Shareholder Agreements

Shareholder agreements are a way to ensure that when setting up a business, nothing goes wrong in the future. It can be easy to assume that the trust between shareholders at the outset will be enough to ensure that your business plans run smoothly, and that creating a shareholder agreement may make it seem like you do not trust your new business partners. However, even the strongest of relationships can break down and it is wise to have something in place to ensure that if this occurs, you do not end up with nothing. If the relationship between partners does break down and no shareholder agreement is in place, you could face a costly legal dispute with regards to the business and its future.

Why is a shareholder agreement necessary?

A well written shareholder agreement will act as a safeguard against these types of scenarios, and will offer you and your partners more protection should the situation arise. Although you may never need to rely on the protection that a shareholder agreement can give you there is always the possibility that you may need it, and may business partners and shareholders have found themselves in a situation where a carefully considered shareholder agreement would have saved them a lot of time and legal costs.

What is a shareholder agreement?

A shareholder agreement is an agreement between all or some of the shareholders of a company, drafted with the purpose of protecting the shareholders’ investment and to establish a fair relationship between them. The agreement will set out the rights and obligations of the shareholders, regulate the sale of shares, set out how the company is to be run, describe how important decisions are to be made and provide protection for minority shareholders.

How will a shareholder agreement protect me as a minority shareholder?

A minority shareholder is someone owning less than 50% of the shares. Without a shareholder agreement in place they have little say in the running of the business, and the control usually lies with one or two shareholders. Shareholders of more than 75% can overrule provisions to protect minority shareholders via a special resolution, thus leaving the minority shareholders with no protection and little control. There are laws that will provide minority shareholders with protection in these situations, but they can be costly to enforce and may not result in the outcome that is desired.

How will a shareholder agreement protect me as a majority shareholder?

If as a majority shareholder you wish to sell your shares and a minority shareholder is not willing to agree to this, you can include a provision that will force the shareholder to sell their shares. This is commonly referred to as a ‘drag along’ provision and will allow you to realise your investment at the time that you feel is most appropriate. Obviously, if this provision is put in place, any pay-outs and price of the sale will have to be made fair to all shareholders including the minority ones.
Additional provisions may be included to ensure that minority shareholders do not pass on confidential information to rival companies or set up competing businesses. Provisions can also be made to ensure that all transfers of shares are to individuals that are agreed upon. This can prevent the transfer of shares to competitors and conversely prevent unhappy shareholders causing problems by being forced to stay.

When should a shareholder agreement be put in place?

Ideally, a shareholder agreement will be in place at the formation of the company and when you issue the first shares. At this point it is best if the shareholders are of a similar mind with regards to their expectations of the business.
It may be possible for you to delay the discussion of a shareholder’s agreement until the business is established. While this may seem sensible at the time, an appropriate opportunity to arrange a shareholder agreement may never occur and by this point the expectations and feelings of the shareholders may have diverged, which would make it far more difficult to come to an agreement.

What should be included in a shareholder agreement?

The terms of a shareholder agreement should reflect the level of shareholding and number of shareholders in your business. This is something that JMR Solicitors can advise you on, however the key provisions that should be considered are as follows:

• Issuing and transfer of shares
• Protections for holders of less than 50%
• Running of the company, including the appointment, removal and payment of directors; providing management information to shareholders and banking and financing arrangements for the company
• Payment of dividends
• Competition restrictions
• Procedure for dispute resolution