If you wish to invest in or perhaps build your own company, there are certain legal documents you need to familiarise yourself with to ensure that your business will be built on solid foundations and that your interests are well-protected. Getting lost in legal and company jargon can happen quite easily at first. But, by doing some homework, you will soon be able to navigate your way through these documents and obtain the necessary protection your company needs.
Today, we are going to discuss the three most commonly confused legal documents required by businesses of all sizes: the articles of association, the shareholders’ agreement and the investors’ agreement. Understanding what they are and how they differ from one another will enable you to ensure that your company has exactly what it needs in terms of legal documents.
What are the Articles of Association?
Often known as the “articles”, the articles of association manage and oversee the internal affairs of a company or corporation. Put simply, they lay out the rules and regulations regarding how the company should be governed, owned and managed. At the same time, they serve as a contract between each shareholder, as well as between the shareholders and the company itself. The articles are usually contained in a single document and divided into numbered paragraphs.
For private companies limited by shares, the articles of association may come in the form of the statutory default “model articles” from Company House or “model articles with amendments”. In some cases, they may also be drafted as “special articles” which are tailored according to a company’s specific requirements.
Regardless of their form, the “articles” govern a variety of areas, including:
- Share classes and the rights attached to each of them
- The procedures involved in the issuance, transfer and buying back of shares
- General and board meeting procedures
- Appointment and removal of company directors
- Rights and responsibilities of directors
- Drag along rights
- Tag along rights
How Do the Articles of Association Differ from the Shareholders’ and Investors’ Agreements?
The articles of association have particular qualities that make them unique and quite different from the investors’ and shareholders’ agreements. Let’s take a look at some of them.
Are they are a public document?
The articles of association are a public document. Therefore, their content is a matter of public record.
Should they comply with the law?
Unlike shareholders’ agreements, drafting your company’s articles of association is required by law and they should be filed with Companies House. If the articles are drawn up from scratch to accommodate your company’s requirements, you must ensure that they comply with the provisions of the Companies Act 2006. For this reason, it is strongly recommended that you seek legal advice.
Whilst the articles are compulsory, they still provide plenty of room for manoeuvrability. This means you can run your company as you see fit. However, bear in mind that there are certain provisions of the Companies Act that should not be excluded from the articles.
Who is bound by the articles of association?
It is mandatory for all companies formed under the Companies Act 2006 to have articles of association in place.
How and when can the articles be changed?
The articles of association can be changed or “entrenched” only under certain circumstances, such as:
- When a key shareholder enters or exits the company
- When a venture capital company wants to invest
- When you want to offer an employee a share option scheme
Entrenched articles can be made only when the company is formed or at a later date. These changes can only be carried out with the approval of all shareholders. Meanwhile, the Companies Act 2006 requires that the shareholders first pass a special resolution before modifying the “non-entrenched” articles.
What is a Shareholders’ Agreement?
Shareholders’ agreements are similar to the articles of association as they also outline how the company should be run and managed, as well as how the shareholders should conduct themselves. The only difference is that they offer additional provisions designed to improve the relationships between the shareholders. In other words, the shareholders’ agreement is a more specific and detailed version of the articles and is created more for the benefit of the shareholders, not the company.
A shareholders’ agreement usually covers the following areas:
- Dividend policy
- Protecting minority shareholders
- Protecting majority shareholders
- Dispute resolution
- Buying and selling shares
- Issuance and transfer of shares
- Rights and responsibilities of company directors
- Decision-making processes
- Privacy and confidentiality
How Does a Shareholders’ Agreement Differ from the Articles and an Investors’ Agreement?
A shareholders’ agreement has various characteristics that make it different from both the articles of association and an investors’ agreement.
Is it mandatory?
Unlike the articles of association, drafting a shareholders’ agreement is not mandatory. This means you can set up and run a company without having this document in place. However, many legal and business experts advise against such a practice because it can be difficult and time-consuming to resolve conflicts and other issues without the backing of this agreement.
Is it a public document?
Because a shareholders’ agreement is essentially a private contract between the shareholders of a company, its contents are not to be made public unless required.
How can it be changed?
Since a shareholders’ agreement is not required by law, it is not regulated by the Companies Act 2006. As a result, there is no legally prescribed procedure for altering or modifying its provisions. In most cases, a shareholders’ agreement is altered with the consent of all shareholders.
Who is bound by the shareholders’ agreement?
As the name implies, a shareholders’ agreement applies to the shareholders who signed the document when it was first drafted.
What is an Investors’ Agreement?
Similar to a shareholders’ agreement, an investors’ agreement governs the relationship between the shareholders. However, what makes it different is that the investors’ agreement is usually used when “new money” is being injected into the company. In addition, it is designed to protect and reassure investors who do not wish to be involved in the day-to-day management of the business.
Investors’ agreements often have more extensive provisions that cover:
- Warranties about different aspects of the company
- Tables that set the company’s share capital before and after investment
- How investments are structured
Unique Components of an Investors’ Agreement
An investors’ agreement contains three unique clauses: the adherence clause, investment tranches and investment warranties.
The adherence clause requires late or new investors to comply with the terms of the investors’ agreement. When they sign this clause, the new investor or shareholder is required to comply with the existing rules and provisions and is treated as if they were an original signatory to the agreement.
Investment tranches allow investors to invest in the company and make payments over time, as opposed to offering the investment funds in one go. For example, in start-up companies, payments are often made at important milestones such as when a new product is being developed or when revenue targets are being met.
As the name implies, investment warranties guarantee that the statements made by the company are true and accurate at the time of the investment. These warranties may be related to the company’s financial and legal status, assets, ownership structure and operational characteristics.
How Does an Investors’ Agreement Differ from the Articles and a Shareholders’ Agreement?
Besides its unique clauses, an investors’ agreement has two distinct qualities that cause it to differ from the articles of association and a shareholders’ agreement.
Who is bound by the investors’ agreement?
An individual does not necessarily need to be a new shareholder to be bound by the investors’ agreement. As long as they are an existing shareholder or an outside investor, the terms of the investors’ agreement can apply to them.
What are the exceptions found in the investors’ agreement?
Only the investors’ agreement contains provisions regarding investor rights, which can be expedited by drafting an investor rights agreement between a venture capitalist and the company’s shareholders. The rights granted to an investor include the right to receive corporate reports, the right of first refusal and the right to require the company to register its stocks with the London Stock Exchange as a part of an initial public offering.
Securing the necessary legal documents is essential to the legitimacy and eventual success of any business. This is why it helps to understand the similarities and differences between the articles of association, a shareholders’ agreement and an investors’ agreement. This will enable you to determine which documents are more applicable to your company, ensuring that your business and your interests are secured and well-protected.
Do you need help drafting these legal documents? Speak to BEB today. We can draw up a shareholders’ agreement to suit your exact requirements.