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Why should I... Enter into a Shareholders Agreement?

View profile for Matthew Fretten
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Whilst there is no legal requirement to have a shareholders agreement, it is a good idea to have one in place. A shareholders agreement is a contract made between the shareholders of the company to govern their relationship going forward. It does not have to be entered into on the formation of the company but can be entered into at any time. This article sets out why you should enter into a shareholders agreement, and what the agreement might include.

To make you think

One of the main reasons to enter into a shareholders agreement is to force the shareholders to think about what their rights ought to be between each other and the company at an early stage, and to agree how the company should be managed going forward. You may be surprised when you actually sit down to discuss the agreement that different shareholders have different opinions on points that you thought seemed obvious. It is much better to have any debates as to the running of the company at the outset when there is much less to lose.

In situations of deadlock

If there are an equal number of shareholders holding an equal number of shares you may find yourselves in a deadlock situation where the same number of shareholders vote for and against a proposal. Whilst the best way to overcome this is obviously to discuss the issue and try to reach agreement, this will not always be possible and it is good to have an agreed method by which to resolve the dispute.

When disputes occur

If a shareholders agreement is in place under which you have agreed how the company will be managed, disputes are hopefully less likely to occur. If things do go wrong and you do not have a shareholders agreement in place you will have to rely on the provisions of the Companies Act 2006 which may be inappropriate or inadequate for your specific requirements. A shareholders agreement allows you to amend this default position.

To exit the company

Sometimes things simply do not work out, or personal reasons dictate that your continued involvement in the company is no longer possible. If this is the case it is good to have a formal exit route in place under which your shares can be transferred and you are entitled to receive fair market value for them. Specific exit provisions may also assist with removing shareholders in a set list of situations e.g. death, mental illness, or bankruptcy.

What the agreement might cover

It is important to note that unlike most company documents, a shareholders agreement is a private agreement between the shareholders and does not have to be made available for the public to see. There are also no legal requirements as to the contents of a shareholders agreement. Some of the issues which a shareholders agreement might cover include:-

  • Share rights

      You will want to consider whether there will only be one class of share in the company or whether there will be several classes of share with different rights attaching to them. Rights to think about include the right to vote, the right to be paid a dividend, and capital and pre-emption rights.

  • Share transfer provisions

      Normally the shareholders want to have first refusal to purchase any exiting shareholder’s shares to prevent having to share their company with someone    that they may not know or like. It is a good idea to include a specific mechanism by which the shares will be valued, and also trigger events where a shareholder will be obliged to transfer their shares.

  • Minority protection rights

      By including such rights shareholders can prevent certain material decisions being made unless a set percentage of shareholders agree. Where decisions      are really important it may be that all the shareholders are required to agree before that decision can be made.

  • Restrictive Covenants

      A shareholders agreement may contain restrictions preventing a    shareholder from competing against the company both whilst they are a   shareholder and for an agreed period following them ceasing to be a shareholder. This prevents a shareholder leaving the company and immediately setting up in competition stealing customers and suppliers.

  • Financing the company and giving guarantees

      It should be agreed when shareholders are required to invest further monies in the company (if at all) and who may be required to personally guarantee          any monies being lent to the company. A common agreement is agreeing to be responsible for any such guarantee in the proportions in which the shareholders hold shares in the company. If loans have been made to the company by shareholders, the shareholders agreement could also deal with the repayment of such loans.

  • Dividends

      Shareholders may wish to agree when dividends will be payable and what level of the companies profits (if it has sufficient distributable reserves)           should be paid out by way of dividends.

  • Sale of the company

      A third party may not wish to purchase shares in the company unless he is able to purchase them all. To the same extent a minority shareholder may not want to remain a minority shareholder in a company if the majority shareholder changes. A shareholders agreement can therefore include provisions that if an offer is made to a majority shareholder and they wish to accept the offer they can “drag along” a minority shareholder and force them to sell their shares or, if the minority shareholder also wishes to sell their shares they can “tag along” with the majority shareholder and sell their    shares as well.

  • Company formalities

      The agreement could set out certain formalities e.g. how often shareholder meetings will take place and the necessary quorum of any such meetings etc.

  • Deadlock

      If there are an equal number of shareholders holding the same number of shares you may wish to include a deadlock mechanism helping you to resolve    any deadlock. This may include having a mechanism whereby a buyout of one or more shareholders can be triggered where a resolution cannot be reached.

  • The professional team

      You may want to agree on the company’s bank, accountants, solicitor or any other professional advisers and set this out in the agreement.

 

This list is not exhaustive and what your shareholders agreement contains will very much depend on your specific company and what has been agreed between the shareholders. Appropriate legal advice should, of course, be obtained.

Give us a call to discuss this or ask a question about whether a shareholders agreement might be of benefit to you and your partners.

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