important reasons why all companies (irrespective of size and complexity) should have a shareholders’ agreement in place:
1. Minimises the Risk of Disputes
Disagreements are bound to arise in any business (despite how well-intentioned the parties may be), but having a shareholders’ agreement in place can help prevent these issues from escalating. By clearly outlining the roles, responsibilities, and decision-making processes for shareholders, a shareholders’ agreement offers a proactive way to reduce conflicts. It provides a structured framework for handling disputes, ensuring that differences are managed professionally and efficiently without disrupting the business.
2. Promotes Governance
Although shareholders technically own the company, the day-to-day operations are usually managed by directors. A well drafted shareholders’ agreement can require directors to seek approval from shareholders for key decisions, which are often defined as “reserved matters”. This includes critical matters like significant business changes, such as an acquisition, amendments to the company’s articles of association, or issuing new shares. Having reserved matters means that shareholders have visibility over these things and stay in control of important aspects of the company, and that the decisions made reflect their collective will.
3. Protects interests of Shareholders
A shareholders’ agreement can balance the interests of both minority and majority shareholders. It can safeguard minority interests by requiring unanimous consent for certain decisions, such as changing the company’s rules. It can also offer minority shareholders protection through provisions like “tag-along” rights, which allow them to sell their shares on the same terms as majority shareholders in the event of a sale. For majority shareholders, a “drag-along” provision can ensure they are not obstructed by minority shareholders attempting to veto a deal if the company is sold, allowing them to compel the minority to sell their shares on the same terms.
4. Framework for shareholder interactions
A shareholders’ agreement can establish a clear framework for how shareholder meetings should be conducted. It specifies when meetings will be held, the notice period required for meetings, and how shareholders are informed. It can also govern the process for voting on key decisions and provide for the distribution of reports, such as quarterly and annual financial updates. By setting clear rules for meetings and information sharing, a shareholders’ agreement ensures transparency and accountability, keeping shareholders informed and involved.
5. Provides a Solution for Deadlocks
In any company, it’s possible that shareholders or directors will fail to agree on major decisions, causing a deadlock. Without a clear plan in place on what happens when this occurs, these situations can bring the company to a standstill. A shareholders’ agreement includes provisions to break deadlocks, such as a buyout option and relevant valuation mechanisms to be used in such cases, ensuring that the company continues to operate smoothly and preventing critical decisions from being delayed indefinitely
6. Controls the Transfer of Shares
A key benefit of a shareholders’ agreement is the ability to control who can become a shareholder. Without such an agreement, shares can be sold or transferred to an unknown party, potentially leading to undesirable situations, such as a competitor gaining a stake in the company. A shareholders’ agreement typically includes a “right of first refusal” clause, giving existing shareholders the opportunity to purchase shares before they are sold to outsiders. This helps safeguard the company from ownership changes and ensure that shareholders are aligned on such decisions.
7. Defines Clear Exit Strategies
Planning for the future is essential in any business. A shareholders’ agreement can outline the steps to be taken if a shareholder wants to exit the company, whether through a sale, buyout, or other methods. By agreeing on an exit strategy in advance, the business can avoid complications and confusion if and when a shareholder decides to leave.
8. Protects Confidentiality
As a shareholder, you may have access to sensitive business information, which could be misused if shared inappropriately. A shareholders’ agreement can include confidentiality clauses, ensuring that all shareholders are legally bound to protect the company’s secrets, both during their involvement and even after they leave.
9. Imposes Non-Compete Restrictions
Shareholders often have access to valuable business information, which could be used to create or support a competing business. A shareholders’ agreement can include noncompete clauses that prevent shareholders from starting a rival business during their time as a shareholder and for a period after they exit the company. This helps to protect the company from potential conflicts of interest.
10. Helps promote stability
A shareholders’ agreement provides a framework for long-term stability ensuring that the company’s operations remain aligned with its goals. By clearly defining (amongst other things) shareholder responsibilities, decision-making processes, the dividend policy and succession plans, a shareholders’ agreement helps the business navigate periods of change, such as leadership transitions or changes in ownership. This stability is especially important in family-run businesses or those businesses rapidly scaling, where personal dynamics may impact the business. The agreement can set the foundation for maintaining business continuity even in unforeseen circumstances, providing shareholders with clarity and a sense of security for the future.
Why You Need a Shareholders’ Agreement
A shareholders’ agreement offers peace of mind for all parties by setting out clear rules and protecting the interests of shareholders. Whether you are starting a new business or looking to formalise the governance structure of an existing one, having a shareholders’ agreement in place is a smart move that can save time, reduce risks, and prevent disputes down the line.
If you don’t have a shareholders’ agreement in place or yours is in need of a refresh, schedule a complimentary discovery call with the team today.
Meet Mahitha Kumar:
Mahitha Kumar is a corporate and commercial lawyer admitted in New Zealand, as well as a chartered accountant with Chartered Accountants Australia and New Zealand. Her previous experience involves working at a top 10 New Zealand law firm, and in the transaction team at Deloitte, giving her rich experience in corporate structuring, M&A, fundraising, equity documentation and general commercial drafting and advisory.
Contact email:
mahitha.kumar@sumer.co.uk
