Shareholder agreements are contracts between some or all of the shareholders of a company in which they agree to regulate the exercise of some of their rights as shareholders.
A shareholders agreement is a supplement to the company’s constitution and will generally regulate shareholders rights and regulate the management and operation policy of the company.
Potential Problems In The Absence Of A Shareholders Agreement
1) The rights of minority shareholders are limited under the company’s constitution.
Minority shareholders must rely on the Courts for assistance if they have a complaint about the way in which a company is conducted. The Courts only provide help in limited circumstances and in any event at great cost.
2) What happens if a shareholder wishes to sell shares upon –
- Any other reason
Company constitutions are usually silent on detail with respect to these issues.
Unless these events are adequately covered in a shareholders agreement, the only potential purchasers are the other shareholders. If they don’t want the shares, (or aren’t prepared to pay full value for them) then the shares remain unsold or are sold at far less than their true value.
Death of a shareholder can result in the shares being worthless to the deceased’s estate because there is no purchaser. On the other hand, the beneficiaries who inherit the shares (eg. the deceased’s spouse) may wish to become actively involved in the company against the wishes of the other shareholders.
Benefit Of A Shareholder Agreement
Shareholders agreements can bind the shareholders to protect share value and control who becomes a future shareholder, for example –
- Buy sell agreements: an agreement can provide that upon a shareholder wishing to sell out, existing shareholders have an option or first right to buy shares at a re-determined price or formula. If they don’t wish to purchase the shares, the agreement can set minimum requirements for an incoming buyer, for example that the party is acceptable to the remaining shareholders.
- Compulsory buy agreements: an agreement can provide that upon a shareholder retiring, being disabled and/or dying the remaining shareholders must compulsorily buy the shares. Funding such buy outs can be planned and savings plans or borrowings put into place, whilst in the event of death and disability, the buy outs can be funded through the provision of appropriate insurances.
- Compulsory sell agreements: an agreement can provide that upon a shareholder breaching the shareholders agreement, becoming insolvent or on the happening of other specified events, the non defaulting shareholders can elect to compulsorily acquire shares from a defaulting shareholder and eject that shareholder. The agreement can predetermine the price or formula for determination of the sale price. The price payable in the event of breach of the agreement may be less than that payable in other circumstances and generally discounted from the market value.
Matters Not Regulated By The Company Constitution
A shareholders agreement can include provisions regulating –
- Shareholder exit strategies
- Shareholder warranties
- Confidentiality agreements
- Restraint of trade for directors and/or shareholders
- Agreement specifying or limiting business activities of the company
- A shareholder’s right to appoint directors and the number of directors
- Director’s meeting procedures
- Minimum budgeting, business plan, accounting and management reporting requirements of directors and management
- Agreement concerning financing policy
- Dividend distribution policy
- Personal rights/obligations of shareholders
- Documentation of shareholders/directors loans and the right to payment of interest
- Policies, management and procedures
- Protection of minority shareholder interests
A shareholder agreement should cover all aspects of the relationship and the mechanics by which the company is to be operated. The agreement should also protect the respective interests of the parties to the agreement and outline dispute resolution provisions in the event of any disagreement between the parties.