Having your own business and being your own boss is undoubtedly a dream-come-true for many people. For them, there is no greater rush than being able to call all the shots and not having to answer to anyone else.
When the stakes getting high, it makes sense to do everything you can to ensure the success and survival of your company. This is particularly important if you co-own your business with other people. If you put in all the work to make your dream come true, it would be a waste of time and effort if your business ended up failing due to a disagreement or conflict amongst shareholders.
Whilst it is not required by law, having a written shareholders’ agreement in place is something every business owner should consider. Whether you own a start-up, a small business, or a medium-sized to a large corporation, a shareholders’ agreement can go a long way towards protecting your investment and interests.
What Is a Shareholders’ Agreement?
A shareholders’ agreement is a written agreement between the shareholders or owners of a company. It is usually drawn up when the company is established and the shares are first distributed amongst the shareholders.
Besides regulating different aspects of the ownership of a business, a shareholders’ agreement can serve many other purposes. For example, it identifies who owns what part of the company, as well as who can make important business decisions. It also determines how the company is run, protects the shareholders’ investments, and informs them of their rights and obligations.
A shareholders agreement can be drafted in such a way that it fits the company’s specific needs and requirements. For instance, it can include terms and provisions to make it clear to everyone involved how the shares can be created and transferred.
How Having a Signed Shareholders’ Agreement Can Help Your Company
Of course, a shareholders’ agreement is probably not the first thing you will think about when trying to build your business, but it is still something you should prioritise and put in place whilst your company is still in its infancy. For instance, when circumstances change and opinions diverge amongst shareholders as time goes by, if a shareholders’ agreement is not in place, your business could potentially suffer damaging consequences.
Here are the reasons why it is important to have a signed shareholders’ agreement as soon as possible.
- To prevent legal disputes
Disputes can still arise even if your investors have the best intentions. For instance, as people have differing opinions, your shareholders or co-owners may have conflicting ideas on how to run the company. When differences in opinions escalate, this can affect your daily business operations. In fact, it could take everyone’s attention away from the more important matter of ensuring that your company is successful.
In the majority of cases, the law of the land is not much of a help when it comes to settling company disputes. Even if the company is successful, sometimes the best way to settle disagreements is to dissolve the business altogether.
Having a shareholders’ agreement in place can prevent this type of scenario from happening. Terms can be included to specifically address any future disputes without resorting to harsh measures such as dissolving the company. For example, you may incorporate a provision whereby a shareholder will be required to sell their shares if they are against a particular rule, or alternatively, you can ask for a vote to be held whenever you need to make a decision.
- To restrict the unwanted sales or transfer of shares
If you don’t want a piece of your company being sold to any Tom, Dick, or Harry without your knowledge or consent, a shareholders’ agreement can help set your mind at rest. For example, you could include a “right of first refusal” clause into the agreement. In this way, a shareholder can only sell or transfer their shares to a third party after first offering them to existing shareholders and being turned down.
This provision can be particularly useful if you own a small business and you don’t want unknown investors or individuals being involved. It also helps ensure that your initial business partners will be with the company until they decide to leave.
- To provide protection for both minority and majority shareholders
Company shareholders should be able to feel safe and secure with your company, regardless of the number of shares they own, thereby ensuring their continued support and investment. This is why a shareholders’ agreement is essential as it offers protection for both minority and majority shareholders.
A shareholders’ agreement protects minority shareholders (those who own less than 50% of the company shares) by ensuring that they are not treated unfairly or outvoted. For example, let’s say the majority shareholders wish to modify the company’s articles of association. A shareholders’ agreement can be written in such a way that would allow minority shareholders to veto or reverse this move if they think it would be harmful to the company.
Similarly, a shareholders’ agreement also provides the majority shareholders with an “exit” strategy. Here’s an example. Let’s just suppose that the majority shareholders are considering selling their shares to a third party. However, the latter would only buy when 100% of the company shares are being sold. A “drag along” provision would allow the majority shareholders to achieve their goal by “dragging along” or forcing the minority shareholders to sell their shares to that third party under the same terms.
- To facilitate quick and inexpensive resolution of disputes
Whilst a shareholders’ agreement can help prevent disputes, it cannot stop them completely. When a disagreement does occur, the only logical step is to make sure it is resolved quickly and efficiently.
Specific provisions can be included in the shareholders’ agreement to ensure that disputes do not reach the point where legal action is deemed necessary. These provisions may include the clarification when mediation would be required and a determination of who is qualified to act as an arbitrator.
- To prevent company deadlock
Disputes can occur amongst shareholders and also with company directors. And like all disagreements, they can bring your business operations to a stand-still. Moreover, they could become even more problematic if a consensus or majority cannot be reached.
A shareholders’ agreement will help prevent a company deadlock if its terms stipulate what should be done if an agreement cannot be reached between disagreeing parties. For example, a provision can allow the parties to buy each other out. This will help ensure that no business opportunities are missed because the directors and/or shareholders’ attention is elsewhere.
- To protect investors
When people invest in your company, they are taking a big risk because they may never recover their money. As such, you must make them feel safe and confident about the stability of your business so they will continue injecting funds into your company.
Provisions in the shareholders’ agreement can help bolster investor confidence and ensure that financiers are protected. For example, by using the terms laid done in the agreement, investors can insist that certain business goals are met within a specific period of time. If these objectives are not achieved, then they can force management to take the necessary action or even control the company themselves.
- To ensure that the company is being managed efficiently
As discussed earlier, one of the key functions of a shareholders’ agreement is to determine how the company is managed. In most cases, the board of directors runs the company, not the shareholders. Accordingly, a shareholders’ agreement is required to keep the board of directors in check, especially if there are directors who are not shareholders.
The shareholders’ agreement can limit what the board of directors can and cannot do with regards to running the company. Provisions can also be included to ensure that the directors would take responsibility if they made a decision that damages the business.
- To provide shareholders with an exit strategy
Eventually, shareholders may wish to leave the company. This could be for a variety of reasons such as the desire to retire, a disagreement with another shareholder, or simply because they no longer want to be involved with the business. A shareholders’ agreement can help facilitate the smooth exit of shareholders who want to leave the company.
For example, a cross option clause may be included to allow a shareholder to make an offer to buy the shares of a shareholder who wants to leave. On the other hand, drag and tag clauses will force minority shareholders to sell their shares so that all the shareholders can finally leave and cash in on their investment.
Whist it’s not mandatory, drafting a shareholders’ agreement is something you should consider when establishing a company with business partners. Because you cannot precisely predict what will happen in the future, it is important to have safeguards in place to ensure the success and continued growth of your business.
If you need help drafting a shareholders’ agreement for your business or start-up, our team at BEB Contract and Legal Services will be happy to help. Because it is our mission to protect and promote your business, we will do our best to offer you the support you need. Contact us today for your free consultation.