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Shareholders’ Agreements: An Overview
Matthew Fretten's latest article is a summary overview dealing with:
- What is a shareholders' agreement (in the context of private companies incorporated in England and Wales)?
- Why shareholders should seriously consider entering into a Shareholders’ Agreement?
- What should a Shareholders’ Agreement include?
What is a Shareholders’ Agreement?
A Shareholders’ Agreement is a written document between two or more shareholders in a private limited company.
It records the terms and conditions on which that company shall carry out business, and how the shareholders shall exercise their rights in relation to the company.
You can make the Shareholders Agreement as bespoke as you believe is appropriate to the particular relationships between the shareholders and the company concerned.
It can be designed to cater for:
Shareholder agreements for startups
Founders of a start-up or early stage business who have already subscribed for shares and invested in the company
Private Equity and VC Shareholder agreements
Private equity/venture capital/buy outs – subscription or investment by single or multiple investors
Shareholder agreements for Joint Ventures
Joint ventures – 50/50 shareholders or where there are majority and minority shareholders and to deal with cross border relationships
Why put a Shareholders’ Agreement in place?
A Shareholders’ Agreement is not a legal requirement, so why should you invest your time and money in coming to an agreement between shareholders?
Why need shareholder agreement?
At the beginning of a new business venture, it is often difficult to foresee a scenario in which the business founding “partners” (shareholders in the context of a company) would not be able to agree on decisions needed to take the company forward.
Unfortunately, disagreements do occur. Trying to agree the provisions that should apply if the shareholders and/or directors have already fallen out with one another is almost impossible.
It is easier and strongly recommended to formalise the approach that will be taken if the relationships concerned break down in an agreement at the outset, rather than to risk waiting until differences of opinion become entrenched.
Why are shareholder agreements important?
Listed below are some key reasons for entering into a formal written Shareholders’ Agreement:
Key features of a shareholder agreement
To regulate the way business between the shareholders is to be conducted, and to try ensure shareholders are treated fairly and that their rights are protected.
It allows shareholders to make decisions about what outside parties may become future shareholders.
It can provide that certain decisions of the board of directors (generally they run the day to day operations of the company) will require shareholder approval, particularly if there are directors who are not shareholders.
Do shareholder agreements need to be registered?
It is a private document and generally no requirement to file it at Companies House, therefore its content can be kept confidential.
Drag along provisons in shareholder agreements
A well-drafted shareholder agreement can provide safeguards for majority shareholders.
For instance: by including “drag along” provisions. These usually operate where an offer is received to buy all of the shares in a company and the majority shareholders wish to accept that offer.
The rights allow the majority to force the holders of the remaining shares to accept the offer on the same terms so that they do not scupper the deal.
Shareholder agreements and minority shareholders
Safeguards for minority shareholders, can be provided in a shareholder agreement.
For example: by reserving certain decisions, such as the ability for the company to issue further shares, which can only be made with the unanimous consent of all the shareholders.
Tag along provisions
“Tag along” provisions enable a minority shareholder to “tag on” to a majority shareholder in a share sale situation, where the majority attempt to sell only their shares rather than seeking to find a buyer for all the shareholders.
Right of first refusal in shareholder agreements
A shareholder agreement can provide a mechanism which, where one shareholder wishes to sell their shares, effectively gives the other shareholders (or the company, as the case may be) a “right of first refusal” over those shares.
This can be used to try and restrict who may or may not acquire shares in the company.
This can be a useful tool, particularly for small businesses that may wish for the initial shareholders to retain the shares, rather than allow external investors and unknown individuals to come in. After all, you have gone into business with your business partner for a reason.
Mandatory share transfers
Mandatory share transfers can be covered in a shareholder agreement. For instance, often shares in a company are held by the directors or key employees of the business.
If they were to resign or leave for whatever reason, you would more than likely want them to sell their shares, otherwise they could remain entitled to receive dividends that would be generated by the on-going shareholders hard work.
A mechanism can be included whereby a person’s shareholding is linked to their employment, so that if they were to leave they must offer their shares up for sale. Otherwise, there is no requirement for them to sell their shares if they cease to be employed by the business.
The agreement can go further and include a mechanism which sets different valuation mechanisms depending on the circumstances under which the relationship with the company comes to an end.
Non-compete clauses in shareholder agreements
You can include restriction provisions. In the event that a shareholder seeks to exit the company, the remaining shareholders may wish for restrictions to apply to the exiting shareholders’ ability to set up or work in a competing business.
These restrictions can be stricter than may exist in any employment contract and can be very valuable in protecting the interests of the company moving forward.
Related: Non-Compete Clauses and Post Termination Restrictions - How enforceable are they?
Dispute resolution in shareholder agreements
A shareholder agreement can include specific provisions for dealing with disputes. These may include at what stage there would be a referral to mediation, or who any arbitrator may be etc.
It can demonstrate stability for your business as it infers the shareholders (owners) have planned ahead in order that any dispute will be easily and swiftly dealt with.
This can be particularly important for banks and other creditors that may be looking to invest in the company.
Are shareholder agreements public?
Although the Shareholders Agreement is a private document and does not usually need to be filed at Companies House, if there are any provisions in the agreement which conflict with provisions in the company’s Articles of Association then the Articles will need to be amended to be consistent and work with the provisions of the agreement.
Therefore, the agreement should contain a provision whereby the shareholders and the company agree to have any such conflicting provisions in the Articles amended to fall in line with the agreement.
A shareholder agreement can also include provisions for shareholder breaches. Read our article on mitigating and tackling shareholder breaches here.
What should a Shareholders’ Agreement include?
Every shareholder agreement is bespoke, and drafting one well requires a lot of thought and considered discussion.
A shareholder agreement doesn’t have to include all the types of matters listed below; however this list should form a good starting point for discussions.
If you’d like to discuss your situation or requirements specifically, you can email me at ssillar@frettens.co.uk. Our initial discussion is always free of charge for new clients.
Shareholder agreements can include the following:
- set out the business of the company
- directors and management – director appointments and board meetings, including quorum required, casting vote, physical venue or other method (such as remote attendance by telephone or virtual online)
- finance for the company
- business plan – format and frequency
- preparation of management accounts
- shareholders’ meetings – quorum, venue etc.
- accounting – what accounts and financial information are the shareholders entitled to receive?
- company’s dividend policy
- transfer and allotments of shares
- restrictive covenants on shareholders
- deadlock provisions (see more detail below)
Deadlock provisions in shareholder agreements
Examples of deadlock in shareholder agreements:
- A quorum cannot be achieved at a meeting or a subsequent reconvened meeting
- A minority shareholder persistently exercises his/her/its right to veto a Reserved Matter (set out in a Schedule to the Shareholders’ Agreement) and a decision cannot therefore be reached
- A resolution in respect of a Reserved Matter is not passed and at a subsequent meeting a resolution is again not passed (or there is no quorum at the meeting).
In terms of Shareholders meetings, a deadlock situation could occur but will depend on the shareholdings and quorum requirement (where Reserved Matter require unanimity deadlock can’t occur).
In terms of Board of Director meetings, deadlock can arise where there is an equal number of director votes for and against and no casting vote is given to the director nominated as the Chairperson for the meeting concerned.
Shareholder agreement solicitors in Bournemouth, Christchurch, Poole and The New Forest
If you'd like to discuss shareholder agreements with the team, you can call us on 01202 499255 or fill out the form at the top of this page.
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