For the shareholders, it outlines what their rights and obligations are and how the shares can be distributed or sold. For the business, it describes how the company will be operated and how significant decisions will be made.

A solid agreement will:

• set out the shareholders’ rights and obligations;
• regulate the sale of shares in the company;
• describe how the company is going to be run;
• provide an element of protection for minority shareholders and the company; and
• define how important decisions are to be made.

What are the benefits of having a shareholder’s agreement?

When setting up a company with family or friends it is easy to assume that nothing can go wrong in the future. You might assume that as you trust one another you do not need to put in place something like a shareholders’ agreement.

Hopefully nothing will go wrong in the future. However, if the worst should happen, you could then end up with nothing, or a costly and acrimonious legal dispute related to the business. Company law will help to some extent, but a fully considered and well drafted shareholders’ agreement can act as a safeguard and give shareholders more protection against these types of scenario.

Owning and running a business alongside a number of other parties, who all have their own opinions and views on the direction and running of the company, can prove extremely difficult. A shareholders’ agreement can protect both the business enterprise and your own investment in the company, and confront any concerns held by any parties head on.

When should a shareholders' agreement be put in place?

Usually, it is best to put a shareholders’ agreement in place when the company is formed and issue the first shares. In fact, it can be a positive exercise to ensure there is common understanding of shareholders’ expectations of the business.

In these early stages, shareholders should have similar hopes for the company. If any major differences are identified at this early stage, it could send a warning to fellow shareholders.

In some cases, investors choose to defer discussing shareholder agreements to a later date, preferring to focus their time on establishing the business. Although they may have every intention to return to this important matter at a later date, the longer it is left, the more likely it is to be forgotten.

What should be included in a shareholders’ agreement?

The contents and provisions vary in different cases. The details depend on the nature of the entity, the class of shares, and many other factors. There are basic components that every shareholder’s agreement contains. Examples include the number of shares issued, the issuance date, and the percentage of ownership of shareholders.

Many shareholders’ agreements also include competition restrictions and a deed of adherence. The competition and restrictive covenants prevent a shareholder from competing with the company. For example, they are not allowed to work with a competitor firm in the same geographical area. It is important, as it protects the company and the interests of other shareholders. A deed of adherence ensures new shareholders adhere to the pre-existing shareholders’ agreement.

The key provisions, however, that should be considered for inclusion are those relating to:

• Issuing shares and transferring shares – including provisions to prevent unwanted third parties acquiring shares, what happens to shares on the death of a shareholder and how a shareholder can sell shares.
• Including any tag along or drag along provisions.
• Providing some protection to holders of less than 50% of the shares – including requiring certain decisions to be agreed by all shareholders.
• Paying dividends.
• Running the company – including appointing, removing and paying directors, frequency of board meetings, deciding on the company’s business, making large capital outlays, providing management information to shareholders, banking arrangements and financing the company.
• Competition restrictions.
• Dispute resolution procedures.
• Amendment and Termination process

How will a shareholders’ agreement benefit a minority shareholder?

Without a shareholders’ agreement, a minority shareholder (one owning less than 50% of the shares) will generally on their own have little control or say in the running of the company.

Companies are generally run by majority decision and even if the articles of association include provisions that protect the minority these can be changed via special resolution by holders of 75% of the voting shares. 

Being a minority shareholder and having a shareholders’ agreement that includes the requirement for all shareholders to approve certain decisions ensures that you have a say in the important decisions that impact the company.

This could be decisions on:

• the issue of new shares;
• appointment or removal of directors;
• taking on new borrowings; or
• changing the main trade.

As long as one shareholder disagrees, the decision will not be approved, regardless of how much that shareholder owns in the company. However, if all decisions have to be unanimous this could cause problems and ultimately prevent your company carrying out its business.

A minority shareholder may want a provision included that if someone is willing to buy the shares of a majority shareholder, that a shareholder can only sell the shares if the same offer is made to all shareholders including minority shareholders. This is often referred to as a “tag along” provision. This should then ensure that minority shareholders receive the same return on their investment as the other shareholders.

How will a shareholders’ agreement help a majority shareholder?

If a majority shareholder wants to sell their shares but a minority shareholder is unwilling to agree, then including a provision forcing that shareholder to sell their shares is important. This is often referred to as a “drag along” provision. This will then allow the majority shareholder to realise their investment at a time and price that they feel is appropriate. Obviously the price and other payments for the sale will need to be fair for all shareholders, including the minority shareholders.

In addition, a majority shareholder would want to prevent minority shareholders passing on confidential company information to competitors or setting up rival businesses, each of which can be included as a provision within the agreement.

Another concern is where a minority shareholders could transfer their shares to anyone. This could cause problems for the other shareholders, especially if the sale is to a competitor or someone else the other shareholders do not want involved with the company. 

To overcome these problems, shareholders’ agreements will often include rules around share sales and transfers – who shares can be transferred to, on what terms and at what price.

How will a shareholders’ agreement help where two shareholders each own 50% of the shares?

Where you and your fellow shareholder own 50% each in a company it is important to have a dispute resolution provision included. Without an agreed procedure to resolve disputes, no decisions can be made leaving the company unable to operate.

How do I put a shareholders' agreement in place?

A shareholders’ agreement setting out the rights and obligations of shareholders is a binding legal contract between the shareholders and the company.

A well-drafted shareholders’ agreement can give members a say in the running of the company and prevent misunderstandings and disagreements from arising in the future. By asking an expert corporate solicitor to draw up a shareholders’ agreement, you can be sure that it will be tailored to the unique requirements of your company. 

For more information or recommendations on legal advice, please contact us.